Thursday, 31st October 2019

Saudi Arabia: Risks and rewards as Saudi Aramco share sale gears up

Speculation has been mounting that the Saudi government is set to move forward with the long-planned initial public offering (IPO) of shares in Saudi Arabian Oil Company (Aramco). The news filtering out of the Future Investment Initiative conference in Riyadh – the third annual holding of the event dubbed by supporters the ‘Davos in the desert’ – is that an offering to domestic investors will be announced on 3 November. The mooted timetable would see shares go on sale in early December with trading to start on the Saudi Stock Exchange (Tadawul) around 11 December. It is notable that no timetable has emerged for the anticipated dual listing on an international bourse – a indication that, for all the outward signs of confidence by officials in Riyadh, this will be a complicated process which may yet flounder.

A fall, rather than rise, in the shares following the IPO carries considerable risks, given the billions of dollars likely to be sucked into the deal for local investors, who will include ordinary Saudi families, as well as the billionaire individuals and local corporates who officials linked to the Crown Prince’s Office have been calling for weeks to effectively order their participation.

It is not clear whether a way has been found to secure a valuation close to the $2trn target set by Crown Prince Mohammed Bin Salman (MBS). This has caused great difficulties for the investment banks hoping to work on the deal. Often presented as a make-or-break moment for the MBS agenda, given Aramco’s totemic status, the partial privatisation has been made a lynchpin of his wider economic reform plans. Many bankers believe that any willingness to compromise on the valuation will offer an indication of whether MBS will allow realism to win out over bravado.

The IPO will raise useful funds for the government to support investments in other, non-oil activities. However, oil should continue to play a central role for Saudi Arabia for many decades to come (the global energy trandsformation permitting). Aramco shares will thus be a bellwether for the wider economy and the government will face an important additional responsibility in keeping that share price at the ‘right’ level.

That will not be easy if the IPO valuation is set too high. There have been plenty of reports of wealthy families in the kingdom being pressured to buy in (GSN 1,090/13), but it will not be possible to do the same on the international stage – which is one reason why the domestic listing is being prioritised. The government can push wealthy locals to buy Aramco shares and it could also intervene to prop up the share price on the Tadawul if necessary. However, it has no such leverage with international investors: once Aramco is traded abroad the share price will be beyond control.

One intriguing element of the planned share sale is how wealthy Saudis are planning to fund their Aramco purchases. The indications are that some are selling down their existing portfolios, putting pressure on the Tadawul All-Share Index (TASI), which fell consistently from July to September, before staging a recovery over the past month. This bearish trend happened despite the influx of international investors, following the Tadawul’s upgrade to emerging market status by international index providers. As of 24 October, foreign investors controlled 9% of the Tadawul, up from 7.5% in June and less than 5% in January.

Sabic may be particularly affected: the petrochemicals giant’s shares tend to be among the most activity traded on the Tadawul, accounting for more than 10% of all market trades by value in January-September 2019. Its share price has fallen by 24%, from SR116.20 at end-2018 to SR87.90 by 30 October. Some of this will be linked to Sabic’s poor commercial performance; revenues were down 17% in January-September, and net profits down 65%. However, GSN hears that some wealthy locals are selling their Sabic holdings to raise money to buy the Aramco shares forced on them by government – selling Sabic shares to buy into Aramco, which in turn is in the process of acquiring Sabic.

GSN has previously warned of risks for the leadership if too many locals end up buying into Aramco, under the assumption the national champion is a safe investment. Aramco’s size means it will dominate the Tadawul. The entire index could spiral downward should investors take fright over, say, a sharp fall in oil prices or an attack like that on Abqaiq in September. Riyadh has seen stock market crashes before that hurt ordinary Saudis. On 26 February 2006 the TASI began to fall away from the historic high of 20,635 points it had hit the previous day – fuelled by a stock-buying boom among ordinary families. By end-year the index had fallen 65% and total market capitalisation was down by around $325bn. In 2008, the global financial crisis caused an even bigger fall. In 2017, the Capital Market Authority issued a study on the 2006 crash which noted that one factor explaining the bull run ahead of the crash was an influx of retail investors – some of whom were bankrupted by the fall. That is the sort of problem which could prove fatal to MBS’s ambitions.

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