Asset management in the GCC - Euromoney

The 2008 guide toAsset management inthe GCCJune 2008Published in conjunction with:

ContentsA market worth watching 2A compelling opportunity for 3asset managersOn the ground or in the air? 7Saudi strategy: going it alone or 10finding a partner?Three hubs to serve a thriving market 11Distribution holds the key 13Fixed income, equity, local and 17international assets - a demand for allShariah - compliant market 19tests perceptionThis guide is for the use of professionals only. It states the position of themarket as at the time of going to press and is not a substitute for detailed localknowledge.Euromoney Institutional Investor PLCNestor HousePlayhouse YardLondon EC4V 5EXTelephone: +44 20 7779 8888Facsimile: +44 20 7779 8739 / 8345Directors: Padraic Fallon (chairman and editor-in-chief ), Sir Patrick Sergeant,The Viscount Rothermere, Richard Ensor (managing director), C.J. Sinclair,Neil Osborn, Dan Cohen, Christopher Brown, J P Williams, John Botts,Colin Jones, Simon Brady, Tom Lamont, Gary Mueller, Diane Alfano, Mike Carroll,Christopher Fordham, Jaime Gonzalez, Jane WilkinsonEditor: Sarah MinnsDirector of research guides: Mike CarrodusCover illustration: Garrett FallonPrinted in the United Kingdom by: St Ives, Roche, UK© Euromoney Institutional Investor PLC London 2007Euromoney is registered as a trademark in the United States and the UnitedKingdom.

A compelling opportunityfor asset managersOil prices at $100 a barrel and more are not the only thing generating excitement about theprospects for the GCC economies. Non-oil GDP is also increasing and there’s a young populationwith increasingly sophisticated investment requirements. Chris Wright reportsThe Gulf represents one of the most exciting opportunities for assetmanagement anywhere in the world. At a time when global markets arebeing rocked by credit problems and an uncertain economic outlook,the Gulf Cooperation Council (GCC) presents a compelling range ofdrivers: growing wealth, at a sovereign and individual level, fuelled by arecord oil price; growing sophistication in investment; liberalizing regulatoryenvironments across the region; and stock markets that show littlecorrelation to global equities.At the heart of the Gulf’s appeal is its strengthening economic position,and it sets a framework for the growth of a vibrant asset managementindustry. National income growth averaged 19% in the six GCC nations(Saudi Arabia, Kuwait, Qatar, the United Arab Emirates, Bahrain andOman) in the four years to June 2007; over the same period, GCC governmentsadded $500 billion to their net foreign assets despite huge spendingon projects. In the Middle East generally, GDP doubled between 2002and 2007, and is projected by Morgan Stanley to reach $1.045 trillion in2008, representing a compound annual growth rate of 16%; and withinthat, the GCC is not only by far the biggest chunk (Saudi Arabia is 37%of regional GDP) but is growing in influence – Qatar, Kuwait and the UAEraised their share of regional GDP collectively from 27.5% in 2002 to35.4% in 2007, according to Morgan Stanley.Additionally, the Gulf is one of those rare parts of the world where theage dependency ratio is declining: it’s a young region, with its populationentering a demographic sweet spot, and more and more people ofa working age.In large part, it’s all about oil. The Middle East provides 62% of global oilreserves and 31% of global production, according to Deutsche Bank;the GCC alone was already generating a current account surplus of over30% of GDP in 2007, and that’s before oil topped US$100 per barrel.According to the National Bank of Kuwait, GCC hydrocarbon exportrevenues climbed 47% in 2005 and another 20% in 2006, reaching $360billion in the last of those years, and that, again, is based on a far lower oilprice than today. A cross section of analysts and the IIF suggests that thebreak-even prices for oil producing countries are between $25 and $42per barrel in the various GCC countries – and ‘break-even’ simply meansthe revenue required to balance the budget. Analysts say that governmentspending is generally based on the assumption of $50 a barrel.“At $51, you’re putting another dollar into the sovereign wealth fund forevery barrel of oil,” says Daniel Smaller, managing director for sales anddistribution at Algebra Capita, an independent fund manager in Dubai.“So at $110...”According to data from the IMF and HSBC, every $1 increase in the oilprice, sustained for one month, means an additional $500 million ofrevenues for GCC producers. If one considers the difference between oilat $60 a barrel, and at $80 per barrel, it equates to a GCC economy $200billion bigger, or 25%; a fiscal surplus $100 billion bigger, or 90%; and acurrent account surplus $100 billion bigger, or 70%. “If oil dropped to$50, the economy would continue to grow at a very healthy rate,” saysTarek Sakka, CEO of Ajeej Capital, a recently formed independent fundmanager in Riyadh, referring to Saudi Arabia; at double that level, thewealth effect is immense.Consequently, governments have been able to pledge huge amounts forcapital expenditure in the region – commonly cited figures, if somewhatvaguely sourced, are $500 million in the next two years, and $2 trillionin the next 10. And it’s not just oil that is providing such a boost. Non-oilGDP is rising too. To take Kuwait as an example, NBK says that financialservices, transport and storage, communications, construction andmanufacturing have all achieved double-digit growth for three years“The Gulf ... is a young region, with its population entering a demographicsweet spot, and more and more people of a working age”in a row. And in Saudi Arabia, Brad Bourland, chief economist at JadwaInvestments, forecasts the non-oil segment of the Saudi economy togrow at between 7 and 8% through 2010. “The boom continues to buildand spread to the private sector,” he says. “From what it originated as– an oil price-driven boom, which means government revenues andmega projects – it is now spreading to more non-oil, with private sectorenthusiasm across the board. The outlook’s very bright.”GUIDE TO ASSET MANAGEMENT IN THE GCC

All told, the IMF’s World Economic Outlook predicts 5.9% growth for theMiddle East in 2009, and in some nations, notably Qatar and the UAE,analysts sometimes print double-digit expectations for near-term GDPgrowth. Perhaps best of all, the Gulf is not at all reliant on the US consumer,hence its decorrelation with world markets. “Look at the numberof bullish reasons to invest in the Middle East,” says Smaller. “There’s highgrowth. In an inflationary environment you want to be in markets with alarge attraction to fixed assets, infrastructure, oil and real estate – so theMiddle East. There’s an undervalued currency; negative real interest rates,pushing people to invest rather than leave their money in the bank; marketmultiples below those of other emerging markets but with highergrowth; index changes happening; and the fact that it’s not tied to theUS consumer. The list goes on.”So how does all this translate into an opportunity in asset management?In several ways. This increasing wealth is most clearly demonstratedamong the region’s vast sovereign wealth funds. None of the Gulf’sSWFs disclose assets under management but they are believed betweenthem to have over $1.5 trillion under management, with the Abu DhabiInvestment Authority alone believed to have as much as $875 billionunder management, growing by the day. As the next chapter discussesin more detail, these funds are increasingly sophisticated, and committedto the diversification of their wealth outside their home market. That haspresented a huge opportunity for international investment managers.Additionally, growing prosperity in the Gulf has led to a growing massaffluent and retail investor base and also an increasing number of highnet-worthindividuals. These, too, are growing in sophistication, and it isoften suggested that the widespread stock market falls of 2006 helpedto promote in people’s minds the value of professional management,aiding the fund management industry in reaching out to this client base.Increasingly, individuals in the Gulf are being encouraged, or obliged,to save. State-run pension funds exist in most GCC states, along varyingmodels but generally taking a mandatory chunk of income and saving it,often with an additional contribution from Mutual the fund state AUM itself. in the Private region sector2007 estimatespension funds are in their infancy but industry professionals expectthem to emerge as a force, increasing the pool of institutional wealthto be invested, and again creating an opportunity for well-placed assetmanagers, both local and international.This shift is generally what has the most dramatic impact on investmentmanagement industries: the institutionalisation of individual long-termsavings. Consider Australia. It has just over 20 million people yet has bysome measurements the third largest asset management industry in theworld, with A$1.17 trillion under management in superannuation funds(pension funds) at the end of 2007. This has happened because of thedecision in the 1990s to compel retirement savings in tax-advantagedfunds by individuals. The rest is just the effect of compounding and time.As Gulf states move towards greater mandatory savings and a more sophisticatedpension fund system, the investment management industryshould grow accordingly.The growth of markets themselves also helps. Most GCC stock marketsare young; Qatar’s was launched in 1997, and the UAE’s, in their currentform (there are two stock markets in the UAE plus a more recentinternational exchange), in 2000. Most also have few listed securities bydeveloped market standards, with trading dominated by a handful ofbigger names. However, the pipeline for new issuance is considerable.SHUAA Asset Management, a Dubai-based fund manager, has estimatedthat even if GCC stock markets themselves did not move an inch in thenext few years, their market capitalization would double because of theweight of expected IPOs. Stock market valuations are also low by worldstandards, attracting more investment.That sort of momentum attracts international attention. And as Gulfeconomies and stock markets grow, it becomes more and more likelythat they will be included in key international benchmarks such as theMSCI Emerging Market Index. The latest thinking is believed to be thatMSCI plans to upgrade Taiwan, Israel and South Korea to its developedmarkets index, and to replace them with Kuwait, the United Arab Emiratesand Qatar (a firm announcement on this is expected in June, andany new inclusion would probably be preceded by a full year’s notice).That would require investors who track the index to gain exposure tothose markets quickly, vastly increasing the participation of foreignmoney in local markets and very probably the opportunities for localMutual fund AUM in the region 2007 estimates252015$bln1050Saudi Arabia Kuwait Egypt Bahrain UAE Qatar OmanSource: Saudi Arabian Monetary Agency, Central Bank of Kuwait, Central Bank of Bahrain, Cerulli Associates

