Inflation on the rise in the UAE: Everything you need to know

For the month-on-month figure, consumer prices rose 1.2 percent, the biggest monthly increase since January 2018, according to new data from the Dubai Statistics Center.

Khatija Haque, Head of Research and Chief Economist at Emirates NBD, said: “The main driver of inflation in Dubai in recent months has been transport costs, which were up 28.8 percent year-on-year in April, accounting for around half of headline inflation.

“Food prices (8.6 percent higher year-on-year) were the second biggest driver of inflation in April, followed by recreation and culture costs and restaurant and hotel prices.”

Inflation rate in the Arab countries is expected to rise to approximately 7.5 percent in 2022, compared to 5.7 percent in 2021, reflecting the impact of international supply chain challenges and the rise in the prices of agricultural and industrial commodities as well as energy products due to current global developments.

The 16th edition of the Arab Economic Outlook Report released by the Arab Monetary Fund (AMF) added that some inflationary pressures are expected to emerge over the forecast horizon due to the anticipated increase in aggregate demand levels; the rise in consumption tax rates in some Arab countries, the depreciation of some Arab currencies against major currencies, and the impact of other inflationary factors that vary from one Arab country to another.

The report adds that the inflation rate is expected to witness a relative decline in 2023 to reach 7 percent.

Here’s an overview of the situation, what experts have to say about the rising inflation in UAE, the impact it has on investments and businesses and how it can be managed.

Situation overview:

• UAE consumers feel the pinch of inflation as prices of cooking oil and flour rise
• Dubai and Abu Dhabi rise up the rankings of most expensive cities for expats
• Why inflation is here to stay
• What will impact UAE consumers more: Rising interest rates or higher prices due to inflation?
• How are businesses in the UAE likely to manage rising inflation costs while retaining customers?
• Saudi business confidence dips amid inflation fears despite fastest economic expansion in a decade
• UAE Central Bank follows US Fed’s biggest interest rate hike since 1994 to rein in rising inflation
• Factors causing inflation of fuel and food prices ‘beyond the control of central banks’: experts
• IMF chief warns of ‘increased risk of recession’ in 2023
• UAE residents spending less due to rising inflation and cost-of-living
• Global food inflation looms as drought conditions worsen

Impact on the financial markets and investments:

• What traders need to know about navigating turbulent markets
• Evaluating concerns over inflation, recession, and your investments
• Need to curb excessive inflation growth before it is too costly for households, companies and governments
• Opportunities and potential risks in the asset class amid rising inflation, tighter policies and geopolitical tensions
• Inflation takes flight – but what goes up must come down

Positive market events despite rising inflation concerns:

• Dubai residential property market transactions reach AED61.9bn despite inflation concerns
• Jobs on the rise as inflation fails to dent the UAE’s biggest business upswing in 2022
• Business conditions in Dubai rise to near three-year high

UAE consumers feel the pinch of inflation as prices of cooking oil and flour rise

UAE consumers are feeling the pinch of inflation, especially while shopping for groceries, as the average price of cooking oil has increased by 20 percent and the cost of flour has risen by 40 percent, compared to the pre-pandemic prices of two years ago, according to industry experts.

Causes of this include the knock-on effect of the war in Ukraine, supply chain disruptions, and higher freight costs, according to food retailers who spoke to Arabian Business.

“Inflation rates have spiked this year in markets across the world and upward price pressure is affecting many products categories. This is due to several external factors upon which retailers can have limited control such as supply chain disruptions, shipping and transport costs, unpredictable weather, labour and production shortages, and raised consumer demand,” said Bernardo Perloiro, Chief Operating Officer – GCC at Majid Al Futtaim Retail.

“Necessary cost adjustments have affected products and categories ranging from corn and grains to meat and sugar,” he added.

Other maintain that while the impact of global inflation is something they’ve had to contend with for a while now, its causes have changed recently.

“The impact of global inflation is nothing new; it is only the causes that have recently changed. Since the early days of Covid-19, there have been major inflationary pressures from much higher freight costs,” said Tom Harvey, general manager – Commercial, Spinneys Dubai.

“We are now seeing that some of this is easing but other factors are at play. Many suppliers are facing significant cost challenges and the level of increase means that there is no option but to pass some of this on to the consumer on individual lines and brands,” he continued.

A recent World Food Programme report indicated that the cost of cooking oil is up 36 percent in Yemen, and has witnessed a 39 percent increase in Syria. Wheat flour is up 47 percent in Lebanon, 15 percent in Libya, and 14 percent in Palestine.

How consumers are coping with rising prices

Both Carrefour and Spinneys mentioned their branded products as cost-efficient alternatives to known food brands, mentioning that they’ve seen an uptick in consumer demand for these lines.

“We are however managing the impact of the rising costs by offering better value alternatives though our Spinneys branded products and are extending the scope of the range to encompass a much wider range than we have ever offered before at prices some 10 percent lower than leading brands,” said Harvey.

“We work closely with our partners and suppliers to understand the reasons behind any price increase, finding solutions to tackle this and protect the purchasing power of our customers. Not to mention, we will continue to provide discounts and promotions,” said Perloiro.

Earlier this morning, the World Bank, IMF, WFP issued a statement urging coordinated action to help vulnerable countries address growing threats to food security.

The proposed actions include providing emergency food supplies and deploying financial support to households and countries, facilitating unhindered trade, and investing in sustainable food production and nutrition security.

Dubai and Abu Dhabi rise up the rankings of most expensive cities for expats

Dubai and Abu Dhabi have risen up the rankings of most expensive cities for expats to live in, according to ECA International data.

Hong Kong has maintained its position as the most expensive location in the world, bolstered by higher prices and a stronger currency over the past year.

