FAST FINANCE

China announced that it would provide $10 billion in infrastructure loans to Southeast Asian countries and $560 million in loan to low-income ASEAN nations. In doing so, it paves the way for the Asian Infrastructure Investment Bank which is expected to launch at the end of the year and also act as a counterweight to the US-led Trans Pacific Partnership which notably does not include China. With prior indications that the AIIB will consider using sukuk to raise capital (see interview with WIBC Keynote Speaker Manjiang Cheng below), China could signal its (and by extension the AIIB’s) openness to Islamic finance by structuring some of the $10 billion using Shariah compliant structures.

Hong Kong benefits from RMB internationalization & could facilitate China-related capital market development including sukuk

Finance Forward, the intelligence platform for ME Global Advisors interviewed Ms. Manjiang Cheng, Chief Economist at Bank of China International (BOCI) about the prospects for China’s economy in the coming year and how it impacts other emerging markets. Ms. Cheng will be a keynote speaker on December 3rd at WIBC 2015.

Finance Forward (FF): Will there continue to be a managed float for the renminbi (RMB) versus the dollar and how much will that be adjustment be based on strength or weakness in China’s economy?

Manjiang Cheng (MC): China may continue to increase the flexibility of renminbi exchange rate to expand the room for further policy easing as the economy continues to slow down. We expect a mild depreciation of renminbi at 3%-5% against US dollar in 2016.

FF: Does the rise of bitcoin, which has been used by many Chinese to move money out of China, undermine the currency controls and do you expect there will be more convertibility between Yuan and foreign currencies?

MC: The authorities have tightened capital controls in the short term to stabilize the renminbi exchange rate. However, we expect more convertibility between the Yuan and foreign currencies over the medium and long term perspective. China shows a firm commitment to push forward capital account convertibility for renminbi.

FF: How prepared are Chinese banks for more currency liberalization and how will it impact their expansion outside of China?

MC: Chinese banks accelerate the development of overseas business in recent few years. The currency liberalization may bring banks with both risks and opportunities. It will further boost the expansion of overseas business for banks.

FF: What is your forecast for China’s growth trajectory over the next year and how much of the growth will come from domestic consumption growth versus government capital investment?

MC: The government investment is expected to account for about 20% in total fixed asset investment (FAI).

FF: How much will the growth forecast in the coming year affect the demand by China for imports of base materials (iron, nickel, copper) and commodities (oil and natural gas)?

MC: The continued slowdown in fixed asset investment and heavy industrial output will further restrain China’s demand for base materials and commodities.

FF: Do you think that the One Belt – One Road initiative will result in more capital markets activity, particularly fixed income markets (both in RMB and other currencies)?  With a rising level of trade between Muslim majority countries and China, how much of the One Belt One road initiatives will include Islamic financing?

MC: Supported by the dividends of reforms, an acceleration in the infrastructure construction in OBOR-covered areas will propel both the volume growth and product innovation of Asia-Pacific capital markets, while also stoking the development of Asian bond markets, including Hong Kong’s renminbi (RMB) bond market.

FF: The Asian Infrastructure Investment Bank being promoted by China was reported to be discussing opportunities with the Islamic Development Bank to finance infrastructure in part through sukuk.  How much do you think this be a priority for the AIIB?

MC: The AIIB is likely to negotiate with a lot of international investors including those in Muslim regions to expand the source of funds for the bank and accelerate infrastructure construction in the Asia Pacific region.

FF: Does Hong Kong’s efforts (including well received sukuk issuance in 2014 and 2015) set up Hong Kong as the key financial gateway for China and the AIIB to tap international capital markets?

MC: Hong Kong market will play an important role in China-related cross-border financing activities. In recent years, driven by the eased cross-border financing and greater renminbi internationalisation, Hong Kong’s RMB bond issuance volume swelled at a 65% CAGR from RMB16bn ($2.5 billion) in 2009 to RMB197bn ($31 billion) in 2014.

Is Saudi Arabia ready to capitalize on potential upgrade to Emerging Market status?

By Kurt Lieberman, CEO, Magni Global.

This article explores the readiness of Saudi Arabia to be included in the emerging markets and specifically compares it to the other majority Muslim countries in emerging markets– Egypt, Indonesia, Malaysia, Qatar, Turkey and United Arab Emirates.

In a recent article Magni assessed these six majority Muslim countries. Saudi Arabia was not included as it is currently considered part of the frontier markets. For either MSCI or FTSE to promote Saudi Arabia from frontier to emerging, the country would need to open its capital markets to foreign investment. On June 15, the Saudi stock exchange, the Tadawul, became one of the last major emerging markets to let foreigners buy shares directly. However, significant restrictions remain and greater opening will be required to achieve promotion to the emerging markets.

Magni Country Scores are used as the basis for comparison. These scores measure a country’s environment for effective corporate governance. They are based on widely-accepted economic concepts that describe the role of a country’s business environment in achieving successful and sustained economic growth, as well as on the valuation of a country’s equity market. The legal and regulatory system of a country and its overall economic infrastructure create the corporate governance environment for companies operating within the country. Portfolios built using Magni Country Scores have outperformed relevant benchmarks over extended periods.

Currently, Saudi Arabia has a Magni Country Score comparable to Russia and would rank 42^nd in the investible world (a combination of the countries in the developed and emerging markets). Among majority Muslim countries, it would rank behind Turkey and ahead of the United Arab Emirates.

In the prior article, Magni identified that the majority Muslim countries were improving faster than the other countries in the emerging markets and much faster than countries in the developed markets. The article projected the potential for at least one of those six countries to become a leader across the emerging markets. Saudi Arabia is improving even faster than the six majority Muslim countries in the emerging markets. The country’s largest improvements have been in areas relevant to eligibility for promotion into the emerging markets, including securities regulation and accounting.

To continue these rapid improvements, Saudi Arabia will need much greater transparency and stronger shareholder rights. In particular, there is almost complete opaqueness regarding fiscal policy, while government supplied statistical information is of comparatively low quality. This opaqueness creates barriers to investment as projects require higher returns to compensate for the risks resulting from a less clear business environment. Shareholder rights are also weaker than in other countries and that weakness is particularly evident in the laws and regulations related to insolvency.

Increasing transparency and strengthening shareholder rights to the level of Malaysia has the potential to improve Saudi Arabia’s score ahead of the other majority Muslim countries and close to the top of the emerging markets.

Fortunately, these improvements are consistent with Islamic values. Increasing governmental transparency increases Adl (justice) and reduces the potential for transactions involving Gharar (“deceptive uncertainty”) as parties to transactions are dealing with comparable, accurate information. Strengthening shareholder rights increases Amanah (trust) in the capital markets.

Previously we identified Malaysia and Indonesia as potential leaders among the countries of the emerging markets. Based on this assessment Saudi Arabia should be added to the list of potential leaders.

Magni Global Asset Management is the leader in measuring country-level governance and has more than 15 years of history researching countries based on widely-accepted economic concepts. They have published a white paper entitled “Country Selection – A Powerful Technique of International Equity Investing” available for download at www.magniglobal.com/white-papers.