Number of funds in the region 2007 estimatesNumber of funds in the region 2007 estimates250200150100500Saudi Arabia Bahrain UAE Kuwait Egypt Qatar OmanSource: Saudi Arabian Monetary Agency, Central Bank of Kuwait, Central Bank of Bahrain, Cerulli Associatesmanagers to gain mandates for international counterparts.numbers and in some cases may not separate them out anyway.Source: Central Bank of Bahrain, Central Bank of Egypt, Central Bank of Kuwait, Muscat Securities Market, Saudi Arabian Monetary Agency, Gulfbase, Zawya, Cerulli AssociatesSaudi Arabia, the biggest market of them all with a market cap of around$400 billion, is not yet open to foreign investors except through localmutual funds; consequently it won’t be considered for MSCI indices sinceit’s not considered widely investable. If that changes, the floodgates reallywill open. “When they open that market, Saudi will see a lot of indexinvesting,” says Shahid Hameed, head of asset management for the GCCat Global Investment House in Kuwait, one of the region’s largest fundmanagers with $8 billion under management. “Investors don’t even necessarilyneed to like Saudi; if they are investing in an index and the indexinvests in the region, flows will come in.”A far bigger figure is attained by considering all institutional mandatesout of the Gulf, and the addressable assets of the sovereign wealthfunds. Cerulli estimated that the total assets in the Middle East – mutualfunds, discretionary portfolios and sovereign funds – total $2 trillion,and total managed assets $1.6 trillion. This vast difference betweenmutual funds and total assets helps to explain why most internationalfund managers that have ventured into the region have all but ignoredretail as an asset class so far, focusing their attention instead on sovereigns,institutions and the wealthy – more lucractive, with more toinvest and easier to reach without an expensive branch network.And in a global environment like this one, a market that bears little relationshipto global equities is particularly welcome. “This region propelsahead on its own dynamics,” says Joel D’Souza, senior investment managerat Commercial Bank of Kuwait. “Kuwait in particular has fared verywell compared to what’s happening in the rest of the world.” [At the timeof writing the Kuwait Stock Exchange price index was up 17.6% year todate; the Euro Stoxx 50, by comparison, was down 14.5%.]Getting a handle on just how big the industry, or the opportunity, is, isnotoriously difficult. The easiest thing to grasp is mutual funds that aremanufactured and distributed in the Gulf – but even that’s not all thateasy, with disclosure requirements quite varied and many funds notdisclosing their assets under management.Nevertheless, in 2007 it was commonly said that there was about $60billion in mutual funds in the Gulf (this refers to those actually domiciledin the region). Cerulli Associates, in one of the most detailed studies ofasset management in the region yet compiled, put the figure at $57billion at the end of 2007, although that figure included Egypt with theGCC nations. There are around 500 funds in this category, almost half ofthem from Saudi Arabia.When one considers all mutual funds sold in the Gulf – that is, addingcross-border funds being sold from overseas into the Gulf – Cerulli estimatedthe figure at $80 billion to $100 billion. This figure is harder still topin down, since foreign managers are under no obligation to report suchIn some markets, independently managed discretionary accountsappear to be the dominant class, notably in Kuwait. According to dataprovided by the Central Bank of Kuwait on the country’s investmentcompanies, at the end of 2007 there was KD19.3 billion in portfolioinvestment and only KD3.265 billion in investment funds. “80% continuesto be managed on a managed account basis,” says M R Raghu,senior vice president of research at Kuwait Financial Centre, also knownas Markaz, an investment manager in Kuwait. Whatever the style, theoutlook is good. “Asset management growth is a function of two things:organic growth of the market and growth of the savings rate,” Raghusays. “Organic growth has averaged about 17% in the last five years,and growth in the savings rate about 19%. Adding the two, 35% growthshould be normal in asset management here.”In all parts of the market, the outlook is for impressive growth. The marketcapitalisation of GCC stock markets was about $900 billion at theend of 2007; that means the local mutual fund industry represents lessthan 7% of regional market capitalisation. In other developing markets,the figure is much higher – about 25% in Malaysia, for example. Themost optimistic groups, such as SHUAA, say the Gulf’s mutual fund industryshould be around $200 billion, and expect it to get there withinfive years. Others are more conservative, but still expect considerablegrowth: Cerulli reckons $100 billion by 2012, implying a compoundannual growth rate of 12.7% in assets under management. And all thishas been done without any culture of taxation.GUIDE TO ASSET MANAGEMENT IN THE GCC

Products offered by foreign managers, June2007 and products offered by 20092%1008060% 98%402015%86%Source: Cerulli AssociatesNote: Represented in terms of percentage of funds offered0Jun ’07In two years’ timeOffshore funds (domiciled outside the Middle East)Onshore funds (manufactured in the Middle East)Haissam Arabi, managing director of SHUAA Asset Management, expectsthe regional mutual fund industry to reach $200 billion in size inthe next few years, but expects the presence of international managersin the same markets to be bigger still, at $500 billion. “What we’ve seenin the last six months is a huge shift, with lots of money coming in fromet class, June 2007 foreigners,” he says. “Seventy per cent of my client base has shifted toicate source of AUM by asset allocation as of June 2007foreign, non-GCC investors.” He says SHUAA grew 113% last year inassets under management, almost 90% of it from new funds coming infrom overseas.Additionally, Gulf nations are well aware that oil is a finite resource andare keen to diversify away from their reliance on it. Financial servicesis seen by many as an area in which they can build presence and skill.This is visible from the rapidly expanding Dubai International FinancialCentre to Bahrain’s Financial Harbour towers and the rising skyline ofDoha in Qatar, where all three compete to be the region’s key financialcentre (see separate article). But there are few sharper demonstrationsof commitment than Saudi Arabia’s King Abdullah Economic City. Thisis envisaged as a hub for energy, finance and transport, and has beenreported as involving SAR100 billion of investment, with the creation ofone million jobs and a two million population.“The industry as we see it is still at a very early stage of development,”says Hameed, at Global Investment House in Kuwait. “Traditionally in ourpart of the world it has been more about asset gathering than asset management.But now we are at an inflexion point where we are seeing institutions,both regional and international, setting up asset managementoperations, with product manufacturing capabilities on the ground.”He adds: “We are traditionally exporters of capital, but now we’re seeinginternational funds investing in our market. It’s a very importantchange you are going to be seeing now we have reached a size inmarket capitalization and liquidity that attracts internationalinvestor attention.”Source of AUM by asset allocation as of June 2007100907.4% 7.5%8.5%2.3%2.0%5.1%2.0%804.5%23.6%25.3%7016.3%6017.3%%50403063.3%65.6%2049.4%100Source: Cerulli AssociatesMutual funds Discretionary accounts Institutional accountsEquity Bond Balanced Money market Others

On the ground or in the air?Institutions accustomed to doing business with the Gulf from afar are now facing up to the need tohave a presence in the region and deciding on what scale that presence should beNobody doubts the opportunity for foreign managers in the Gulf. Buthow to play it?The key question for most foreign managers is representation on theground. Can a successful business be run out of London or another financialcentre, with representatives frequently flying in, or must a permanentpresence be established on the ground? And if so, what should thatpresence be – just sales and relationship management, or analysis andmanufacturing?Historically, many institutions have handled the region from afar, but arestarting to move resources in. UBS, for example, has had representationin the Gulf for 30 years (starting in Abu Dhabi) but on the asset managementside has only recently based somebody permanently within theDubai International Financial Centre.“Going forward the region will need people on the ground,” says onewestern asset manager. “We can’t continue covering it just from Londonor New York or Zurich.”Indeed, the rosters of the Dubai International Financial Centre and, to alesser extent, the Qatar Financial Centre, are filled with the names of foreignbanks, fund managers and insurers that in many cases are buildinga physical presence in the region for the first time.to see sell-side analysts here from the investment banks: they see thepotential of foreign investors investing in local markets, and whoeveryou are, you want to make sure it’s you’re research they’re using.”One European asset manager adds: “Originally most people, including us,put sales staff on the ground. But it’s a natural progression to see investmentstaff on the ground as well.”Those on the ground feel the debate has moved on from “should you beon the ground” to “what exactly should you put on the ground.” DanielSmaller at Algebra Capital says: “Everyone now has to decide, do youmake Dubai a centre for manufacturing? We think you should. When wecreated Algebra we felt that our competition in many ways hadn’t arrivedyet.” He says that his firm’s tie-up with Franklin Templeton was donein part because “we wanted to prepare ourselves for those asset managementgroups who were going to view Dubai as a key financial centreand have manufacturing based there. If the competition continues tomanage Middle Eastern funds out of London or New York or someplaceelse, we feel that being on the ground with nine analysts is quite enoughto differentiate ourselves.”The Franklin Templeton deal was a landmark, and closely watched. TheUS house took a 25% stake in Algebra Capital in a deal announced inSeptember. This was an example of a multinational deciding it neededBut what are they putting there? Chiefly, it’s sales people. The priority hasbeen to find ways to market existing product into the Middle East, and Survey respondents’ views on their presence in theto supplement the existing sales teams from London and Geneva with Middle East, 2007Survey respondents' views on their presence in the Middle East, 2007people who are permanently based there.If you have an office in the Middle If East, you do have you expect an office to boost in your the resources Middle in East, the next do two you years? expect to boost yourSource: Cerulli Associates resources in the next two years?This approach alone is already potent – not just to sell overseas productbut potentially to sell GCC-focused funds as well. Haissam Arabi, managingdirector of SHUAA Asset Management in Dubai, expects foreign managerstargeting the region, without necessarily being based in it, to be amajor threat. “These groups will be able to take the lion’s share of assetgathering,” he says. “The Goldmans and Merrill Lynches with their ownMENA funds managed out of London in New York don’t necessarily havethe same competitive advantage of being positioned on the ground likewe do, but they have geographic reach.”In Arabi’s view, this doesn’t necessarily require them to build productteams located in the Gulf. “As for setting up on the ground with analysts, Idoubt that will be the case,” he says.But many foreign funds do believe they have to be in the Gulf to take fulladvantage, and not just with sales staff. Take Schroders: after opening itsDIFC office about a year ago, it initially staffed it with sales people, but isunderstood to be considering bringing other professionals to join themnow. “You are seeing more people sending down or employing analystshere,” says William Wells at Schroders in Dubai. “You’re certainly goingSource: Cerulli AssociatesNo13%Yes87%GUIDE TO ASSET MANAGEMENT IN THE GCC