“Year on year price rises of 3 percent, as measured by our basket of goods and services, are higher than we typically see in Hong Kong, but are lower than rates in similar cities both within the region and globally,” said Lee Quane, Regional Director at ECA International.

Cities in the Middle East have mostly risen in the rankings in the last year with Dubai and Abu Dhabi up six and eight places respectively this year and Riyadh also up eight places to 28th.

Production Manager at ECA, Steven Kilfedder, said: “With inflation up globally, including in the UAE and elsewhere in the region, it is the strong currencies that have pushed cities in the region up in the rankings compared to other cities. The strong currency makes goods and services cheaper for those from other countries.”

ECA International has been conducting research into the cost of living for 50 years, and compares a basket of like-for-like consumer goods and services commonly purchased by foreign workers in over 490 locations worldwide.

Many locations in Asia have witnessed above-trend rates in inflation in the past 12 months. The location which has seen the fastest rate of price growth in the past year has been Colombo in Sri Lanka, causing it to rise 23 places in ECA’s rankings to 149 globally.

Many mainland Chinese cities have continued to rise in the rankings, with four cities now included in the 15 most expensive cities globally while Shanghai is also now the third most expensive city in Asia after Hong Kong and Tokyo.

Japanese locations have all dropped in the latest rankings as the yen weakened due to unexpectedly higher inflation, alongside negative interest rates.

Most locations within the EU have seen drops in the rankings after an unsteady period for the euro, with Paris falling out of the global top 30 and cities such as Madrid, Brussels and Rome all falling too.

Why inflation is here to stay

The increased prices consumers have been struggling with lately are here to stay, given the current geopolitical tensions and the continuing supply chain disruptions, said Vijay Valecha, chief investment officer, Century Financial.

And while the GCC is comparatively better off than other regions, inflation is very much a global issue nowadays, explained Valecha.

“Inflation is rising across the globe, and it is not a GCC-specific phenomenon. In particular, US Consumer Price Index rose 8.5 percent year-over-year in March, the most significant jump since December 1981 and an acceleration from February’s 7.9 percent rate,” he said.

“In this context, the 7.5 percent surge in inflation in Arab countries is not surprising,” added Valecha.

Given that Russia and Ukraine account for more than a quarter of the world’s trade in wheat – the price of which has increased from $7.58 at the beginning of January to $10.82 – the increasing food and energy prices in the Arab world can partially be attributed to that.

“Both Russia and Ukraine are vital suppliers of a raft of agricultural goods to regions including Asia and the Middle East and account. Moreover, both wheat and corn are primarily used as cattle feed across the globe, and as a result corn also has rallied due to the substitution effects. So this is a vicious cycle,” explained Valecha.

Rising fuel prices have impacted Dubai’s airlines but both Emirates and flydubai said they are taking measures to control ticket prices as much as possible.

“Emirates, like other airlines, has been impacted by the increase in fuel prices. We are watching developments on the price of fuel closely, and are working hard to offset escalating jet fuel costs wherever possible,” said an Emirates spokesperson.

“We continually review ticket prices, and adjust whenever necessary in line with market dynamics, the competitive environment, seasonal effects and travel demand recovery, consumer booking behaviour, jet fuel prices, along with a number of other factors,” continued the spokesperson.

Inflation within the GCC context

Central Banks are viewing the current scenario seriously, and major GCC nations are likely to witness a 200 basis points increase in benchmark interest rates, in line with the US Federal Policy, explained Valecha.

“Minutes of the Federal Reserve’s latest meeting showed that a half percent rate increase is possible in the next meeting. The report also indicated that it could reduce its bond holdings by about $95bn a month. Lower demand for bonds signifies lower bond prices and thus more high yields, which will also be reflected in the Arab world,” he said.

“In the GCC context, governments are enjoying the windfall of high oil revenues that would help reduce their deficits. As a result, all major Arab economies, including Saudi Arabia and the UAE, could see a marked reduction in fiscal deficits in 2022,” continued Valecha.

Valecha mentioned tax rates as a GCC-specific factor influencing inflation.

“For example, Saudi Arabia had tripled the VAT rate in 2020, while Bahrain recently doubled it. Oman has already introduced VAT, and UAE is planning to introduce corporate tax in 2023,” he said.

“Taxes are inflationary as they increase the prices of goods and services. However, the GCC tax increases have the long-term objective of diversifying their economy and is a strategic move to transition to a post-oil economy. So the rationale behind the move cannot be questioned as the world is shifting to clean energy and Arab governments need to sustain themselves,” continued Valecha.

The inflation trend is unlikely to subside anytime soon, said Valecha citing the ongoing Russia-Ukraine war and supply chain disruptions as the main reasons for that.

“It doesn’t look like the geopolitical tensions will subside soon. So increased prices are here to stay, and high energy costs aggravate this scenario-supply-side bottlenecks in semiconductor chips have affected products ranging from mobile phones to automobiles. The blockages in the supply chain might continue for at least one more year as substantial capital investments are needed to expand the production capacity,” he said.

“Inflation or rising prices is a macroeconomic phenomenon, and once it happens, it could persist for some time. A decade back, China’s then Premier, Wen Jiabao, described inflation as a tiger that, once freed from its cage, is nearly impossible to put back,” added Valecha.

What will impact UAE consumers more: Rising interest rates or higher prices due to inflation?

The UAE Central Bank has raised interest rates, following the US Federal Reserve’s decision to increased the interest on reserve balances (IORB) by 50 basis points for the first time in over two decades.

The US Federal Reserve’s “aggressive rate hike decision” is in line with efforts to stop the economy from overheating and reduce inflation that is running at its highest levels in four decades, experts said told Arabian Business.

