Beyond the dividend yield wave

Fund managers and individual investors will need a strong sense of direction and a clear strategy given the current investing environment

In all likelihood, come mid-February most of us with positions in the local stock market will be riding atop a 'dividend yield' wave, soaring near its highest point, and some ill-advised investors will breathe a sigh of relief that the worst is behind us and that there is nowhere to go but up. However, come mid-March the wave would have dragged us back to shore, right where we started a couple of months ago, and the same ill-advised investors would wonder where it went downhill. The practiced investor, however, would have recognised this anomaly in time to reap a profit.

We have come to learn that the market displays this trend. Where we go from there is a large unknown and is dependent on many factors - some that can be predicted with a certain degree of confidence, and many that are clouded in a thick haze so as to preclude any meaningful assumption on what they will look like in a couple of months' time. The natural reaction in the face of such uncertainty is risk avoidance. However, portfolio management theory dictates at least some allocation to equity.

Fund managers and individual investors alike will have to muster up the courage to wade back into the murky waters, but not without the support they need to keep them afloat. They need a strong sense of direction and a strategy that makes sense given the current investing environment. They need the insight to spot undertows as they form and the agility to respond to unforeseen events. This may help keep their heads above water in the coming year.

However, before we leave the shore, let us assess the fundamentals. On a macro level, most indicators foretell positive economic growth in Oman suggesting that we may be headed northbound along the 'early uptrend' portion of the business cycle. The government is continuing unabated with its spending spree expecting to pump RO10bn into the economy this year - roughly 40 per cent of its 2010 nominal GDP - with ample reserves to dip into if need be. A comforting fact is that despite budget overruns Oman racked up a budget surplus of RO2.15bn over the first ten months of 2011.

So the government understands that this is not the time to be frugal. On the level of the average Omani person, just recently employed or elated at the prospect of a higher salary - thanks to both public and private sector job creation efforts - frugality may not be in season either. As this income effect spreads throughout the population, consumer spending is likely to rise, providing another impetus for growth.

Two more economic growth drivers remain: business spending and net exports. Both prove to be more difficult to predict and pose the greatest source of uncertainty to our economic outlook. The scarcity of officially published business confidence indexes serves to compound this problem, but we can make do with what we do know about key indicators.

Banking sector credit to the private sector grew at eight per cent over the first nine months of 2011, double the rate witnessed over the same period a year earlier. Headline inflation remained steady at around 3.7 per cent and merchandise imports and exports grew by 20 per cent and 19 per cent, respectively, suggesting an improvement in demand for goods and services.

However, this assumption should be taken with a degree of caution as a part of this increase is attributed to rising prices, the effect of which cannot be extracted as Oman does not publish foreign trade data in real terms. Nonetheless, these factors taken in combination indicate that the most probable direction of change in business confidence is upwards.

What happens to our net exports over the year will be a result of the interplay of many opposing forces, most out of our control. There could be significant negative repercussions impacting many asset classes in the event that China's growth slows this year or America falls back into a recession or Europe's financial system freezes. Such events could wreak havoc on oil markets, currency markets and equities, and virtually all asset classes would be affected.

The good news is that Oman has little exposure to and dependence on banks in troubled European nations, and even in terms of foreign trade, the EU is not one of Oman's major trading partners. However, the impact of a declining Euro on Oman's competitiveness in the non-oil export market should not be ignored.

Keeping aside what is to become of the ever-turbulent global scenario and its impact on oil, our economy's bread and butter, the outlook for Oman in 2012 looks to be much the same as last year. It is likely that inflation may ease as commodity prices stabilize and the government subsidises key sectors, stifling prices if they threaten to rise. Official real growth estimates for the coming year are in the range of 4-5 per cent.

So we have tested the waters, got a sense of what the investment environment is likely to look like in the months ahead. What should follow is an assessment of what route to take and where to allocate our resources. Based on recent performance, we should tread carefully. Corporate earnings of MSM 30 index stocks have been mixed, with overall third quarter earnings falling four per cent year on year. Looking ahead, we expect modest growth for 2012 but with a large degree of disparity in sector-specific earnings forecasts.

With business confidence on the rise, an oversupply of sturdy retail deposits and ample liquidity, Oman's banking sector offers potential for earnings growth going forward, driven by more aggressive lending. We expect credit growth in the range of 10-12 per cent in 2012. The engineering and contracting sector will undoubtedly be a prime beneficiary of the government's ambitious infrastructure development plans over the coming years, but stiff competition from lower-cost contractors is likely to continue pressuring margins in the sector, dampening profitability prospects.

Amid declining profitability, cement producers may have to seek strategic acquisitions to achieve the economies of scale necessary to compete with regional producers who continue to dump cement in Oman at significantly lower prices. Much is the case with industrial manufacturers, struggling to maintain their share of the market amid stringent competition and pricing pressure. The industrial sector also had to bear the brunt of the increase in minimum wage, driving labour costs higher and squeezing profit margins.

Even after mapping out the investment horizon and deciding on a fitting strategy, many will remain reluctant to brave the choppy waters, to make new allocations or change the ones that have already been made, especially when only a few traders are in sight. The average daily trading volume on the local stock market fell 15 per cent in 2011 in continuation of a declining trend witnessed over the past couple of years.

Stock market rallies or dips amid thin volumes are often perceived as a harbinger of future volatility. In such a case, traders opt to stay out of the market for fear of illiquidity and high transaction costs and investors opt to ride the ripples for fear of regret. Nonetheless, we should all learn to sail the waters whether we prefer to stay close to shore with smaller and safer equity allocations or choose to wade deeper with larger or more risky holdings


Beyond the dividend yield wave
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