manufacturing expertise in the Middle East, but opting to get it bybuying a stake in a local manager rather than building organically.The two groups are in the early stages of working together but it hascertainly helped Algebra: it has already topped $1 billion under management.“To go from zero to a billion in six months for a brand newfirm that’s beginning to find its feet, you can see how much tractionit has,” says Harshendu Bindal at Franklin Templeton. Partly, it reflectsthe fact that there are very few independents. “When you look to theMENA market and say: who can manage my money, there are onlytwo or three,” he says. The two groups recently launched a Middle Eastinvestment product in South Korea and many more are expected toroll out in coming months.terms of where the opportunity is,” he says. “The Saudi market is notyet open to foreign investors; as it opens, the amount of inflows willbe very substantial. This is by far the best economic cycle ever in theregion, and it’s all happening while valuations are in some cases notmuch higher than their lowest ever position, in the worst economiccycle. We believe there’s tremendous upside potential, both from theinvestment point of view and as a business.”Indeed, Saudi Arabia is the most natural place for independents tostart up because of the huge volume of new licences that have hit themarket for enterprises that are not affiliated with the country’s majorbanks (which are also the distribution network for funds). More businesseslike Ajeej are likely to follow.For Franklin Templeton, it gets around any challenge of having to buildlocal investment capability. “We view them almost like a manufacturerfor us in this part of the world,” he says. “We get them to sub-adviseany mandate that’s MENA-centric.”Will others follow? Well, they’d be likely to if there was a choice ofpurchases. “There’s always a possibility, but there’s a finite supply oflocal asset managers with critical mass,” says Nick Tolchard at Invesco.“We’re monitoring the players in that space and we certainly keep oureyes open. But I would have said we were in more of an organic phaseourselves.”Smaller thinks it’s already harder for new independents to set up anyway.“There may be a couple of others that pop up and want to startan asset management company, and who for some reason aren’t affiliatedwith a bank, but it’s going to get more and more difficult as thecompetition for people becomes tighter,” says Smaller. “There aren’tmany fund managers with a lot of experience. A lot of the marketsthemselves only started in the last decade.”There are, though, boutiques beginning to spring up. An example isAjeej Capital, formed by two former investors from the Olayan Groupin Saudi Arabia. “We had been investing money in the Middle Eastand GCC region for over 10 years, and started to recognize there wasa significant gap for an independent investment manager in theregion,” says Tarek Sakka, the co-founder and CEO, who also styles hisbusiness as an alternative long-biased fund which follows a convictionapproach. “Basically we believe we are only scratching the surface inThe decision on whether or not to go local will involve calculationson asset and client number thresholds. There is no hard and fastnumber here: some institutions have tens of billions of dollars ofmandates from Gulf institutions without having a major presence onthe ground, others have much less but have committed substantialresources to build further. From a distribution point of view, clearlyany foreign-based business hoping to penetrate as far as retailor mass affluent needs to be in the Gulf in force, building branchnetworks or establishing relationships with existing distributors whocan reach them. There is an increasing acceptance that high-networthclients and institutions should also be serviced by a presenceon the ground, but so long as some GCC clients prefer to keep theirmoney offshore there will still be plenty of scope for advisors basedin Zurich or London to thrive.Foreign entrants hoping to build local funds also need to considerwhat are accessible markets. It is very challenging, for example, topurchase Saudi Arabian securities; even many regional GCC funds cannotdo this, although they can buy Saudi mutual funds, which is whatmany do. Only those with local licences in Saudi Arabia can participatein that market. Other markets are easier, but even in Kuwait, perhapsthe deepest and most sophisticated stock market in the region, thereare foreign ownership caps which can impede an investment strategy.Human resources is a big issue for everyone. “Every distributor,whether a private or consumer bank or a direct channel, or agenciesattached to banks... they’re all hiring,” says Bindal. “They’re trying to getfeet on the street and roll out plans.”Distribution trends 2007100%2% 3%7% 7%80%24% 20%60%27%20%40%34%24%20%17% 17%0%Jun-07Representation in 2 years timeDirect Through local banks (excluding private banks) Through foreign banks (excluding private banks)Private banks Through independent financial advisors OthersSource: Cerulli Associates

The pressure on staff is more acute in some places than others; probablythe toughest hiring squeeze is in Riyadh. “Even for the mostaggressive professional international newcomer, they have to recruitin what is a pretty small pool of potential employees,” says DouglasHansen-Luke at Robeco. Even laudable efforts towards compliancehave an unintended ill effect on the hiring problem. “It’s a good thingthat every single company has to obey international norms,” he says.“But in a market that before had 11 compliance officers, now theyneed about 60. There’s a sextupling of demand for experienced, seniorpeople. Something like that can’t be filled overnight.” Riyadh is full ofpeople who have changed jobs three times in a year and a half anddoubled their salary, at least, along the way.IT, too, becomes a trickier proposition away from the hub centres; onebanker bemoans that one should “truly never underestimate the challengeof installing a leased Bloomberg line in Riyadh”. Dubai’s DIFC isexcellent in terms of its IT but faces a big challenge in building enoughoffice space fast enough to accommodate the people who actually wantto use it – the waiting list remains extensive and despite the remarkablepace of construction, space in DIFC and its environs remains at apremium in a way that does not afflict other centres less closely linked toa specific patch of real estate.Naturally, new entrants don’t have to limit themselves to just one place.A recent study by International Fund Investment, conducted for the“People still think, even after 25 years, that they can walk around the MiddleEast with a bucket and find it filled up with cash by the time they leave”Smaller says that in particular people with regional rather than country experienceare a rarity. “In the past a lot of the funds in the Middle East wererun at a bank, under a head of treasury, by someone who started a countryfund for clients,” he says. “You had different banks in each country runningcountry funds. Very few started money on a regional basis and that makesit that much more difficult to start up an independent asset managementcompany. The bar has been raised: it’s going to take that many more peopleand it’s that much more difficult to find and pay those people.”Local knowledge is, though, essential, not just in terms of people whoknow how to go and kick the tyres of local companies, but also thosewho understand the regulatory environment, relationships with regulators,and in particular the needs and aspirations of locally based clients.When multinationals do decide to set up in the Gulf, one of the first decisionsthey need to make is where to go. The regulatory positions of Dubai,Qatar and Bahrain are outlined in a separate chapter; in essence bothDubai and Qatar offer separate regulators based on the familiar modelof the UK’s FSA (or in Qatar’s case, best practice generally, but with morethan a passing resemblance to the FSA); Bahrain’s central bank is (sinceits merger with the Bahrain Monetary Authority) still the same regulatorthat has been in place for decades, but is notably accommodative to foreignfunds, the more so since the adoption of new collective investmentundertaking laws last year. The regulatory position is altogether trickieroutside those markets – see the Saudi Arabia strategy box on page 10 formore on the approaches foreign houses have taken to setting up there.The human capital issue is perhaps easiest to address in Dubai, a city thatpeople are generally happy to move to: it is considered vibrant and liberal towesterners and has ideal supporting infrastructure for expatriate communities,although the soaring rents there, and popularity of school places, havealready become a concern. Bahrain, too, has welcomed expatriates for manyyears, and Doha is an increasingly liveable city too. Riyadh and Kuwait City areperhaps the locations that have the hardest time attracting people for relocation.In terms of the recruitment of skilled local staff, they are in great demandin every location.Qatar Financial Centre, found that 54% of the companies it interviewedhad portfolio management in multiple locations, and 45% in just onecentralized location, with some moving from one to the other. This studymade some interesting findings about international fund managerbehaviour. “The majority of those interviewed are not interested in locatingportfolio management operations either in Qatar or in the Gulf, butare nevertheless open to the idea of developing sales operations in theregion,” it said. But it added: “There is surprisingly widespread realizationthat the Gulf region offers fund managers a growing opportunity to raiseassets, and contingent recognition that it will grow in importance as anemerging market in the future.”The study found that the regulatory regime was the most importantconsideration for fund managers. “Over half the firms surveyed want tosee a solid regulatory environment based on international standards,and widely recognized by investors and counterparties, not to mentionthe increasingly powerful compliance community,” it said. “Access andproximity to investment capital is a secondary reason fund managerswould consider when opening an additional portfolio managementoffice, or placing analysts there, but it should be emphasized that this ismore appropriate as a tool for incentivising managers than the regulatoryregime, which is regarded more as a pre-condition.” Cost of doingbusiness is a third priority; “There is increasing disillusionment with thecosts associated with some other centres in the Middle East, and an activequest for a cost effective alternative.”New entrants should expect to find a competitive field. “People still think,even after 25 years, that they can walk around the Middle East with abucket and find it filled up with cash by the time the leave,” says Smaller.“They are sadly disappointed. Most institutional business is given tothose with an on the ground presence and long-term relationships.”As one asset manager says: “It’s not that there is gold on the streetwaiting to be picked up; it’s an extremely competitive environment andeveryone is hunting for money. If you don’t have a network and top-tierperformance don’t bother booking your flight.”GUIDE TO ASSET MANAGEMENT IN THE GCC