“The Fed rate hike will be reflected on all loans and mortgages. A half a basis point hike may not immediately deter consumers from borrowing less as it would have only a marginal impact on their interest payments,” Vijay Valecha, the chief investment officer at Century Financial explained.

“For now, consumers may feel the sting of higher prices (due to inflation) more acutely than the pinch of a half-point bump.”

However, the US Federal Reserve Chair Jerome Powell has also stated that similar rate hikes are on the cards for June and July, in order to curb surging inflation.

Taking this into consideration, Valecha adds: “Gradual hikes this year may lower consumers’ willingness to borrow at the then high-interest rates. Additionally, people may opt to spend less as many consumers in UAE spend using credit cards – and credit card debt is especially susceptible to climbing interest rates.”

As a result, continuing rate hikes from the central banks will result in consumers eventually paying more.

“Stack several rates increases together and consumers will start to feel the pressure. Markets are expecting a series of rate increases this year, which would then start affecting consumers purchasing decisions,” Valecha added.

“This move will result in higher borrowing costs in turn causing consumers to spend less and ultimately cooling the pressure on prices.”

Eventually, higher interest rates will help temper inflation, which will benefit consumers in the long run.

The macro strategist at Lombard Odier, Stéphanie de Torquat, said: “This time around, the move to accelerate the tightening cycle is opportune for the UAE. Economic conditions and cycles in the US and UAE do not always align. Today, however, with high oil prices having rapidly boosted regional economies, and inflation also picking up, curbing activity through higher rates is not an issue.

“While CPI growth in the UAE is much lower than that in the US, many of the factors driving US price pressures are also an issue in the Emirates, including much higher imported food prices, and renewed bottlenecks in global supply chains following China’s Covid lockdowns.”

The Switzerland-headquartered Lombard Odier does not see higher interest rates as posing a problem for economic activity in the region this year.

“We forecast above-trend growth in the mid-single digits for the UAE, as well as solid fiscal and external surpluses, thanks to the boost from higher oil prices, and an ongoing recovery in the property market,” Stéphanie de Torquat added.

From a banking and financial services perspective, the UAE’s decision to hike interest rates in tandem with the US Federal Reserve is expected to benefit local banks.

“In the rising interest rate environment, banks’ net interest margins increase, which will improve their bottom-line items,” Valecha concluded.

How are businesses in the UAE likely to manage rising inflation costs while retaining customers?

With global inflation is causing corporate costs to go up, businesses are beginning to address question around how they will handle product pricing.

While a third of businesses expect costs to increase by more than 6 percent in the coming year, as a result of the sharp increase in labour and production costs, 31 percent of businesses have neither increased nor plan to increase their prices in response to climbing costs and inflation rates, according to a recent Inflation Pricing Study by global consultancy Simon-Kucher & Partners.

The global study, which surveyed 3,000 businesses across 20 countries, including the UAE, also found that approximately half of businesses (52 percent) have a price increase or further price increase planned.

To delve into the findings of the report, Arabian Business sat down with Lovrenc Kessler, the managing partner at Simon-Kucher & Partners.

In a wide reaching interview, Kessler gave UAE-based businesses recommendations on how to manage price increases while retaining customers.

What stood out to you as the key findings of the report?

Price and cost are, more often than not, linked. Almost 60 percent of companies in the UAE view price increases as a core lever to counter cost increases in their industries. However, many companies (around 45 percent) do not have a clear view of how inflation will impact their costs.

This could indicate a lack of preparedness to tackle inflation in a strategic way. Companies will likely “react” to inflation by increasing prices either suddenly or without a structured and scientific approach as their costs increase, which could result in loss of profit or volume.

Meanwhile, the objective would be to plan price increases “proactively” by using inflation as a key instrument to project cost increases, giving companies enough time to revise their pricing and come up with a solid roll-out and price increase communication plan.

What are the main findings in the UAE?

While inflation in the UAE remains below global average (2.5 percent versus 5.1 percent in Euro zone and 7 percent in the USA), it has increased measurably within 1 year, rising by 458 bp from -2.08 percent in 2020.

This has naturally led to cost increases across industries, for which UAE companies tend to react to by increasing prices as aforementioned.

As such, we see that UAE companies are ahead of global in terms of price increase implementation, where 67 percent of UAE companies appear to have already increased price in recent months compared to a global average of 56 percent. 

What recommendations can you give UAE businesses on managing price increases while retaining customers?

Inflation offers a great chance to enforce price increases with a differentiated approach. B2C companies in the UAE and the region should consider applying a 4-step strategy to navigate this situation successfully:

(1) Set net price increase targets. This would allow companies to plan ahead for such increases instead of merely reacting to inflation across their value chain.

(2) Leverage shoppers’ willingness to pay (WTP). Price differentiation according to products and services based on WTP is the number one driver in the UAE for how much price change to implement.

(3) Develop a customer-centric strategy, especially for consumer B2C companies: customer centric prices that rather than doing flat price increases. Companies need to differentiate prices and take into account psychological price barriers, price recognition of the different consumer segments, product type and frequency of product.

(4) Finally, thoroughly prepare implementation of the price increase. Price increase communication is a key success factor often ignored or underestimated which could hinder volume.  

What other challenges do UAE-based businesses face managing inflation?

Having a view of the end-to-end supply chain and constantly monitoring the impact of inflation across it remains a challenge for businesses.

This is made more difficult for companies with international supply chains, whose costs are affected by inflation rates abroad which are higher than local inflation rates.

This can put such businesses at a disadvantage versus a competitor who has a 100 percent localised supply chain and can experience minimised cost increases in comparison.

To mitigate such risk, businesses in the UAE should set a plan to localise their supply chain, jumping on the current trends.

