MENA Asset Management Survey 2012 - National Bank of Abu Dhabi

Middle East & North Africa
Focus: MENA Fixed Income – Is It All Over?
Mark Watts, CFA – Head of Fixed Income
Asset Management Group
National Bank of Abu Dhabi
As 2012 drew to a close, a chorus of voices grew
increasingly loud, all signing from the same hymn
sheet of ‘It’s all over for bonds’. The lyrics are
seductive, the tempo is attractive, but there is
something definitely out of tune with the story.
To address the question ‘is it all over?’ you have to first examine what drives the bond
market in the MENA region. The bond market is a function of two key variables and
these variables drive most of the returns. The first is the risk free yield curve and the
credit spread. For our market, the risk free curve is deemed to be the US Treasury curve.
Purists may argue that the US curve is no longer risk free with the US having lost its
coveted ‘triple A’ moniker last year, but the fact is that US Dollar credit is priced off the
US curve and there is no credible alternative. All the time that MENA based entities issue
in US Dollars, the market will price off the US Dollar curve.
So what is the outlook for the US curve?
Take a look at the 100 year chart of US Treasuries. Those who say it is all over tend to
look at this as the defining chart, ‘rates have never been lower’ they cry, ‘the only way is
up’. But experience of Japan in the late 90s has taught me that just because something
is expensive, it doesn’t mean it will get cheap. What is missing is a catalyst and I would
argue that we have just had the reverse. The yield curve is the term structure of interest
rates and as such mathematically begins with short rates. The very same short rates that
the Federal Reserve has just told us will not be moving until at least 2015. The short end
is therefore effectively pinned at close to zero. The same Fed has also told us that it is
going to continue to pump money into the US until they see signs of growth and
employment (one of the last things to move). All well and good, but no one seems to
have told the banks what to do with the money, so in the absence of a vibrant economy
and faced with corporates who do not want to borrow, these funds find their way into
financial markets (the money multiplier being currently broken). So the Fed is buying the
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