Saudi strategy: going it alone or finding a partner?The many new financial services licences issued by the Capital Markets Authority in Saudi Arabia have presented international businesseswith a challenge: which model to use to make the best of this new opportunity?Some, like Merrill Lynch and JP Morgan, have gone it alone. Some have partnered with very big names: Goldman Sachs has taken a stakein NCB Capital, the securities arm of National Commercial Bank, which through its Al Ahli funds range is arguably the most powerfulplayer in domestic Saudi Arabian asset management. “We’ll work together jointly in Saudi Arabia on investment banking, marketablesecurities and the fund business,” says Sami Abdo, managing director of investment services at NCB Capital. “It has progressed tremendously.It opens up a very wide range of products to our customers, and brings them global capability; it also helps us build our internalcapability. But we keep our identity.”Elsewhere BNP Paribas owns a stake in the securities division of Saudi Investment Bank. Credit Suisse is a partner in Saudi Swiss Securities,whose founders include the Olayan group, a private global investor run from Saudi Arabia, and other prominent Saudi families. Somehave partnered with a handful of Saudi individuals to build new businesses not tied to a business family, such as Morgan Stanley, whichtied up with The Capital Group, founded by Fahad Almubrak, who formerly ran the Rana Investment Company, and Basel Algadhib, formerlyJP Morgan’s Middle East investment banking head. Deutsche Bank tried two different approaches, first announcing a joint venturewith Al Aziza Commercial Investment Company, which is chaired by Prince Alwaleed bin Talal bin Abdulaziz Al Saud, but later launchingits own solo business, Deutsche Securities Saudi Arabia, which appears to be its focus now.Several other foreign banks were already in Saudi even before the CMA’s arrival: these are the ones that have been in Saudi Arabia fordecades, sometimes almost a century, but were required to sell majority holdings to Saudi nationals in the 1970s. HSBC is representedthrough SABB, and is another of the leading asset management players in the country; ABN Amro through Saudi Hollandi, and Calyonthrough Banque Saudi Fransi. Citibank was formerly a stakeholder in Saudi American Bank, later renamed Samba, but sold out in 2003.For all of them, it’s a time of great opportunity and challenge. Douglas Hansen-Luke, CEO for the Middle East at Robeco in Bahrain, anduntil recently the CEO of asset management at Saudi Hollandi, calls it a “big bang”.“After being a closed and relatively insulated market for a long time, they are now moving to a very open, very competitive market,” hesays. “In one go, they’re trying to implement a professional, highly competitive financial sector capable of financing Saudi Arabia’s hugeinvestment plans and needs.”The different approaches have different merits. “One of the issues of going with a family, or a number of families, is knowledge in themarket,” says Tarek Sakka of Ajeej Capital, a newly established boutique operation in Riyadh founded by two former Olayan investors.“The issues to consider and balance are market knowledge and insight, the flexibility and control of the business, and the strong seniormanagement team. There is a serious challenge in terms of talent but a number of Arab expats with long experience in the west havealready started coming back to the region given the attractiveness of the opportunities.” Working with local families clearly bringsmarket knowledge, “but on the other hand what happens sometimes is certain other families may have concerns and may label you asassociated with X, Y or Z. And that, sometimes, may have a negative implication.”Playing the Saudi card correctly is of immense importance to foreign houses. “Saudi accounts for at least half of the wealth in the region,”says Nick Tolchard, managing director of the international development division at Invesco. “With the potential asset gathering capabilities,any fund manager would be very interested in looking at that marketplace.” Tolchard says Invesco “aims to be a major player overa long period of time,” and that “it would be remiss not to have started a long-term plan on entering that market”. Which suggests thatcompetition is going to get fiercer still.Each entrant must also decide which bit of the market to go after. Those who are linked to the major banks can get their products toretail through the banks’ branch networks. But for the rest, that’s going to be tougher to do. They have to aim higher up the wealthspectrum. “There’s a combination of a focus on institutional and family office customers, and also more reliance on alternative distributionchannels,” says Sami Abdo at NCB Capital, the securities arm of National Commercial Bank. “It’s a smaller number of clients and sorequires a smaller team. But you will have 80 institutions chasing the same money; eventually you will find the market come down to amuch smaller number.”“It’s changing the market gradually,” says Abdo at NCB. “As we see the capability build-up of the new companies being completed, I thinkcompetition will start to become fiercer and we’ll see the market evolve.”It is surely the case that not every new entrant can survive; indeed, some licences have been retracted already because the holdershaven’t done anything with them. “I don’t think there’s room for 82 new players,” says Brad Bourland, chief economist at Jadwa Investmentsin Riyadh. “They will go through a period when some struggle to execute and some do better; there will be a period of consolidationand the market will adjust to the right number of players.”

Three hubs to servea thriving marketDubai, Bahrain and Qatar are vying to be the Gulf’s financial hub and the battle is by no meansover, with each centre adopting a very different approachIt has long been accepted that the Gulf needs a financial hub. It’s anincreasingly important market on a world scale, oil and sovereignwealth make it more relevant than ever, and it fits naturally within theEuropean and Asian trading blocs. But the Gulf has not one potentialhub, but three.For 30 years this was Bahrain’s unquestioned role. “When I worked inBahrain in 1982 there was no question it was the centre of finance inthe Middle East,” recalls Daniel Smaller of Algebra Capital. Linked toSaudi Arabia by a causeway, and barely an hour’s flight from Kuwait,it benefited from the relative difficulty of accessing those far biggermarkets directly, and acted as a convenient and well-regulated hubfor those wanting to do business in or with the region. When turmoilhit Beirut in the 1970s, the business came to Bahrain and stayed.Abdul Rahman Al Baker, executive director of financial institutionssupervision at the Central Bank of Bahrain, believes there are severalreasons for the country’s popularity. “One is our legal framework: ithas been in place for 15 years and has proven it is able to cope withchanges in the market,” he says. “There is investor confidence in thesystem here. We have been a financial centre for 35 years. And therious non-Shariah productsg products in terms of standards the sales opportunity that we use as of in June our 2007 regulations and how you and expect legal this to framework change in two for years’ timeescollective investment undertakings [CIUs, investment vehicles such asgional and specialist funds, direct investments in real estate and infrastructure and Islamic cash alternativeow demand) mutual funds] are in line with international standards.” The lack of anytaxation on investment products also helps. “What you earn is whatyou get,” he says.Last year Bahrain introduced a new and updated regulatory frameworkfor its mutual fund industry including rules for CIUs targetingAverage score5.04.54.03.53.02.52.01.51.00.50.0Jun ’073.7 3.5 2.9 3.9 2.1 2.5 2.2 2.8 2.4 2.7 2.7 3.1 3.4 3.2 3.7 4.2 3.8 3.3 3.7 3.8 3.7 4.1 4.3 4.3Equity funds:globalIn 2 years timeEquityfunds:GCC/MenaBondfunds:globalBond funds:GCC/MenaMoneymarketfundsBalancedfundsprofessional investors. For investors with enough assets, this hasallowed for the arrival of hedge funds and other alternative investmentvehicles in Bahrain. It also categorizes investors by assets andexperience, and allows different classes of products to be sold to each.This appears to have been a large part of the reason for the increase.“As a regulator you need to see what’s going on in the market, and tryto revamp regulations to be in line with the changes,” Al Baker says.“We took the initiative by introducing these new categories. Previouslymost of these [hedge and alternative] funds were not registeredin the region but outside. Our new regulations are attracting a lot ofexisting asset managers from the region to set up here instead.”Bahrain, unlike newer competitors, operates under exactly the samelegal code in its financial institutions as in the rest of the country.There is no designated plot of land in which separate laws and regulationsapply (the Bahrain Financial Harbour, the gleaming centrepieceof the Manama waterfront, is simply landmark real estate rather thana separate regime), no separate regulator for the financial centre andno common law jurisdiction. Bahrain presents this as an advantage,suggesting that having two legal codes in one location can only beproblematic; the alternative view is that Islamic law is impractical formodern commerce.Rating of sales opportunities in june 2007 and predictions for opportunities in 2009The truly distinctive thing about the Dubai International Financial Centreis that within that 110-acre plot, the legal and regulatory systemsof the rest of the United Arab Emirates do not apply. Instead, DIFC isoverseen by a separate regulator, the Dubai Financial Services Authority,closely modelled on the UK’s Financial Services Authority, under commonlaw. The idea was that big global financial institutions had longCapitalprotectedfundsPrivateequityStructuredproductsAlternativesReal estatefundsSource: Cerulli AssociatesNote: Others refer to regional and specialist funds, direct investments in real estate and infrastructure and Islamic cash alternative (5 = high demand, 1 = low demand)OthersGUIDE TO ASSET MANAGEMENT IN THE GCC11