The timing is indeed suitable to invest in localisation as we observe increasing efforts across the public and private sectors to do so in the region (e.g., nation-wide initiatives focusing on local content creation, investments in expanding manufacturing ecosystems through special economic zones, heavy investment in digital and automation to manage costs, etc.)

UAE Central Bank follows US Fed’s biggest interest rate hike since 1994 to rein in rising inflation

The Central Bank of the UAE (CBUAE) has decided to raise interest rates, following the US Federal Reserve’s biggest interest rate hike since 1994. 

While announcing the interest rate hike, the chairman of the US Federal Reserve Jerome Powell admitted that the US central bank was attempting to curb inflation without causing a recession.

“We at the Fed understand the hardship high inflation is causing. We are strongly committed to bringing inflation back down, and we are moving expeditiously to do so,” Powell said.

“My colleagues and I are acutely aware that high inflation imposes significant hardship, especially on those least able to meet the higher costs of essentials like food, housing, and transportation.”

GCC Central Banks follow Fed interest rate hike

Most Gulf central banks followed the US Federal Reserve on Wednesday, lifting their key interest rates by three-quarters of a percentage point, while Saudi Arabia made a smaller hike after the latest data showed inflation there slowing slightly.

GCC countries have their currencies pegged to the US dollar, except Kuwait.

The Saudi Central Bank lifted its repo and reverse repo rates by 50 basis points (bps) to 2.25 percent and 1.75 percent, respectively.

The Central Bank of Kuwait raised its discount rate by 25 bps to 2.25 percent. Its peg to a basket, the composition of which is undisclosed, gives it more room to diverge from Fed policy if domestic economic conditions call for that.

The UAE Central Bank increased the base rate applicable to overnight deposit facility (ODF) by 75 basis points, effective from Thursday, 16 June 2022, after the US Federal Reserve Board’s revealed its decision to increase the interest on reserve balances (IORB) by 75 basis points.

Attempt to curb inflation without causing a recession

Powell added that the US Federal Reserve cannot control all the factors driving inflation.

Due to the Russia-Ukraine crisis, oil prices have soared in 2022, hovering at approximately $110 per barrel, while the cost of commodities such as wheat have increased significantly.

“I think events of the last few months have raised the degree of difficulty, created great challenges,” Jerome Powell said.

“There’s a much bigger chance now that it’ll depend on factors that we don’t control. Fluctuations and spikes in commodity prices could wind up taking that option out of our hands.”

The CBUAE’s base rate, which is anchored to the US Federal Reserve’s IORB, signals the general stance of the central bank’s monetary policy. It also provides an effective interest rate floor for overnight money market rates.

Powell also pointed to the possibility of another rate hike following the next US Federal Reserve meeting in July.

An increasing number of economists are projecting a downturn in 2023 as the Fed struggles to get on top of inflation that’s running at its highest level in four decades, Bloomberg reported.

Nearly 70 percent of academic economists polled by the Financial Times and the University of Chicago foresee a contraction in gross domestic product (GDP) next year, according to a survey released on June 13.

Meanwhile, the rate applicable to borrowing short-term liquidity from the UAE central bank will be maintained through all standing credit facilities at 50 basis points above the base rate, the state-run news agency, Wam, confirmed.

Factors causing inflation of fuel and food prices ‘beyond the control of central banks’: experts

The recent UAE move to raise interest rates would take time to curb inflation, as supply-side factors continue to put pressure on commodity prices, a leading economist told Arabian Business.

Central banks across the Gulf have followed the US Federal Reserve’s decision to lift key interest rates in an attempt drag inflation down – but Scott Livermore, chief economist at Oxford Economics Middle East, said that in the UAE, the move “will do little to curb current levels of inflation in the short term.”

Recent geopolitical events, as well as ongoing supply chain disruptions, have already put undue pressure on the prices of energy, food, and other commodity prices – and these factors are “beyond the control of central banks,” Livermore said.

“The impact of interest rates takes time to feed through to demand – typically 12-18 months,” he added, noting both higher inflation and interest rates will be detrimental to overall consumer sentiment.

According to Vijay Valecha, chief investment officer at Dubai-based consultant Century Financial, the rate hike will be reflected on all loans and mortgages, pushing UAE consumers to spend less, especially as the use of credit cards is high in the country.

“The aggressive move will result in higher borrowing costs in turn causing consumers to spend less and ultimately cooling the pressure on prices,” he told Arabian Business.

“For now, consumers may feel the sting of higher prices more acutely than the pinch of a three-quarter point bump. But stack several rates increases together and consumers will start to feel the pressure,” he added.

Valecha said future hikes may be expected to further curb high inflation and this might “aggressively” affect consumers’ spending decisions. However, he noted that higher interest rates will eventually cool down inflation in the long run.

Consumers in the UAE have been feeling the brunt of high commodity prices recently. An earlier report by Emirates NBD said consumer inflation rose to 4.6 percent in April 2022 compared to the same month last year.

Transport costs led the jump in inflation, the report showed, followed by food prices, which were up 8.6 percent year-on-year.

According to PwC, interest rates were generally cut low to stimulate demand at the beginning of the Covid-19 pandemic. When interest rates are low, demand goes up, which also drives up consumer prices.

The US Federal Reserve had earlier mentioned plans to raise interest rates to control inflation, and GCC central banks were keen to follow suit.

More so in the Gulf, PwC said subsidy regimes “held bank inflation for many years, but many aspects of them have been withdrawn since 2016.”

IMF chief warns of ‘increased risk of recession’ in 2023

The International Monetary Fund warned it will cut its forecast for global economic growth when it releases it update later this month – amid far-reaching impacts of the Russia-Ukraine war, sustained supply chain disruptions, and higher inflation.

