Saudi Arabia has improved its place on the world stage

Saudi Arabia was at the centre of two of the major market developments of last week. Sensitive to investors, it won the approval of MSCI to be included in its Emerging Market index, while sensitive to consumers it led the Opec negotiations – which resulted in an agreement to raise oil output and thereby limit price rises.

Together, these illustrate Saudi Arabia’s determination to widen its global appeal and relevance to investors beyond the oil sector, while at the same time to not lose influence over the resource that still drives most of its economic activity.

The inclusion of Saudi Arabia in the MSCI EM index marks the culmination of a series of measures over the last few years to open up financial markets for foreign investors. MSCI said that the decision follows regulatory and operational enhancements that increased the access to international institutional investors.

The desire to attract inward investment intensified after the sharp decline in oil prices from 2014 to 2017, which focused greater attention on the need to diversify the kingdom’s economy away from oil and increase non-oil sector growth.

Opening up financial markets for foreign portfolio investment is part of a broader plan to attract funding for economic diversification efforts.

The benefits of increased inflows from foreign institutional investors are obvious. In anticipation of this decision, the Tadawul has enjoyed sustained inflows from foreign investors in 2018.

The total year-to-date inflows from foreign institutional investors stands at $3.4 billion (Dh12.49bn), with $49 million last week alone – its third weekly record this year.

This translates into roughly 8 per cent of total inflows into broad emerging market equity funds so far this calendar year.

The inclusion of Saudi equities into the MSCI EM index could also trigger passive inflows of about $10bn. To put that into context, the average daily value traded on the Tadawul in 2018 in first five months of the year is $1.1bn. It is also worth highlighting that as of June 2017, nearly $1.7 trillion of assets/funds tracked the MSCI EM index.

However, the intangible benefits of attracting another set of sophisticated investors should result in improved standards of financial disclosure and corporate governance. It is also possible that there will be a positive impact of Saudi Arabia’s inclusion on the broader region given the increased weightage of the overall region in the broader EM index.

The Opec decision was not exactly what the market had anticipated, but the meeting probably ended in a more constructive atmosphere than was widely predicted.

The producers’ bloc official statement called for members to return to 100 per cent compliance with the production cut agreement that has been in place since January 2017. As per the terms of the original deal Opec countries were meant to cut output by 1.2 million barrels per day, topped up to 1.8m bpd with the addition of other countries like Russia.

In practise though, Opec has cut far deeper than that, achieving cuts of nearly 2m bpd on its own. Over-curbing by Saudi and unplanned outages from countries like Venezuela and Angola have contributed to this shortage.

So the ambition appears to be to increase output by 1 million barrels collectively, but whether they can do that remains to be seen.

Only Saudi Arabia possesses significant spare capacity that it can bring onto markets quickly and for a sustained time. Most other members of Opec are producing close to capacity and thus will be constrained from hitting their allocated target.

Oil markets took the news of the Opec deal relatively positively as it has been widely interpreted as being enough to keep markets close to balance but not significant enough to cause stock builds again in the second half of the year.

Opec kept its statement intentionally vague as to the exact scale of production increase. This was likely a political compromise between Saudi Arabia and Iran, as the latter is unwilling to voluntarily cede market share at a time when it faces US sanctions. All Opec members agreed to the original deal, making it the least poor option for all parties to endorse once again.

Opening up financial markets for foreign portfolio investment is part of a broader plan for economic diversification efforts