had aspirations in the Middle East but had been put off by the lack of alegal code they could understand and trust, and a regulatory environmentthey were comfortable with. As with everything else in Dubai, thepace has been extraordinary: 30 pieces of legislation were enacted inthe first three years, between them representing what one senior figureat DIFC calls “an entire body of Anglo-Saxon law”.From an asset management perspective, many of the world’s biggestnames are registered and set up within DIFC already, among them FranklinTempleton, Permal, Invesco, Man, Prudential and Schroders, and theasset management arms of international banks such as Deutsche Bank,UBS, ING and Barclays. However, very few funds are actually domiciledwithin the DIFC – the figure was just nine in late 2007 – which has ledcritics to suggest that all the DIFC has really done is become a conduitfor money to leave the UAE, with foreigners simply posting sales staffin their offices rather than any manufacturing presence. In fairness, thecollective fund law governing domestically domiciled funds only cameinto effect in mid-2006, and it will take time, and the arrival of custodialand fund administration services in Dubai, before it will make sensefor many groups to domicile funds there. At the moment, there is noobligation for foreigners active in Dubai to domicile funds there, somost instead keep their funds in the Cayman Islands, Channel Islands orBermuda as they always have done. There is some speculation, though,that in time foreign groups will be required to domicile feeder fundslocally which then feed into offshore products.From the outset the DIFC has been designed to offer domicile to awide range of products, including mutual funds, exchange tradedfunds, listed investment companies, hedge funds (and fund of funds),and Shariah-compliant funds. The regulatory package allows for 100%foreign ownership of the funds, no tax, no restrictions on foreignexchange or profit repatriation, and of course the world class level ofsupervision and regulation from the DFSA.It is important to noted tha the DIFC does not cover retail financialservices, nor transactions in dirhams; those are covered by the centralbank in Abu Dhabi.Initially, the legal model was similar to that in Dubai: the QFC operatedon common law principles while the rest of the country hadits previous, Islamic legal code. Also as in Dubai, the QFCRA tried toadopt best practice from regulatory authorities elsewhere in theworld, and again bears a lot of similarity to the UK’s FSA. However inJuly 2007 it was announced that a single financial regulatory bodywould be established, bringing together the regulatory functions ofthe stock exchange, central bank, and QFC Regulatory Authority, andsome regulatory responsibility for insurers that had resided within theMinistry of Economy and Commerce. A chairman and board for thisnew body should be announced soon.The QFC aims to foster a number of centres of excellence, hopingthat clusters of firms will develop in those areas, which in turn maydevelop into a regional hub. Insurance is one example, and another isasset management. Collective investment regulations for wholesaleand retail funds have been enacted over the past 12 months. It ishoped that managers will domicile their funds locally, which has nothappened at this early stage, but a new tax regime that came intoeffect on 1 May may help: it exempts any locally domiciled funds fromtax. Many fund managers have in any event chosen to set up in Qatar.Among them are Axa Investment Management, Global InvestmentHouse, EFG-Hermes and Kuwait Financial Centre.Axa was already in the region through the insurance arms of its businessbefore selecting Qatar as the centre of its investment managementadvisory and client services for the region. Axa, like many othersin the region, had historically managed its Middle Eastern businessfrom London and Paris, and had reached a point where it made senseto be on the ground.“Location was not the only issue; we did want to feel comfortablewith a strong regulatory environment and we were very impressed bythe QFCRA,” says Scott Callander, director, Middle East, at Axa InvestmentManagement. “The logistics of moving around the region arevery good, and by the nature and dispersion of our clients we’re nottied to any one city in the GCC.”Qatar has its own highly ambitious programme to build a financialcentre, though its aim is rather different from that of Dubai. Its intentionsare to build a centre that is very much onshore: it wants internationalfinancial institutions to establish operations on the groundin Qatar. In the Qatar Financial Centre’s own words, it wants them toparticipate in the long term and mutually beneficial partnership withQatar. It is often explained in terms like these: that Qatar is not primarilyaiming to become a regional financial hub, but if its structureenables it to become one, so much the better.The legislation to establish the QFC was enacted in March 2005. Thereare four distinct components to the Qatar model: the QFC Authority,which is responsible for commercial strategy and for developing relationshipswith the global financial community, among other groups;the QFC Regulatory Authority, which supervises financial servicesfirms and financial institutions operating in or from the QFC; a civiland commercial court; and a dispute resolution body.Some homegrown institutions are appearing too. One exampleis Qatar Capital Partners, formed last year with a focus on venturecapital. “The opportunities are huge in Qatar,” says Mikko Suonenlathi,general manager at Qatar Capital Partners. “The things QFC is drivingare corporate governance and transparency, and I think that’s exactlythe right agenda. Once you get to the highest possible internationalstandards it will make it into an even better investment environment.”Qatar’s regulatory environment is still coming together, thoughmuch of the most important legislation is now in place. For example,the regulations for limited partnerships – vital for any privateequity and venture capital business. “That’s a significant step forward,”says Mikko. But every step forward is a new one. “It’s pioneersteps that I’m taking,” says Mikko. “But with the overall environmenthere it’s a good time to take those steps. Three years ago it was tooearly; three years later is too late. Now is the time to enter anew market.”

Distribution holds the keyAsset managers around the world recognize the opportunities that exist in the Gulf. What they stillhave to come to grips with is exactly how to exploit those opportunities most effectively“There is a huge opportunity in the Gulf, that’s pretty much widely recognizedby everyone,” says William Wells at Schroders. “But how best totackle it is another matter.” And the biggest question for foreign managersin working that out is distribution.Deciding on a distribution strategy requires a clear understanding of thedistinct client bases in the Gulf, and what those clients want.Scott Callander, director, Middle East Institutional Advisory,AXA Investment ManagersFor most foreign asset managers, the sovereign wealth funds are themain prize. “That’s currently the majority of the business we have, andmost international asset managers would be the same,” says Wells. Formany, it’s becoming a still bigger focus. “A good period of time is beingspent on sovereign wealth funds, right now even more than in the past,”says a Middle East asset management head at a major European bank.“They’re acting as liquidity providers and are more aggressive than anyoneelse right now. The top five to 10 addresses in the Gulf make up thebulk of our business.” But what do these mega-clients want?There are sovereign funds in four nations that really matter in the Gulf,and they differ in their approach and requirements. At the top of thepile is the Abu Dhabi Investment Authority (ADIA), the richest by farof them all and probably the largest institutional investor in the world,with perhaps as much as $1 trillion under management (nobody knowsfor sure but a commonly cited figure is $875 billion, quoted last year byboth Deutsche Bank and Morgan Stanley). ADIA is known as being highlysophisticated, and rather aggressive relative to its peers, particularly inprivate equity; it takes an international approach to its staffing, ratherthan being dominated by UAE nationals. It has over the years been anearly mover into areas like emerging markets and hedge funds, andhas a highly sophisticated system for analysing and selecting potentialmanagers. “They have more closely associated themselves with a USendowment like a Harvard than they would a central bank,” says DouglasHansen-Luke at Robeco in Bahrain.Then there’s the Kuwait Investment Authority, set up in 1953 and the oldestsovereign wealth fund in the region, for whom the most commonlyquoted figure from analysts is $200 billion–250 billion under management(again, it has never been disclosed). The KIA is also consideredamong the more professional of the sovereign funds, with a very strongin-house training programme and a record of employing the brightestpeople in the country. Until recently it had a track record for conservatismbut is in the midst of implementing a much more market-savvyapproach today (though one wonders how it has fared in this globalenvironment). A review by an international consultant in August 2004,approved by KIA’s board the following June, has led to the fund establishinga target rate of return that would see it double its assets undermanagement within 10 years. Among other things, this review broughtabout the creation of a separate division for alternative investments. TheKIA is perhaps the institution most likely to outsource mandates to overseasmanagers; ADIA does so too but with reportedly a greater desire tohandle as much as possible in-house.Saudi Arabia differs in that it doesn’t have a single overall sovereign fund,but several institutions which between them amount to about $300 billionunder management and all invest in the name of the state (the twomost prominent would be the General Organization for Social Insuranceand the Saudi Arabian Monetary Authority). These are considered muchmore conservative; some managers believe as much as 70% of the investmentsfrom some of these institutions are in US dollar fixed income,chiefly government paper.And Qatar is the newer entrant, launched only in 2005 (reflecting themore recent arrival of wealth in Qatar, predicated mainly on the remarkablyfortuitous discovery of the third largest natural gas reserves in theworld in a country smaller than Connecticut). It may already have asmuch as $70 billion under management already, and has become quite acelebrity in world markets already after its tilt for the British supermarketchain J Sainsbury, accentuated by high-profile purchases of 23.5% of theLondon Stock Exchange.So what do these groups want from their fund managers, and howshould they be approached? Despite high-profile stakes in big westerninstitutions – KIA into BP, DaimlerChrysler, Merrill Lynch and ICBC; ADIAinto Citibank – they are reasonably conservative groups. “Their currentconcern is the preservation of capital, particularly for the Saudis andKuwaitis,” says Hansen-Luke. “But over the longer term they have a willingnessto make less liquid investments such as private equity, becausethey view themselves as funding the next generation.”The private equity theme turns up time and again. “We see more andmore private equity-like behaviour,” says Scott Callander at Axa. “As theyincrease their assets under management they need to adopt additionalnon-correlated strategies to deploy their assets. They are mature andresponsible investors and I think the potential barriers that are beingpresented by some of the foreign governments in the western worldare a little over-reactive; I don’t think they’re going to want to be strongactivist shareholders in the main.”This shift does present something of a challenge for foreign managers:as sovereign direct investment ability grows, the need to outsourceGUIDE TO ASSET MANAGEMENT IN THE GCC13

Selected Soverign Funds in the Region, 2007E US$ BillionCountry Fund Name Launch Year US$ BillionUAE (Abu Dhabi) Abu Dhabi Investment Authority 1976 875Saudi Arabia Various Funds NA 300Kuwait Kuwait Investment Authority 1953 232Libya Reserve Fund NA 50Qatar Qatar Investment Authority 2005 47Algeria Reserve Fund NA 25Iran Foreign Exchnage Reserve Fund 1999 15UAE (Dubai) Istithmar 2003 8UAE (Dubai) Dubai International Capital 2004 6Oman State General Reserve Fund 1980 7Source: Saudi Arabian Monetary Agency, Central Bank of Kuwait, Central Bank of Bahrain, Cerulli Associatesdrops back a touch. “Many sovereign managers are looking to developtheir own expertise in investment management,” says Nick Tolchard atInvesco. “It may be that they become more selective in terms of awardingexternal mandates. We’re already seeing more activity in terms of directequity and private equity investment.”the key, if there is one, is consistent performance within an area that thesovereign needs exposure to (that can get to very specific levels – ADIA,for example, is believed to break down its debt exposure into discretemandates for global government bonds, global investment grade credit,emerging markets, global inflation-index bonds and others).One western asset manager says he sees a shift towards a core-satelliteapproach among the sovereigns. “It’s what you see throughout theworld,” he says. “On the satellite side it could be small caps, US or global;sub asset classes like emerging market debt; alternatives is a big push;real estate, infrastructure; and the hedge fund side is very sophisticated,with single strategies and single managers, moving away from funds offunds.” The flip side of that is a move towards indexation on the core side,he says, which may squeeze out mainstream active managers a little.Another thing they appear to want is expertise in Asia. “These fundsfrom the emirates have been investing in Asia for a long time,” saysHansen-Luke. “And it’s not only their own analysis and consciousness ofwhat’s going on; their advisers, the bigger investment banks and sell sidebrokers, are advising them that Asia is the right place to go.”Some have been explicit about this ambition: the QIA wants to get to asituation where 40% of its assets are in Asia, and the KIA’s chairman hasbeen quoted as saying 20% would be a suitable figure for that fund. Bothfigures are clearly well above the weighting Asia holds in, for example,MSCI indices. This reflects both the greater perceived opportunity in Asia,perhaps a familiarity with the risk profile of Asian assets, and growingtrade links between the two regions (Malaysia’s central bank governor DrZeti Aziz has called it “the new silk road”).Generally, sovereigns appear to be becoming more open with the worldthan they used to be, though none has gone so far as to disclose theirassets under management. ADIA, extraordinarily for a place whose website features only a picture of its building and an address, hired a PRgroup, Burson Marsteller, this year. “Two years ago this would have beenregarded as a complete joke,” says one asset manager who has workedwith ADIA. “They are looking at transparency, disclosing information tothe public, how they talk to newspapers; they have understood that theycan’t run away from it [public scrutiny] and if they can’t run away from itthey want to do it properly.”If there was ever a time when sovereign mandates could be securedby personal relationships, it is long gone. All sovereigns have highly sophisticatedevaluation techniques for potential sub-advisory mandates;Beyond the sovereigns comes a tier of institutional investors. “As economiesare growing, more companies are getting their assets professionallymanaged,” says Wells; sometimes this is for their own earnings, andsometimes to support the beginnings of a corporate pension environmentfor employees.Pension funds tend to be state run at this stage, rather than a corporatebloc. “There are a dozen pension funds in Oman, several in the UAE,there’s a pension fund fully established here in Qatar, and in Kuwaitand Saudi there are large and long-established institutions,” says Callander.“There’s a relatively mature pensions market for governmentand quasi-government employees in the region. The next growth areacould be the corporates building out their pension provision, thoughtoday it’s a bit limited. Future legislation coming into place could seegovernments around the region seeking to enhance the existing socialsecurity framework with private sector solutions as well; I do forsee atrend in that direction.”An example of this trend can be found in Bahrain, where the central bankis expected to announce a new program called the occupational savingsscheme within the next few months. This involves a change in regulationto address savings in the region, helping companies to isolate employeesavings from those companies’ broader operations. It works using existingtrust laws in Bahrain. “The idea behind it is very simple,” says AbdulRahman Al Baker, executive director of financial institutions supervisionat the Central Bank of Bahrain. “It’s not fair to have your savings in yourcompany, as part of your company’s books, because if something goeswrong that will significantly affect the savings of those staff.” Under thenew scheme, “if the company goes bankrupt, the savings are going to bein a separate trust so are not affected.” Measures like these should boostthe appeal of corporate pension schemes. “I think it will attract more assetmanagers to look at these kinds of schemes,” he says.Halfway between institutions and high net worth comes the conceptof the family office, tricky to pin down; some banks serve them throughinstitutional channels, others through private client. They vary tremendouslyin their sophistication and outlook. At one end comes the familywho has built a business over a couple of generations; where investment