Its Managing Director Kristalina Georgieva said the lender’s outlook for this year and the next will be downgraded in a blog post on Wednesday.

“Indeed, the outlook remains extremely uncertain,” she wrote, saying 2023 will be “tougher” than this year, with “increased risk of recession.”

The blog post follows IMF’s earlier decision to cut down global expansion forecast this year from 4.4 percent to 3.6 percent.

Georgieva then urged G20 countries, whose finance ministers and central bankers are meeting later this week, to have “decisive action and strong international cooperation.”

She highlighted three actions that could be done to navigate a “sea of troubles,” including bringing down inflation, fiscal policy reforms, and an impetus for global cooperation led by G20.

“Persistently high inflation could sink the recovery and further damage living standards, particularly for the vulnerable. Inflation has already reached multi-decade highs in many countries, with both headline and core inflation continuing to rise,” the IMF chief wrote in the blog post.

Georgiva added: “Countries facing elevated debt levels will also need to tighten their fiscal policy. This will help reduce the burden of increasingly expensive borrowing and – at the same time – complement monetary efforts to tame inflation.”

In the end, she highlighted the need for a more coordinated international action to avoid potential crises and boost growth and productivity.

UAE residents spending less due to rising inflation and cost-of-living

UAE residents brace for higher cost of living and continue to make cutbacks to their household spending as global inflation is forecast to reach 7.9 percent globally.

The vast majority, 83 percent, of UAE residents said their cost of living has gone up compared to 12 months back in the latest YouGov Realtime study.

As inflation bites into household budgets across the world, the top areas where UAE residents intend to make cutbacks are on eating out at F&B outlets (47 percent), clothes/apparels (43 percent).

The rising costs have made residents cut back on their spending with 40 percent spending less on gadgets and electronics, while 32 percent spend less on F&B takeaways and 27 percent on non-essential food items. Grooming services (26 percent), overseas holidays (25 percent), and leisure activities (25 percent) are also likely to take a hit in the upcoming six months.

Inflation in the Arab countries is expected to rise to approximately 7.5 percent in 2022, compared to 5.7 percent in 2021.

Despite steep costs, 39 percent of residents hope their financial situation to be better in the future compared to 21 percent who anticipate their financial situation to worsen and 27 percent expect it to remain unchanged.

The inflation rate is expected to witness a relative decline in 2023 to reach 7 percent, the Arab Economic Outlook Report adds.

Global food inflation looms as drought conditions worsen

Drought is shrinking crops from the US Farm Belt to China’s Yangtze River basin, ratcheting up fears of global hunger and weighing on the outlook for inflation. 

The latest warning flare comes out of the American Midwest, where some corn is so parched stalks are missing ears of grain and soybean pods are fewer and smaller than usual. The dismal report from the Pro Farmer Crop Tour has helped lift a gauge of grain prices back to the highest level since June. 

The world is desperate to replenish grain reserves diminished by trade disruptions in the Baltic Sea and unfavorable weather in some of the largest growing regions. But an industry tour of US fields over the past week stunned market participants — who had been more optimistic — with reports of extensive crop damage due to brutal heat and a lack of water. 

Meanwhile, drought is taking a toll in Europe, China and India, while the outlook for exports out of Ukraine, a major corn and vegetable oil shipper, is hard to predict amid Russia’s invasion.

“Even before this week’s news from the crop tour, I have been concerned that we would not see much stock rebuilding until 2023,” said Joe Glauber, a former chief economist at the US Department of Agriculture who now serves as a senior fellow at the International Food Policy Research Institute in Washington. The “opening of Ukraine ports is a welcome sign, but volumes remain far below normal levels.”

Traders always watch weather forecasts closely but this year the vigilance has intensified — every bushel matters. While corn, wheat and soybean prices have cooled off from record or near-record highs seen earlier this year, futures remain highly volatile. Bad weather surprises from now until fall harvests are finished could send prices soaring again.

An index of grains and soybeans is trading almost 40% above the five-year average and the surge in crop prices has been a major contributor to global inflation. Already, food shortages helped lead to the downfall of Sri Lanka’s government earlier this year when the country ran out of hard currency needed to pay for imports.

In the US, corn is the most dominant crop and a lackluster harvest will have ripple effects across the global food supply chain, adding pressure on South America to produce bumper crops early next year. That’s especially the case if China, which is suffering its worst drought since the early 1960s, is forced to import more grains to feed its massive livestock herds and shore up domestic inventories.

After the recent crop tour, officials now estimate that US production will be 4% lower than the formal government forecast. The pinch follows drought-driven shortfalls of US winter wheat as well as soybeans in Brazil, the top grower.

The global farming outlook going into 2023 has market watchers worried. For the first time in more than 20 years, the world is facing a rare third consecutive year of the La Nina phenomenon, when the equatorial Pacific cools, causing a reaction from the atmosphere above it. This could have dire consequences for drought across the US as well as dryness across the vital crop regions of Brazil and Argentina.

And while it’s hard to link the weather in any given year to long-term climate patterns, analysts warn that global warming will be a growing drag on agricultural output in years to come.

For now, Europe is in the throes of a drought that appears to be the worst in at least 500 years, according to a preliminary analysis by experts from the European Union’s Joint Research Center. Several EU crops are being hit particularly hard, with the yield forecasts for corn 15% below the five-year average, the latest data show.

“With energy prices remaining elevated at least through this coming winter, any major shortfall in corn supplies will have devastating impact on food and feed sectors,” said Abdolreza Abbassian, a food market analyst and a former economist with the United Nations’ Food and Agriculture Organization.

In China, historic drought has hit regions along the Yangtze River and the Sichuan basin, hurting rice crops, the country’s top food grain. 

