Global Investor spoke to Khalid Al Hussan, chief executive officer at the Saudi Stock Exchange (Tadawul), about the latest market enhancements and planned developments.

How has the MSCI upgrade to emerging market status impacted Tadawul and changed perceptions of Saudi Arabia as a market?

The MSCI upgrade to emerging market status, as well as the inclusion into the FTSE Russell and S&P Emerging Market indices, has accelerated the participation of international investors to the Saudi stock market. The reforms and market enhancements implemented over the past two years have aligned Tadawul with international best practices, which has been recognised by the inclusion into these key global indices. Between the decision to open up the Saudi market to international investors in February 2015, through to the day before the announcement of inclusion in May 2018, 130 Qualified Foreign Investors (QFIs) were registered to be able invest and trade directly in Saudi equities. As of the end of July, and in the space of only 13 months, this increased to over 1,305. The increasing participation of QFIs has also assisted the Saudi stock market index (Tadawul All Share Index or TASI) deliver 8% growth in 2018, compared to a more than a 16% drop in the MSCI Emerging Markets Index. The TASI has risen by 13% in 2019, also outperforming most other global markets. Supporting this dynamic out-performance of other markets, foreign investors were net buyers of more than SAR51 billion of Saudi shares from January up to the end of April 2019. The further implementation of the remaining index inclusion tranches is expected to further accelerate inflows.

The performance of the TASI and the increasing volume of QFI participation fully underpin a significant change in perception towards the Saudi market over the past few years.

Why was it important to establish a CCP? Is the CCP now fully operational? What more needs to be done?

Tadawul’s strategic plan is designed to create an exchange with world-class turnkey solutions. The Securities Clearing Center Company’s (Muqassa) role as an independent clearinghouse directly enables the achievement of that strategy by strengthening the market’s post-trade infrastructure, provides centralised counterparty risk management in accordance with international risk management practices, and enables the introduction of new products and services, such as the derivatives market.

Muqassa will be operational in the market once all required regulatory approvals are complete, which is expected in the second half of 2019. Muqassa also anticipates a three-phase market activation:

• Phase 1 will cover index future contracts clearing, anticipated in 2019.
• Phase 2 will cover equities, sukuk, bonds, ETFs and REITs markets clearing, anticipated in 2020.
• Phase 3 will cover the full derivatives market clearing, anticipated in 2021.

We are working closely with The Capital Market Authority (CMA), Saudi Arabian Monetary Authority (SAMA), and market participants in order to activate Muqassa in the market successfully this year.

Can you outline the latest developments of securities lending/short selling? What benefits does securities lending bring to the market? Was there any market resistance/scepticism to the introduction of securities lending?

The introduction of securities borrowing and lending, and covered short selling, coincided with the establishment of the Securities Clearing Centre Company (Muqassa), T+2 settlement, the spin-off of the Securities Depository Center Company (Edaa), amongst a range of other market enhancements. The security lending enhancements have been implemented in accordance with international best practice and risk management standards. The addition of these enhancements allows investors to use hedging strategies to mitigate risk when investing in the Saudi capital market. This has helped accelerate the attraction of our markets to QFIs.

In view of the substantial reforms and enhancements implemented over the past two years, including securities borrowing and lending, a broad range of emerging market stakeholders, including market participants, investors and QFIs, have welcomed the changes as they were directly engaged in considerable consultation with Tadawul for these developments over the past few years.

What are the plans/timelines for the introduction of derivatives?

Introducing derivatives trading is one of the initiatives under the Vision 2030 Financial Sector Development Program, further advancing Saudi Arabia’s capital market. Tadawul intends to launch exchange-traded derivatives that would be centrally cleared through Muqassa before the end of 2019.

The first exchange traded derivatives product, in preparation for the broader derivatives platform, will be the index futures contract with the underlying being the MT30 index (to be launched in the second half of 2019). Additional products shall be launched subject to market demand, including index options, single stock futures and options.

What other market enhancements are being made by Tadawul as we approach 2020?

Recent enhancements to the sukuk and bonds markets represent an important step in developing the Kingdom’s public debt market by encouraging issuers to list more Saudi currency sukuk and bonds and facilitating increased trading by investors, which will result in increased market liquidity. Increased liquidity in the public debt market will, in turn, contribute to the issuance of more diversified debt instruments and introduction of new asset classes for investors. On April 25 2019, Tadawul, along with CMA and the Debt Management Office (DMO) unveiled a number of enhancements to the fee and commission structure of the sukuk and bonds market. The changes were only recently implemented in the last few weeks.

In the first quarter of this year, Tadawul also unveiled a series of structural changes to Nomu – the Parallel Market aimed at supporting the growth, development and sustainability of the SME-focused market, increasing the number of listed companies on Nomu and enhancing market liquidity.

More recently, we implemented a daily “Trade at Last” session immediately following the closing auction as an additional 10-minute session during which orders can be placed and matched at the closing price.

What important steps are being taken to market entry and investment for QFIs?

Beyond committing to the enhancements and developments that we have already discussed above, we will support market entry and investment for international investors through continuing to align Tadawul to international best practices and taking the necessary measures to advance Saudi Arabia’s capital market.

To this end, we will continue to focus on sustainability, ESG reporting and transparency as they are very important to the investor community and have made a significant difference in Tadawul’s perception and participation. For example, Saudi Arabia’s global shareholder governance rank jumped from 77th in 2017 to fifth overall, and second among G20 economies in 2018 (World Economic Forum’s Global Competitive Report, 2018).

More broadly, capital market reforms – particularly those aimed at encouraging international investors’ participation in the Saudi capital market – have been a linchpin in unlocking the Kingdom’s economic and investment potential. Far-ranging reforms undertaken by Tadawul in conjunction with the Capital Market Authority over the past two years have improved market function and efficiency, expanded access, enhanced corporate governance, and increased transparency, further aligning the Saudi capital market with international standards and making it more attractive to international investors.

As we strive to achieve our goals of becoming an active player in the global capital markets and an investment destination, we will continue to make the necessary steps to offer investors a full and diversified range of products and services. 

This Q&A features in the Middle East and North Africa Securities Finance Guide 2019. Download the full guide here.