decisions will ultimately be made by the elder member of that family,perhaps a great-grandfather, who is chiefly interested in wealth preservationfor the next generation and who is therefore conservative. Thesuccessful fund salesman here is performing something of the role of afinancial advisor. At the other end, one could argue that Saudi Arabia’sPrince Alwaleed’s $20 billion-plus holdings are a family office of sorts,though of course in terms of scale and sophistication he and his teamare clearly a key institution. One European asset manager says familyoffices are “clearly seen as institutions both in terms of their needs andtheir sophistication.”Then there’s high net worth. This group, like high net worth anywhere,varies greatly in sophistication and investment capability, but somegeneral themes emerge. “It’s definitely eyes east rather than west,” saysWells. “They tend to be either very low risk or high risk; they’re lookingfor emerging markets exposure, the India, China and Asia stories, or arelow risk and want cash plus something. There’s not much of a middleground.”Many international private banks have set up divisions in the region tocater for this marketplace, whether through top-end private client divisionsor a broader wealth management approach. Merrill Lynch and ABNAmro, for example, are highly active in this field. However, this is a competitivefield, and the competition is not just from peers in the region.Consider Saudi Arabia, where dozens of new entrants are now chasingthe same limited number of (undeniably highly wealthy) individuals.They’re not just competing with each other, but with the offshore banksthat have traditionally managed much of the very wealthiest money.“Their immediate success will hinge on persuading the richest population,who’ve got 60% of their money offshore and do private bankingin Geneva and Zurich, to do business with entities in Riyadh rather thancontinuing their offshore relationships,” says one private banker. “Privateclients do business in Geneva. Institutions are used to dealing withsuitcase bankers flying in from London. This has been going on since thefirst oil crisis in the 70s. You’ve got 30 years or more of people being accustomedto doing the most important part of their business offshore.”Below that comes retail and mass affluent. Reaching this group are thelocal banks – many of which have private banking or premium divisionsof their own – and a handful of international groups with long trackrecords (often a century or so) in the region, particularly HSBC, StandardChartered and Citibank. Other international managers reachingretail typically won’t deal with them directly, but will go through thesedistribution networks. Many have not bothered even pitching productthrough these channels, instead focusing all their effort on institutionsand the high net worth. In many cases, they have no choice: businessesregistered in the DIFC, for example, can only sell product to people withover $1 million in investible assets, although there is talk about halvingthis limit.There is some evidence of foreign managers deciding to take the jumpto retail, though. Axa Investment Management, for example, has reachedaround $17 billion under management in the Middle East, most of itinstitutional, and has decided to take the next step. A new head of distribution,James Cahill, joined on 1 June to expand Axa’s strategy along thelines of its European model, by catering for global private banks; in theMiddle East that will mean going through distributors such as UBS, BNPand HSBC, as well as local offices. “It’s a natural extension of the businessstrategy,” says Scott Callander, director, Middle East, at Axa InvestmentManagement.Harshendu Bindal, senior director for CEEMEA at FranklinTempleton Investment Management in DubaiWhy go there at all? “The primary reason for developing the distributorstrategy is that the number of mass affluent is increasing pretty consistently,”says Callander. “There is still decent demand for overseas product,to provide diversification away from their exposure to real estate andlocal markets.”With a total local mutual fund industry of only around $57 billion (seeopening chapter) relative to a more than $900 billion regional marketcapitalization, it is clear that the retail sector is under-penetrated by fundsales, and it should represent a big opportunity for those prepared tomake the effort to serve it.International funds that do sell through the established distributionchannels to retail report varied experience of fees. “In fee structures,global relationships tend to have global fee structures and local relationshipstend to be more locally derived,” says Tolchard. “Organizations arebecoming more aware of fees in terms of what needs to be competitivein the marketplace, though we’ve yet to see the transparency of feestructures that we see elsewhere in the world. The region hasn’t yet beenput under the pricing pressure that more developed markets have.”The Gulf’s unique demographics are sometimes reflected in some distinctmarketing strategies. The clearest example of this is the huge SouthAsian population in the United Arab Emirates, believed to represent asmuch as 70% of the working population of Dubai. Several foreign banks,among them Citibank and ABN Amro, have set up dedicated non-residentIndian businesses in order to accommodate that part of society.Others specialize in expatriates generally.For local banks, the model is almost universally the same: they have anasset management division (sometimes hived off into a separate legalentity, but still under the same ownership) which produces productfor distribution through the same bank’s branch network. They is someselling of foreign managers’ products through these networks, oftenthrough white labelling, but there is almost no acceptance of the ideathat a bank would distribute another local manager’s product, which isseen as a competitor.Consequently, open architecture has little purchase in the Gulf so far,but many expect it, and hope for it. “It is very important for the developmentof the local asset management industry,” says Harshendu Bindal,senior director for CEEMEA at Franklin Templeton Investment Management.“Most local asset managers are focused on supplying product toGUIDE TO ASSET MANAGEMENT IN THE GCC15

their own distribution network. There aren’t too many saying: hang on,this is my product, I want the whole market to sell it.” Algebra Capital, inwhich Franklin Templeton owns a minority stake, is a rare example of anindependent, involved in manufacturing but doing no distribution ofits own, and therefore selling to all segments of the market. There aren’tmany others. “For the industry to evolve it needs to start competing,”says Bindal.Local houses are generally resistant to change. “We structure our ownfunds, and for distribution we use our branch network and our institutionalrelationships,” says Joel D’Souza at Commercial Bank of Kuwait.“We will not distribute through our retail channel someone else’s productsthat would compete with our own.”But in some markets, regulatory change is likely to drive a shift in approach.This is clearest in Saudi Arabia, where the arrival of so many newlicensees without an established branch network presents them with thechallenge of how to distribute their product. If they hope to reach massaffluent or retail investors, the only realistic way to do so is to strike distributiondeals with the banks that have the branches – unheard of today.“We’re already hearing lots of talk about third-party distribution in themarket but we haven’t seen it implemented,” says Sami Abdo, managingdirector at NCB Capital, the securities arm of National Commercial Bank.It won’t come easy, though. “It becomes very difficult to access distributionnetworks because you are dealing with your competition, thelong-established commercial banks, to a certain extent,” says TarekSakka at Ajeej Capital. “It’s a challenging situation at this stage for thosewho target retail distribution as there are no independent distributionchannels. White labelling is one approach investment management companieswould seek.” Ajeej is itself another example of an independentfund manager appearing in the Gulf; there are likely to be more in futureif they can find the people.There are the first signs of investment platforms arriving in force in theGulf, chiefly through insurers. Groups like Zurich, Friends Provident, MFS,Alico, Omnia and Skandia offer insurance products linked to investmentplatforms. “Every month when I look at a particular platform, I see moreand more of my distributors signing up for it and putting tickets throughit,” says Harshendu Bindal at Franklin Templeton in Dubai. “If there weretwo or three using it a year ago, there are 15 to 20 now.” He adds: “Lotsof companies are finding the easiest way to get traction is to have theseunit-linked insurance plans on their platforms. That’s the easiest sell.”Invesco, which services sovereigns, institutional and retail, has “beensuccessful in getting on a number of panels of global banks and regionalbanks who are starting to engage in open architecture,” according toTolchard. His take on open architecture in the region is that “we are startingto see it appearing as infrastructure: local banks are starting to offerthose products, but I’m not sure they’ve taken off yet. They’re recruitingstaff, relationship managers to sell their propositions to the marketplace,and it’s a fairly drawn-out process before we end up in a situation wherethey all have investment platforms.”Platforms have made such headway elsewhere in the world because ofthe fee savings they represents for customers. “For a person to sell a fundand ask for a big front-end load is a big issue in this part of the world,”says Bindal. “Insurance doesn’t have those issues, and the commitmentin a lot of these plans is for the long term. All those things make it easier.”He also argues this method of distribution fits the profile of the growingand settling white collar workforce in the Gulf.Tarek Sakka, CEO of Ajeej CapitalAn interesting development took place in April when Ahli United Bank, ofBahrain, and Legal & General Group signed a memorandum of understandingto set up a new regional life insurance joint venture headquartered inBahrain. It will “initially offer a range of takaful [Islamic insurance] life andhealth insurance products and pension plans to retail and corporate customersin the Gulf region,” according to Ahli United. The trend demonstrates boththe increasing influence of Islamic finance in the region, and the role thatinsurance product can play as an agent for development of asset managementin the Gulf.Later that month, Prudential Asset Management said it had received regulatoryapproval to set up a joint venture in Saudi Arabia with Bank Al Jazira, tobe called Prudential Jazira Asset Management. In addition to selling funds, theventure will launch an Islamic insurance business, which will include Bank AlJazira’s existing takaful business. As an insurer, Prudential has been expandingin the Middle East for two years, setting up in Dubai in 2006.Haissam Arabi, managing director of SHUAA Asset Management, describes thesale of unit-linked investment products by insurers in the Gulf as “very promising,but we’re not seeing the level of awareness within local and regionalinsurance players to capture that opportunity. Big names like Old Mutualcome in with the local banks as distribution platforms to wrap things aroundtheir policies and their investment schemes. But in terms of opening the doorfor local and regional asset managers to do the same, we’re not there yet.”For domestic asset managers, a challenge is getting retail investors to see thebenefits of investing with them in the first place. “The number of mutual fundson offer, and demand for them, is on the rise, but retail investors here still preferto be in equities directly rather than investing in mutual funds,” says D’Souzaat Commercial Bank of Kuwait. Partly in recognition of this, CBK recently took amajority stake in a brokerage in Kuwait, Union Securities Brokerage.It’s gradually changing, though. “We’ve seen some positive developmentslately,” says Tarek Sakka at Ajeej. “More investors are comfortable movingto institutions to manage their money instead of managing it themselves,especially after the 2006 market crash,” he says. In Saudi in particular, it is anuphill struggle because many IPOs are geared towards the mass market: thegovernment typically sets a minimum allocation per subscriber, meaning thatif a deal is oversubscribed (and they always are these days) then it’s the smallinvestors who benefit, while institutions do not get their pro rata portion. Thisincentivises retail investors to go into IPOs, rather than to have their moneymanaged professionally. But all things change in time. “It’s not to thelevel we would like to see,” says Sakka, “but it’s in the right direction.”