India’s rice planting has shrunk 8% this season due to a lack of rainfall in some areas. The government is discussing curbs on exports of so-called broken rice, which is mainly used for animal feed or to produce ethanol in India. Top buyers include China, which uses it mostly to nourish its livestock, and some African countries, which import the grain for food. 

India accounts for about 40% of global rice trade and is the world’s biggest shipper. 

In the US, Nebraska farmer Randy Huls, a participant in the crop tour, is staring down a smaller corn harvest this year due to lack of rain. In the longer term, he’s concerned how changing weather patterns might impact the farm he leaves behind. 

“They are predicting the Corn Belt to move north,” said Huls, 71, who raises corn, soybeans, wheat and hogs in southern Nebraska. “We could be a lot drier yet and that’s this climate change thing they are talking about. 

“I doubt in my lifetime I’ll see that, but I always wonder about my son and especially my grandsons,” he added. “What are they going to see?”

What traders need to know about navigating turbulent markets

During times of uncertainty, it can become more difficult for traders to know which way to turn, particularly for shorter-term investors and those relatively new to trading platforms.

The fallout from the pandemic would be enough for anybody attempting to travail global markets: supply chains have upturned commodity expectations, national debts have skyrocketed, and inflation is soaring.

This makes FX markets unpredictable and ‘safe haven’ assets like gold more prone to volatility.

Indices can be all over the place, and the addition of a European conflict that involves a nuclear power – one that also happens to be one of the world’s largest gas and oil exporters – makes things especially unsettling. But there are ways for even short-term traders to keep a cool head.

The first rule is to read, read, read. The speed at which the European conflict is evolving is such that assets and indices react instantaneously to breaking news.

While it is impossible to predict the news, it is possible to watch, read and listen to a range of news sources and financial analyses from multiple points of view.

What Russian analysts in Moscow say about markets may vary from how things are being reported in other parts of the world. The important point is to take on board as broad a set of perspectives as possible.

For example, further unforeseen sanctions against Russia could affect any number of markets – it’s impossible to accurately predict, so the most important thing is to be ready for any movement and diversify investments accordingly.

Knowledge is power

Diversity of insight is also essential in helping to understand where to diversify assets – because traders of all kinds should be spreading investments like never before.

It is essential at the current time to stay as diverse as possible – and manage risk ruthlessly. It’s important for those using trading platforms to protect their accounts with prudent money management and diverse asset classes when market sentiment is subject to such rapid change.

Of course, there are ample short-term opportunities in heightened volatility, including buying when the price of an investment is down purely because of market volatility: if the fundamentals of the business are unchanged, then a sudden downward dip because of market jitters can be a good time to buy.

Watch the Fed

For FX traders, it is advisable to invest regularly to benefit from dollar-cost averaging. Even though it can be tricky to time the market well during periods of volatility, it is possible to smooth out entry points by consistent investing.

It is also important to keep a keen eye on everything the Fed does – and on what is happening to inflation in the USA and around the world.

The Fed debated for a long time that inflation was transitory, and they were right. Inflation was mainly caused by supply chain bottlenecks accompanied by extra spending due to increased savings and stimulus packages during quarantine. But now, with skyrocketing oil prices, inflation will rise even higher.

So, it’s time to act. Markets expect the Fed to increase hikes, but they don’t know the accurate number of hikes or basis points.

So, markets will react based on the number of hikes. If the Fed increases more than expected, USD and US bonds should strengthen while stocks and commodities weaken.

With such volatile markets and various trading opportunities arising from increasing uncertainty and geopolitical instability, at 4T, we’ve seen a huge range of different reactions and trading volumes increase.

The majority of traders bought safe havens such as gold and Japanese yen, while some speculated on oil and effected currencies.

Self-care

The impact of Fed hikes can be dramatic and unsettling, not just on FX trades and general market sentiment but also on a trader’s sense of risk tolerance and peace of mind.

Stress can lead to bad decision-making, which is why all traders need to review their sense of risk tolerance.

This is different from risk capacity, which is the trader’s ability to take a financial loss (which applies whatever the market conditions).

Risk tolerance can change when volatility hits because it brings the reality of loss into a much sharper focus.

We can also manage our risk tolerance by making shrewd behavioral observations and adapting how and when we trade.

Adapting when we trade can be especially useful in keeping a cool head. The most volatile time of day for traders is often during the first and last hours of a trading session – so to keep a cool head, it can be a good idea to wait for the dust to settle in between the hiatus of opening and closing.

It’s also helpful to adopt a more defensive attitude – such as trading in smaller positions and scaling in or out by buying and selling in smaller increments to reduce exposure.

Remember, stop orders and stop-limit orders are another way of mitigating risk by removing the heat of emotion from the job.

— Hamzeh Ajjour, CEO of 4T

Evaluating concerns over inflation, recession, and your investments

Is inflation here to stay? Is the growth scare justified? What are the investment perspectives? Emirates NBD’s CIO Maurice Gravier answers three of the most concerning questions in 2022.

The economic outlook has materially darkened. Slowing growth and rising inflation are magnified by the war in Ukraine and lockdowns in China, while Western central banks are radically tightening. This is not business as usual for markets, for at least two reasons.

First, high inflation was virtually out of the equation for 4 decades – an entire investment professional career. It matters: when markets are concerned by both inflation and growth, the so-called stagflation risk, it affects both fixed income and stocks, annihilating their diversification benefits. Interest rates are higher, pressuring bonds and lowering equity multiples, while earnings are at risk.

Second reason: we are historically used to seeing central banks cutting rates quickly and aggressively to fix a growth issue, but to be careful and slow when they raise. Procyclical, and asymmetric.

