In the MENA region these days, more specifically in the Gulf countries, and according to the local media, would Recession in the GCCs countries be local, regional or part of this global recessionary wave that is sweeping the world. As specified by local banks and financial institutions ratios, this could not be more visible. In fact, it is no more hushed around but perceived at street level; this also seems to be a matter of learned opinion.
The price of oil, the Chinese so-called recession and lately the Brexit, all despite the huge GCC governments investments in infrastructure, are affecting all investors, GCC nationals and residents alike. They really are worried, and as a consequence, these seem to have all been holding tightly to their cash this year, whilst consolidating their resources and reducing their fixed assets especially that held overseas.
Meanwhile, U.S. Economic Confidence Hits -10 in Final Week of July as per the latest Gallup Economic Confidence Index ended July on a high note, climbing to no less than -10 at the end of the month after having generally averaged -15. The statistics will shortly tell us that there were less GCC tourists in London, New York and / or Paris this July; but this is another story.
The NYTimes of August 2nd, 2016 published a story on Egypt. It goes on saying that :
“After five years of political and economic turmoil, a sense of gloom hangs over the country. Traditionally a leader of the Arab world, politically and culturally, and home to a quarter of its population, Egypt has become inward-looking and politically marginalized in a way not seen for generations. The economic ingredients that caused 2009 just aren’t there anymore. The US mortgage backed securities and default swaps that caused 2009 have been regulated out of the market, as has been the high-leverage property purchasing in Dubai. So if it’s not 2009 all over again, then what are we feeling? It’s much more likely that what we are feeling is a natural ebb and flow of macro-economic trends.”
The Financialist of Credit Suisse published on August 1, 2016 an enlightening article on the prevailing conjecture written by Ashley Kindergan. After all that has been said above; is this recession local or is it global ? Please read on and comment.
Why Aren’t Businesses Investing?
Men Talking Business Analysis Concept
Interest rates in developed economies have been declining for the past 40 years. At this point, 60 percent of global GDP is generated in countries that have negative or near-zero interest rates. Germany and Switzerland have both issued bonds that yield negative returns to investors, and a handful of European corporations have done the same. The yield curve has also flattened significantly in recent years, making long-term debt relatively more affordable. In other words, it’s cheaper than ever to borrow long-term capital in both Europe and the United States.
In theory, the fact that their deposits are earning nothing or next-to-nothing in the bank should make businesses eager to borrow money to invest in research and development and make capital expenditures that stand to boost their long-term growth prospects. It hasn’t. A new white paper from Credit Suisse’s HOLT® Corporate Advisory team shows that corporate spending on both capital expenditures and R&D as a proportion of sales has been declining since the early 1990s. Even more baffling: such spending apparently has no correlation with changes in 10-year government bond yields – a proxy for prevailing interest rates – in either Europe or the United States.
There are several possible explanations for the lack of corporate investment in a world of negative rates. For starters, the services sector and capital-light industries (think Internet companies) play a much bigger role in developed economies than they did even a decade ago, reducing the overall need for capital outlays. Businesses have also amassed near-record cash balances, allowing some of them to invest without borrowing. Low interest rates won’t make these companies any more likely to spend than they would if interest rates were high – firms that don’t need to borrow don’t need to worry about interest rates, either – but large cash piles don’t in and of themselves explain why overall investment expenditures remain low. Credit Suisse suspects a third reason is the most important for understanding the lack of corporate investment: Companies have not adjusted their hurdle rates, or the return they need to make to justify an investment, to reflect the lower-rate environment.
Many companies are clearly concerned about future market conditions. It’s hard to blame them, given the long-term structural changes in the global economy that have driven interest rates so low in the first place. The middle class is growing rapidly in emerging markets, and the developed markets are aging just as fast. Both trends have resulted in higher overall savings rates, the result of which is an environment characterized by slower economic growth and little to no inflation. Credit Suisse points out, however, that companies can manage the risk that investing money now will prove to be unprofitable in the future by spending in an incremental fashion – by carefully stepping up research and development expenditures, funding joint ventures in new markets, or making relatively small-scale acquisitions, for example.
One possible reason corporate hurdle rates have remained static is that if companies reduce the level of returns they require from a given investment, they will eventually reduce their overall return on invested capital, which wouldn’t please their shareholders. But lower gross returns on invested capital don’t necessarily translate to lower profits. The Credit Suisse paper cautions that it is important for companies to judge potential investments on the spread between expected returns and how much it costs to borrow, rather than the ROIC number alone.
In the final analysis, investing is always a risk. Yet companies that don’t invest in capital expenditures or R&D are taking risks, too. Today, businesses have a unique opportunity to lock in ultra-low, long-term interest rates, and those that fail to do so risk being forced to borrow after rates have risen, thereby increasing the ultimate cost of financing. Firms that forego or postpone the kind of R&D and capital spending that paves the way for future growth may also find themselves with lower valuations than their peers, which could in turn lead to shareholder activism or even takeover threats. What’s more, by waiting for high-return investment opportunities that may never come in this increasingly low-yield, low-growth world, companies are at risk of allocating capital inefficiently, either by holding too much cash or returning too much to shareholders in the form of dividends and stock buybacks. There’s no denying that we live in uncertain times – but doing nothing is hardly a sure bet.