Fixed income, equity, localand international assets –a demand for allFund managers in the region are finding demand for a wide range of products, even thoughmany investors still have very local interests at hearttor still wants home exposure. “There are now so many productsand funds offering MENA, but only sophisticated or internationalinvestors look into these products,” says one domestic fund manager.“It’s mostly local-centric.” After local equities, money market and realestate are the next most popular, he says.Be that as it may, change is under way. Several Gulf-based managershave developed sector funds, very rarely seen a few years ago. Thereare, for example, four regional telecoms funds in the region now:Kuwait Investment Company’s Al Atheer Fund, National InvestmentCompany’s Zajil Services & Telecommunications Fund, the EFG-Hermes Telecom Fund, and another from Saudi Arabia’s Riyad Bank;the National Investor, an Abu Dhabi manager, also plans a telco fund,“What’s currently in demand, and will be, is mainly regional funds. It’s gettingmore and more difficult to sell country-specific funds”Product is an exciting field in a state of rapid evolution in the MiddleEast. Local managers are moving rapidly from country-specific equityfunds to a host of other asset classes; internationals are finding appetitefor a wide range of their global product book.For local managers, equities remain the dominant asset class, althoughthat is shrinking somewhat. Looking at the asset allocation of local mutualfunds in Saudi Arabia and Kuwait from 2005 to the middle of 2007,the proportion of assets that is in shares was 72% in 2005, before fallingwith the 2006 stock market crash and hitting 52% in 2007.These have traditionally been local country funds. Almost every fundmanager of any consequence in the Gulf offers one in their home market.The Dubai-based research group Zawya tracks 208 products, and 93of them are single-country equity funds.Over time, though, more regional products have appeared. Zawyatracks 23 GCC equity funds and a further 11 MENA funds, and moreare appearing. Shahid Hameed, head of asset management for GCC atGlobal Investment House, says this is the future – even though Global issomething of a pioneer in country funds outside its home market, evenoffering a product focusing on the Palestinian Territories. “What’s currentlyin demand, and will be, is mainly regional funds,” he says. “It’s morechallenging to sell specialized country-specific funds. For us it’s Kuwaitifunds [Global’s home base] and regional scope funds like GCC or MENA.”This approach is going to be the one that appeals to international capital.“If I want to sell to an international level and tap into the western andAsian markets, it makes a lot of sense to have a geographical spread,” hesays. “If we look at the GCC as a bloc it starts looking very interesting interms of its size: there’s a trillion-dollar market capitalization.”There are more under way. “You see a lot more competition,” saysHameed. “When I launched my first fund five years ago [then at SICOin Bahrain], we were amongst the very few GCC focused equity funds.Now almost every bank in the region has some sort of GCC fund.”The local view, though, remains exactly that: local. The average inves-alongside other sector funds in financials, real estate and industrials.As befits the oil wealth of the region, there are funds for industrialand petroleum services (from National Investment Company); globalenergy, petrochemicals and downstream industries (Global InvestmentHouse); and industrials (HSBC/SABB in Saudi, which also runs afinancial sector fund).There aren’t, yet, any small cap funds, because the markets simplyaren’t deep enough to warrant it. A handful of index funds are sold,among them a global product from Global Investment House andcountry-specific funds from Industrial and Financial Investments Company(in Kuwait) and Abu Dhabi Commercial Bank (in the UAE). Thisshortage of index funds is puzzling in a market where many peopleseem to show an enthusiasm for market exposure without a greatdeal of discernment between the merits of individual stocks.A handful of local managers run their own international equity products,notably Global Investment House and Saudi Investment Bank, but generallylocal managers sell white-labelled products from internationals. Thereare a number of India funds, though often with underlying stock selectionsmade by people on the ground there; Commercial Bank of Kuwaitsells an India fund of funds, and Bahrain’s Al Amin Bank plans a ShariahcompliantIndian stock market fund managed by Kotak Mahindra.GUIDE TO ASSET MANAGEMENT IN THE GCC17

On the debt side, the vast majority of funds in this area are money marketproducts, sometimes referred to locally as trade finance funds, or theirIslamic finance equivalent, murabaha. This is the biggest part of the ‘other’category referred to in the Cerulli chart on Saudi Arabia and Kuwait.But mainstream fixed income debt funds are rare indeed – 1% of theKuwait and Saudi markets. They do exist – Global Investment House,Gulf Investment Corporation, Kuwait Investment Company, HSBC andSHUAA Asset Management run bond funds – but they are strangelyunder-represented.Some see an opportunity. Algebra is in the process of launching a localcurrency corporate debt fund for the MENA region, believed to be the firstof its kind. Daniel Smaller, managing director of sales and distribution atAlgebra, says the corporate debt fund will aim to be highly liquid so localinvestors can use it in place of cash investments. “They’re getting paid 1or 2% on their deposits,” he says, whereas the yield on a debt fund shouldbe higher. It should also appeal to international investors because of lowvolatility and high credit ratings for regional debt, plus the benefits thatwill come if currencies de-peg from the US dollar and revalue upwards.Algebra also plans a sukuk fund – see the Shariah chapter for more on this.Logically, debt funds ought to have a bright future in the Middle East. “It isAlternatives generally are in increasing demand, including hedge fundsand infrastructure. UBS has formed a joint venture with Abu DhabiInvestment Co to launch a MENA infrastructure fund, where ADIC doesthe screening and UBS manages the infrastructure. The fund will sell inAsia, in Europe and the Gulf itself, with Asia expected to be a particularsource of appetite. Among hedge funds, there are some local products– two prominent examples are the Alternative Strategies Fund sold byGulf Investment Corporation in Kuwait, and a fund of funds sold by EIS,the asset management arm of Emirates Bank, in the UAE – while themost prominent international manager to have built a presence in theregion is Man Investments.Foreign fund managers are only now beginning to launch MiddleEast products of their own, and generally do so by subcontracting theinvestment process rather than trying to do it themselves. Schroders,for example, has a Middle East fund (interestingly, it can’t be sold in theUAE because it includes Israeli stocks) but runs it from London ratherthan its DIFC office, with most of the management handled by AlgebraCapital on a sub-advisory basis. Algebra is part owned by FranklinTempleton, and represents a manufacturing or sub-advisory base forthe Middle East for the US group (the two recently launched a MiddleEast fund in Korea in this way, for example). JP Morgan has a MiddleEast Equity Fund which had $756 million in it in early April.“It is estimated that $2 trillion of infrastructure spending is going to be donein the Middle East in the next five to 10 years. You can’t raise that with equity”estimated that $2 trillion of infrastructure spending is going to be done in theMiddle East in the next five to 10 years,” says Smaller. “You can’t raise that withequity, and bank lending has its limits. You need an efficient bond market.”Two asset classes are mentioned constantly by local and global managerswhen asked what is popular: real estate and private equity. Directinvestment in real estate is as popular as local stocks in the Gulf; it standsto reason that real estate funds, offered locally by several managers,should be popular too. This is despite the fact that the real estate investmenttrust market has not yet developed strongly, although legislationwas passed in 2006 for the Dubai International Financial Centre to createdomestic and international REITs.Private equity is a huge area of interest; the Gulf Venture Capital Associationbelieved there to be about $25 billion invested in private equity fundsin the Middle East by the end of 2007. Private equity fits the Gulf very well:stock markets are young and have a relatively small number of stockslisted on them, so there is a great opportunity in smaller companies thatare not yet listed and can benefit from private equity investment. Anotherimportant element of this appeal is the passing of businesses from onegeneration to another. Abraaj Capital is the best known private equitymanager in the Gulf; it has $5 billion under management.It used to be that structured products were particularly popularin the Middle East. “When I first started going to the Middle East,”recalls Nick Tolchard at Invesco, “mutual fund sales were quiterestricted and there were a lot of capital guaranteed products onthe market. In the last few years people have increased their revenuefrom mutual fund sales.” Volatile markets – the UAE stock marketdropped over 70% from its peak between mid 2006 and early 2007– do tend to make capital-protected products more appealing forinvestors, although Tolchard says: “we would argue that mutual fundsremain a good long term opportunity and we would encourageinvestors not to automatically swing back into capital guaranteedstructures like we used to see.” Nevertheless structured products doremain areas of strength for foreign houses such as SG, BNP Paribas,Deutsche Bank, ABN Amro and UBS, generally coming out of theirinvestment banking divisions rather than the assetmanagement teams.So there is plenty of activity in Gulf product manufacturing, but thelevel of penetration is still reasonably weak. “A lot is happening,” saysShahid Hameed at Global. “If you look at assets under managementin the industry overall and compare that with the bank deposit base,it is clear that the regional asset management industry is poised forseveral years of robust growth.”