Today, it’s the opposite: the pace of hikes is ballistic, and instead of fixing a growth concern, since their focus is inflation, they now play against growth. Their worst nightmare is not a slowdown, but a wage-price spiral.

Stock markets took note since our last column a month ago, losing -10 percent in developed markets and -6 percent in emerging ones. So far in 2022, both are down -17 percent. Bonds are of course no shelter this year, even if their recent behavior is ambiguous, between their sensitivity to inflation and their safe haven status.

Still, there has been nowhere to hide: global REITS are sharply down, gold, which was the last standing 2022 winner is now negative year-to-date, and it’s a bloodbath for crypto assets.

So, let’s look at the current concerns and share our views on their consequences for markets, through three questions.

Is inflation here to stay?

The word “transitory” has become taboo in the last months. Still, some of the drivers of the current price pressures should moderate naturally: energy prices should stabilise, base effects will normalise, and at some point China will control its Omicron outbreak. The war in Ukraine and lockdowns in China were indeed not expected, and they materially worsened the situation.

Still, inflation on goods shows signs of rolling-over and we believe it’s the trend ahead. There are however two caveats. First, the timing is unknown, and a clear inflexion is needed for central banks to pause. While inflation is primarily about energy and commodities in many parts of the world, there are also endogenous factors, crucially in the US. The job market is buoyant, pushing wages higher, with more than 5 million open positions struggling to be filled.

Second, on the longer-term, between shrinking globalisation and stalling productivity gains, inflation in the years ahead should be higher than in the previous decade – maybe 2.5 to 3.5 percent instead of the 1 to 2 percent we’re used to. This doesn’t sound unmanageable, and there is a possibility that central banks move their own target away from the previously inflexible 2 percent mark, but that’s another unknown in timing and monetary strategy to which markets should adapt.

Is the growth scare justified?

The short answer is yes. High inflation is evil for central banks, at the core of their mandate. Since they can’t control supply (disruptions on energy, food, factories in China…), they have to pressure demand. They want growth to slow, by reducing the velocity of money, raising borrowing costs and even temper the “excess” wealth from the previous stimulus. They have no issue with lower asset prices, slightly higher unemployment and even a mild recession.

The Bank of England was transparent enough to say it candidly. In the US, the coming quarters will also see a fiscal drag and potential risks on the currently hot housing market, between higher mortgage rates and a rebalancing of supply-demand. In Europe, high energy prices will take a toll, and in Asia, Chinese lockdowns hurt. A recession is not our central scenario, but the risk is material.

What are the investment perspectives?

Our single most important conviction is that volatility should remain extreme in the short-term, for all the reasons described above. It’s a change of paradigm, with many unknowns, in the relation between markets and central banks– and we didn’t even mention the runoff of their balance sheets.

There are also tail risks, with a low probability but a potentially devastating impact – from geopolitics to Covid. We thus expect sudden corrections and rallies to be the norm until we have better visibility on inflation. It leads to two simple pieces of advice. First, avoid short-term speculation in erratic markets. Second, be very careful with leverage, which can tie your hands at the worst possible time.

On the medium-term however, the picture is much more constructive. First, the backdrop remains reasonably benign, even assuming a mild recession. After all, it historically happens every 6 or 7 years; it resets the cycle and triggers different policy responses, it’s not a catastrophe. Second, valuations are much more accessible.

Interest rates are not crazily low anymore, and the current levels may mean real positive yields once inflation normalises. Equity valuations are much more reasonable, arguably taking into account at least partially a recession risk, which is good news. Finally, sentiment and positioning are in very pessimistic territory. Not in full panic, but it also supports returns for the medium term.

Finally, we will potentially have to adapt to a higher inflation regime over the longer-term. The good economic news is that inflation erodes debt, the bad investment news is that real positive returns are harder to achieve. Income may become more important, and we will have to be creative in terms of both diversification sources and portfolio construction.

— Maurice Gravier, chief investment officer at Emirates NBD

Need to curb excessive inflation growth before it is too costly for households, companies and governments

A situation where interest rates are low would highly compromise the effects of a contractionary monetary policy designed to curb inflation.

A contractionary monetary policy works through higher interest rates which in turn slow down growth in demand. It becomes more expensive to repay loans and mortgages so a reduction in consumption is expected.

Interest rates in US and UAE were drastically reduced during the pandemic to boost consumption and support firms. This was also possible thanks to the interest rate being above 2 percent.

If interest rates remain low, too close to zero, further reductions-when needed- might not have the desired effects.

This is a situation that economists have defined as “liquidity trap”, whereby individuals become indifferent between investing in a financial instrument and cash.

When there are small margins for change, for instance where the interest rate falls below 1 percent, it becomes quite difficult to influence consumption’s choices of individuals and investments’ choices of companies with further interest rates decreases.

It must be noticed that in the UAE the interest rate was gradually brought from 1 percent in 2017 up to 2.75 percent in 2019, giving substantial room for subsequent interest rate reductions following the spread of the pandemic and lockdowns.

A timely rise of the interest rate

The UAE has been recently showing economic cycles fairly aligned to the US, namely rising inflation and GDP growth, hence requiring monetary policies in the same direction. This is an advantage in a fixed exchange rate regime.

It appears this is the right time to raise interest rates. A time where travel is back at pre-pandemic levels, GDP is growing, and consumer confidence is rising.

As the UAE presents a positive economic outlook and, at the same time, inflation levels are growing, it appears as macro-economically sound the decision of a further interest rate increase at this time.

The UAE has been showing a solid recovery in 2022 so far, with the IMF projecting real GDP growth at 4.2 percent, up from a 6.1 percent dip in 2020.

