Mideast Violence, MSCI Changes Hit ETFs

July 01, 2014

Once-surging Mideast markets are now moving downward.

Downtrodden ETFs canvassing the turbulent Middle East got a shot in the arm today after one of the biggest companies in the region got a crucial vote of confidence from the government of Abu Dhabi.

To be sure, the region isn't out of the woods yet, particularly given geopolitical instability in Iraq and Syria. Also, fallout related to MSCI’s ongoing reclassification of Qatar and the United Arab Emirates, which started in May, continues to affect asset prices in those two countries.

After a month of steady decline, these ETFs got a boost today, thanks to Arabtec’s rise of about 15 percent, due  to its chairman’s promise to improve its transparency as well as reassurance that it still has the support of a major shareholder backed by the Abu Dhabi government. But it’s still important to note the 30-day downward trend of the ETFs.

The perfect storm of political violence, country reclassification and an odd corporate downsizing event has investors spooked. But market conditions may not be as bad as they seem on the surface, and could represent buying opportunities for investors given a big enough pullback.

“A fund like the Market Vectors Gulf States ETF (MES | D-71) that takes a targeted bet on frontier countries (or recently reclassified to emerging) is going to be more volatile than investing in, say, U.S. equities,” said Spencer Bogart, an ETF specialist at ETF.com

“Expressed as a percent, the most recent volatility figure for MES is 17 percent, which compares to 12 percent for the SPDR S&P 500 ETF (SPY | A-98) and 19 percent for the iShares MSCI Emerging Markets ETF (EEM | B-99).”

Going back to 2012, however, Bogart notes that the volatility for MES, SPY and EEM are 22 percent, 21 percent and 30 percent, respectively. Going back further to 2010, a more volatile time, the results are 44 percent, 32 percent and 53 percent, respectively.

Rough Road To EM


Escalating violence in Iraq has also made investors wary of these ETFs, but it’s worth noting that the underlying stocks in these ETFs are made up mostly of financial and industrial companies. Energy companies are owned by the royal families and are not investable.

Qatar and Dubai this month began their transition to emerging markets, after MSCI said a year ago that they would qualify for promotion, with the transition beginning 12 months after the June 2013 announcement.

The Qatar exchange—together with Dubai and Abu Dhabi exchanges—all gained sharply in the first five months of this year prior to the transition to emerging markets, but have since gone south.

For example, MES and the WisdomTree Middle East Dividend Fund (GULF | D-91) gained 30 percent and 21 percent through May, but have dropped 12.7 percent and 9.2 percent, respectively, this month through June 27.

The iShares MSCI UAE Capped ETF (UAE | F-65) and the iShares MSCI Qatar Capped ETF (QAT | F-73), which launched at the end of April, are down 13.8 percent and 7.7 percent, respectively, year-to-date.

“I would think that the reclassification probably was one factor that led to the surge in those markets,” said Dennis Hudachek, senior ETF specialist at ETF.com. “You think about EEM being forced to buy up UAE and Qatar securities—don’t you think some folks would try to front-run that?”


Chart courtesy of stockcharts.com


The Arabtec Effect

Additionally, last week, the Dubai Financial Market closed down more than 4 percent, thanks in large measure to a sharp 20 percent decline in the shares of Arabtec’s 20 percent fall. The company, which dropped another 10 percent during the last trading session, has been in a free fall lately, having reportedly cut ties with its chief operating officer, chief information officer and chief risk officer after its Chief Executive Officer Hasan Ismaik resigned earlier this month.

Investors in Arabtec have also reportedly been spooked by a recent sell-off in Arabtec shares by Aabar Investments, an Abu Dhabi government-owned investment vehicle, from 21.6 percent to 18.9 percent.

Arabtec issued a statement on the Dubai exchange last week reaffirming its position for investors while trying to quell rumors about its delisting. The company currently makes up 2.6 percent of UAE’s portfolio and 1.9 percent of MES. In turn, UAE, GULF, QAT and MES were all down more than 5 percent last week, led by UAE.


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