Shariah-compliant markettests perceptionsOpinions are divided on quantifying the vastly important market for Shariah-compliant investmentproducts, leaving institutions about how what resources to devote to themSome remarkable numbers are thrown around about the global Islamicfinance industry, though debate rages as to how reliable they are; commonlycited figures are $500 billion in managed assets, and a growth rateof 15–20%, underpinned by almost 300 institutions.So if that’s the case, why isn’t every international fund manager trying tosell Shariah-compliant versions of their global equity products to highnet-worthpeople in the Gulf?It’s one of the complications of this fascinating area. Shariah-compliantinvestment is clearly of immense importance, but opinion is enormouslydivided on how to quantify it. At a regional level, it is clearly wellentrenched; in Saudi Arabia, 53% of funds, and 72% per cent of assets,are Shariah-compliant. That country alone accounted for 103 Shariahcompliantfunds at the end Source: of 2007, EIU, according QFC, Cerulli to Associates Tadawul, Saudi Arabia’sForeign managers' views on Shariah offerings, 2007stock exchange. In most other markets Shariah funds are a minority, butare still a highly important chunk of the market: 87 funds running $1.3billion in Bahrain; 33% of the Qatar market, and 30% in each of Kuwaitand the UAE. So where are the foreigners?One easy conclusion is that foreign managers chiefly service institutions,and particularly sovereign wealth funds, who appear to have littleinterest in Shariah-compliant mandates. Take a look at the stakes takenby groups like ADIA, or by Saudi Arabia’s Prince Alwaleed, in internationalinvestments banks like Citigroup and UBS. There’s nothing Shariah-compliantabout an American or Swiss investment bank, clearly. “KIA will notfor the heck of it invest in a Shariah-compliant company, but if the bankshave a good local fund which invests in good local companies [and happensto be Shariah-compliant] that may tickle their interest,” says oneKuwaiti fund manager.Consequently some fund managers show little enthusiasm for puttingheavy resources into this area. “We see Islamic product as an area wherethe local banks have more interest at the moment,” says Nick Tolchardat Invesco. “We are able to run portfolios against an Islamic screen, butwe are not necessarily going to go into the market with a full set ofIslamic retail products. There’s plenty of business to be had in our moreconventional product areas.” Another major western fund managerexpresses a similar view. “If they [clients] ask us for Shariah compliantproducts we can certainly cater for them. But at the sovereign wealth orpension fund level the need for Shariah-compliant funds is not strong.It’s growing much more within the core affluent, high-net-worth area ofprivate individuals.”But some fund managers do report increasing interest on the part ofMiddle Eastern institutions in Shariah-compliant products. “I believe it’s astrong institutional story,” says Scott Callander at Axa, although he doesadd the caveat that the enthusiasm relates to particular asset classes.“We’ve seen an almost exponential rise in the number of real estatetransactions under Shariah compliance,” he says. “From the nature ofthe assets through the tenants to the structure, they are all compliant.”Private equity is another area of interest, as is sukuk, which Callander says“will probably be one of the fundamental building blocks for the capitalmarkets in the region.” Infrastructure is another area of growth in Islamicfinance. “There’s increasing appetite to attract external capital into theregion and I don’t think that’s going to go away, it’s a key future trend inthe development of the region.”“It’s a retail product, it’s a high-net-worth private client product, and it’sa corporate product,” says Douglas Hansen-Luke at Robeco in Bahrain.“Any Muslim who is offered an Islamic alternative and is offered a conventionalalternative, they are virtually duty bound to accept the Islamicone if it doesn’t leave them worse off.” That accounts for the growingretail presence, which may in turn drive institutional interest as well.Sami Abdo at NCB Capital in Saudi Arabia, one of the leaders in Shariahcompliant mutual funds, says “the majority [of demand] is from individuals”but adds: “One feeds into the other. The more individuals demandIslamic, the more they put pressure on companies to become Islamic.Shareholders will have an influence.”One fund manager believes the time is not far away when shareholderactivism becomes prominent in the Gulf, “and good corporate govern-Foreign managers’ views on Shariah offerings, 2007Significant decrease2%Slight decrease5%Don’t know/ Not applicable17%No change25%Source: EIU, QFC AuthoritySignificant increase20%Slight increase31%GUIDE TO ASSET MANAGEMENT IN THE GCC19

Number of Shariah vs non Shariah funds in the region 2007 estimatesNumber of Shariah-Compliant vs non Shariah -compliant funds in the region 2007 estimates1008060%40200Saudi Arabia Bahrain Qatar Kuwait UAE OmanShariah compliantNon Shariah compliantSource: Saudi Arabian Monetary Agency, Central Bank of Kuwait, Central Bank of Bahrain, Cerulli AssociatesSource: Saudi Stock Exchange (Tadawul), Central Bank of Bahrain, Zawya, Gulfbase, Cairo and Alexandria Stock Exchanges, Cerulli Associatesance, to them, will mean financing themselves and investing in an Islamic product line. We are working towards the second scenario. So to say weway. Shareholder activists will look at the accounts of, say, Sabic, and say: want to do a fund therefore we need 50 or 100 or 200 million, it’s nothave you borrowed your money in a way that is Islamic?” He also expects what we’re trying to achieve.”that when a pension fund industry really takes root, pensions are likely tohave to offer a choice of conventional and Islamic options, and that the For local managers, though, Shariah funds are bread and better. “ThereIslamic ones will be the ones that thrive.is huge demand, in Kuwait and the GCC region, for all types of Shariahcompliant funds and products, from retail and from institutional investors,”says Joel D’Souza. “Many new Islamic investment companies areBesides, there are signs that this could be the year when foreign institutionsfinally see enough interest in Shariah products to launch their own. coming up now in the region and these entities cannot invest in or offerAt Franklin Templeton, Harshendu Bindal says he is “evaluating that offeringquite seriously. We feel that this is something we are going to add to,” world’s biggest Islamic financial institutions, Kuwait Finance House. Innon-Shariah-compliant funds and products.” Kuwait hosts one of thethough he stresses it is a “work in progress”.Saudi Arabia, there are already three entirely Islamic banks (Al Rajhi, BankAlbilad and Bank Al-Jazira) which obviously only sell Islamic product;On the face of it it seems the simplest thing for a foreign manager to launch many of the bigger conventional managers like NCB Capital and SABBa Shariah version of its global funds. In equities, surely all one has to do is are focusing almost entirely on Shariah products for new launches,put a screen through it to keep out stocks in un-Islamic sectors like alcohol, particularly in equities.and to remove inappropriate levels of interest and gearing? Bindal challengesthis. “You’re building a whole infrastructure,” he says. “It sounds very And even when internationals do finally bite the bullet and launch asimple, but when you want to do it in a globally portable manner – so not Shariah range, that’s not going to impede on local managers: locals willfor one or two markets, but for every distribution channel – it’s not easy. If offer GCC or single-country funds, and multinationals will offer Shariahwe believe we can get economies of scale and can come out with a product compliant versions of their existing global products.that is available for global consumption, we will take the next step.”One interesting area of Islamic finance is the sukuk market. A sukuk is anDaniel Smaller at Algebra Capital takes a similar view. “Larger asset managementgroups are maybe not set up to distribute to that client base. The pay an attractive yield. Everyone would like to hold them, and that’s theIslamic bond, and they represent a sophisticated market for issuance andwhole marketing approach, setting up a Shariah board; they don’t have experiencein that. And it’s not just running a screen. When a fund managerproblem: they almost never trade.has been running a global equity portfolio and all of a sudden you take That’s the biggest reason sukuk funds have been slow to appear,away 30% of his stocks, it causes a rethink in his investment process.” although a few are now under way. The first two came from newlyestablished fund managers in Saudi Arabia, Falcom Investments andThose multinationals who have tried to launch Shariah products are in Jadwa Investments. Jadwa gets around the liquidity issues by buying upsomething of a minority: DWS, for Deutsche Bank, has done so, and HSBC sukuk at a proprietary level whenever they become available, and thenAmanah. Most other Shariah products from multinationals don’t actually selling them on to the fund as demand requires. Next off the rank will become from the fund management part of the business, but the investmentbanking arm, and are structured products rather than funds; UBS for these funds is that views on Shariah compliance vary across theAlgebra Capital, with its own sukuk fund due in May. Another challengeis an example. Others in the market feel that the Shariah funds “haven’t world: Malaysia has a vibrant sukuk fund but because of the underlyingraised significant assets.”assets, they are often not considered compliant by Middle Eastern Shariahscholars. It is understood Saudi Arabia’s Al Rajhi Bank would haveBut where do those economies of scale lie? How much demand islaunched such a fund years ago if it could get enough securities past itsenough to make it worth the while of a Fidelity or a Prudential or an Invescoto make a Shariah product line? “We have a technical number thatShariah advisory panel.is very small – every fund class has a certain minimum – but what we Instead, the bulk of Islamic debt securities use a structure called murabaha,and their closest equivalent in conventional finance is money market.look at is: is this really economically viable from a longer term perspective?”Bindal says. “If my strategy is to come out with one fund and say These funds are particularly popular in Saudi Arabia, and some of thecan this be made viable, the math is very different to coming up with a largest individual funds in the whole Middle East fall into this category.GUIDE TO ASSET MANAGEMENT IN THE GCC20

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