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Paean For The Dollar

Weekly Fixed Income Comment – 31 July 2017

Overall Markets
Persistent US dollar weakness remains a key feature of the markets and this feature continues to be beneficial for GCC, MENA and broader EM bonds, sukuk and risk assets. Leaving aside considerations of cause and effect, carts and horses, or chickens and eggs, the soft dollar reflects not only the political stalemate in the US that is hampering previously expected policy changes, but also the strength of the European, Chinese and Asian economies. The lack of policy change may be keeping the US economy stuck with GDP growth around 2% and the Fed largely on hold in the absence of an inflation pick up, but this all remains constructive for bonds and sukuk in our universe, especially with oil prices pushing back up in their range. However, this price range is not high enough to avert some of the ongoing pressures and need for more reforms as illustrated by the ratings downgrades of Bahrain and Oman, even if these weren’t really changes that constituted real news or moved the markets.

Economic data releases of note will be limited this week, although we will have our monthly date with US non-farm payrolls on Friday. The political and geopolitical issues, globally and in the region, will continue to merit attention.

Bond Funds & Mandates

In The Region
MENA credits traded well last week supported by the 8% increase in oil prices, minimal new supply and faint glimmers of hope about the situation with Qatar that supported bond prices there. Credit spreads on UAE bonds tightened by 6 bps to 131 bps as indicated by the Bloomberg USD UAE Index. The broader MECI universe didn’t do quite as well with spreads tightening by 4 bps. Some of this tightening reflected higher US Treasury yields.

It was light in terms of GCC, macroeconomic data last week, only some money supply and inflation figures. Inflation increased slightly in Bahrain, from 0.7% in May to 1.0% in June. Liquidity eased further in Saudi Arabia as the central bank’s foreign assets rose for the first time since May 2016 despite lower oil prices. Reserves increased by USD 1.6 billion in June to USD 493.3 billion and money supply increased by 1.5% in June. On the minus side, private sector credit shrank by -1.4% in June after a contraction of 0.7% in May.

The number of foreign tourists in Dubai was up by 10.6% in H1 2017. Indian visitors grew by 21% and remained Dubai’s top source with 1.05 million tourists. Russian and Chinese were the fastest growing visitors by nationality. Russian visitors increased by more than 97% in H1 2017 on the back of easier visa rules, while the number of Chinese grew by close to 55% in H1 2017.

Moody’s downgraded Bahrain’s credit rating by two notches from Ba2 to B1 with a negative outlook. According to the rating agency, “Bahrain's government debt burden and debt affordability to weaken further significantly over the coming two to three years.” Moody’s also downgraded Oman by one notch to Baa2 mentioning more limited than expected progress towards addressing structural vulnerabilities to a weak oil price environment, “reflecting institutional capacity constraints to address the large fiscal and external imbalances.” On the positive side, S&P affirmed Abu Dhabi’s AA rating with a stable outlook citing “Abu Dhabi government's large net asset position.” Fitch upgraded DP World’s credit rating by one notch to BBB+ with a stable outlook.

Earnings season is still busy. In the Banking sector, Abu Dhabi Islamic Bank’s and RAK Bank’s Q2 2017 net profits rose by 8.7% and 16% respectively. FAB and Bank of Sharjah H1 net profits were respectively up by 4% and down 13.6%. In the Telecom sector, results were mixed as Etisalat’s Q2 profit was up 6% while Ooredoo saw net profit fall 12%. In the Real Estate sector, Ezdan H1 2017 net profit jumped 25%. In the Airline industry, Etihad recorded a USD 1.87 billion loss for 2016. Overall, so far, results have been rather neutral, some beats, some misses, with Q2 results a little soft as expected. In line with the news above, results from Oman have been notably weak.

Iraq was a strong performer last week, maybe helped by the new issue announcement, which apparently prompted buying of the low (cash) priced, existing issue. Elsewhere, Bank Sohar is seeking approval for a perpetual bond and Bahrain sent out proposals for USD bonds and Sukuk.

Out of Region
The JP Morgan EMBI Global Diversified (US dollar denominated, sovereign, emerging market bonds) lost 17 bps last week. The underlying return from US Treasuries causing the loss as spread related returns were positive. The Middle East was the best performing region with a gain of 33 bps and Asia was the worst performer with a loss of 53 bps. Zambia, Gabon and Ethiopia performed well with an average gain of 160 bps, while Venezuela, El Salvador and Egypt performed poorly with an average loss of 353 bps. High grade bonds performed better than high yield.

For the corporate sector, the CEMBI Broad Diversified (US dollar denominated, corporate, emerging market bonds) gained 7 bps driven as spread related returns outweighed the Treasury losses for this index. Asia was the worst performer with a loss of 9 bps while Africa was the best performer with a gain of 44 bps. Metals and Mining was the best performing sector with a gain of 50 bps, Transport was the worst with a 21 bps loss.

In local currency markets, the JP Morgan GBI-EM Global Diversified index was down 7 bps in US dollar hedged terms last week. Currency returns were positive with the unhedged return recording a 3 bps gain. Middle East and Africa was the worst performing region with a loss of 36 bps, while Latin America was the best with a gain of 4 bps, in hedged terms. Brazil was the best performing country with 39 bps gain in US dollar hedged terms, the latest economic data suggesting a more stable Brazilian economy with unemployment decreasing and inflation developments remaining favorable. Chile and Mexico also performed well with gains of 15 bps and 10 bps respectively in hedged terms. The negative inflation surprise in Chile is supports a rate cut in the near future, albeit that manufacturing rose for a second month in June. In Mexico, exports remained strong according to the latest data, offsetting concerns related to weak industrial production and domestic demand. Argentina was the worst performer last week with a loss of 48 bps in US dollar hedged terms. The old issues are resurfacing in Argentina. Colombia and Turkey also performed poorly with 44 bps and 39 bps losses respectively in US dollar hedged terms. Growth remains sluggish in Colombia and inflation is moving lower for now. However, the decreasing trend in inflation should reverse as base effects fade. The Turkish economy continues to be negatively impacted by local politics. On the positive side, monetary policy remains tight with inflationary pressures and currency volatility continuing to guide policy.

In FX markets, the Polish zloty, Romanian leu and the Hungarian forint performed well last week. The laggards were the South African rand, Peruvian sol, and Mexican peso. Uruguay will enter the index at the end of the month with a single dual currency bond, and a weighting of 29 bps.

The Funds
Our internal systems show that the MENA Bond Fund (MBF) was up by 0.21% last week to July 28th. The Bloomberg UAE Index was up by 0.18% whilst the JP Morgan MECI and the JP Morgan MECI GCC indices were up by 0.15% and 0.18% respectively, so MBF’s performance was slightly better than the broad market. According to the 27th July NAV, MBF was up 3.08% year to date. The yield on MBF is 4.46%.

The Sukuk Income Fund (SIF) was up by 0.20% last week to Friday 28th July according to our internal systems.Indices were up too, the JP Morgan MECI Sukuk Index and the Dow Jones Sukuk Index were up by 0.17% and 0.09% respectively. According to the 26th July NAV, SIF was up by 1.49% year to date.The profit rate for SIF is 4.36%.

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