This is despite the ongoing Russia-Ukraine conflict which resulted in worldwide increase in energy prices and fueled inflation to a greater extent in a context of a post-pandemic growing aggregate demand.

For the UAE, being substantially reliant on the revenues from hydrocarbons, the overall net effect is expected to be positive for its economy. Higher revenues for the government are expected for 2022, strengthening the budget available for fiscal policies.

What is more, the UAE has shown clear commitment in creating a favorable ecosystem for investors and the attraction of talents and entrepreneurs, as displayed for instance by the recent package of reforms on the visa system.

UAE’s rising inflation levels

As expected and as similarly seen internationally, prices in the UAE have been increasing in general, with current projections for 2022 of average consumer prices, according to IMF, to increase by 3.7 percent, up from 0.2 percent in 2021 and -2.1 percent in 2020. For the UAE, the EIU forecasts an increase of inflation in 2022 above 4 percent.

Moderate and slow-paced inflation is usually a sign of a healthy economy. It can be an indication of growth in demand. On this note, the European Central Bank has an inflation target of 2 percent over the medium term.

The current price index levels observed in the UAE along with their projections suggest the need to curb excessive inflation growth before it is too costly for households, companies, governments; and at the same time, allow for expansionary policies in the future when needed, as similarly seen during the pandemic.

— Dr. Davide Contu, assistant professor at Canadian University Dubai

Opportunities and potential risks in the asset class amid rising inflation, tighter policies and geopolitical tensions

Yields across hard currency emerging markets debt have blown out by 2 percent or more this year, with sovereign hard currency debt recording a year-to-date loss of almost -17 percent, driven mainly by higher interest rates across the globe.

Emerging markets now look extremely attractive relative to both their history and many other parts of fixed income. If past is any guide, from these valuation levels, EMD tends to deliver strong risk-adjusted returns.

For many investors the difficult question is not just when to buy but what to buy.

Inflation is putting pressure on central banks. Global growth is threatened by higher prices and tighter policy. The Russian invasion of Ukraine continues. China is struggling with lower growth and zero-covid policies.

However, EM central banks are ahead of the curve in tackling inflation. Higher commodity prices are a tailwind for many. The presence of an emerging market middle class has made EM consumption less dependent on DM.

Energy-related inflation, as well as spikes in prices of basic materials, are usually perceived as positive factors for EM, but some countries are net energy importers. Wheat and other agricultural commodities can have significant effects on food importers.

In our team, we dig even deeper and ask ourselves questions such as:

– What might be the effect of higher prices at sector and company level?
– Can persistent inflationary pressures generate second-order effects on political stability?

Macroeconomic shocks rarely have the same impact on different countries and businesses: winners, as well as losers, emerge. This makes a selective approach essential for EM investors, creating a great environment for truly active managers.

Our team of EM credit analysts identify potential winners and losers:

Latin America – Alejandro di Bernardo

Winners:

Mexico

Mexico is a highly special case as its terms of trade are tied to the United States. While the country is a net importer, higher oil prices aid public finances via higher tax collections from state-owned PEMEX.

Fiscal prudence should continue throughout the year and the opposition in Congress will likely limit radical changes. We thus stay overweight on selected utilities and names that can benefit from a reopening economy. Corporates are preferred to sovereign debt as relative spreads have meaningfully cheapened.

Brazil

We are positive on Brazil. The country is a major exporter of iron ore and soft commodities (like soybean). On the political front, former president Lula has emerged as the favourite to win this year’s elections, and his alliances with centrist parties signal a more moderate approach.

We stay tactically overweight on blue-chip exporters, able to pass-through cost increases in the chemicals and metals & mining sectors. We also see value in some producers of fertilisers. Corporates are preferred to sovereign debt.

Guatemala

We maintain a positive view on Guatemala as the largest country in Central America with the lowest debt to GDP ratio in the region. The country maintains a prudent fiscal policy and thanks to record levels of remittances we expect higher growth for this year, despite inflationary pressures. We stay overweight on selective corporates with revenues in US dollars or with currency hedges, corporates preferred to sovereign on relative valuation.

Losers

Chile

Chile is a significant importer of oil and the increase in energy prices has been much larger than that experienced by copper, its key export commodity. Additionally, unlike in 2021, we see limited room for the government to stimulate the economy, and ongoing constitutional reform adds political uncertainty. We are underweight across portfolios and prefer exposure to HY names in the Telecom sector given attractive valuations.

Peru

Peru is a net exporter of base metals, but we remain cautious. Ongoing political noise and risks of presidential impeachment make future prospects uncertain, and high copper prices might not produce expected improvements in the fiscal position of the country given inconsistent spending targets. We stay neutral to underweight and prefer exposure to selected miners and agricultural commodities exporters.

Asia – Xuchen Zhang

Winners

Indonesia

Indonesia is one of the few net commodity exporters in Asia, and will continue to see improving fiscal and external metrics, and robust GDP growth. The central bank has been consistent in keeping monetary policy pro-growth and inflation is under control. We like E&P companies that generate strong cash flows, as well as property developers that are set to benefit from improved household balance sheets.

Nevertheless, allocations remain modest, as many corporates still carry significant exposure to thermal coal production, which does not help promote the transition to net-zero.

Losers

South-East Asia – Philippines, Thailand, Vietnam

All three countries are net commodity importers and government balance sheets will deteriorate. In addition, the new Philippine government’s policy remains uncertain with regard to the local conglomerates that have issued the lion’s share of dollar bonds.

India

India sources 85 percent of its oil and gas from imports: every $10 oil price increase leads to a 0.4 percent wider current account deficit and 0.5 percent higher inflation. Oil, metals and fertiliser together account for half of India’s imports, which is a heavy blow to both government and household finances. However, this also means renewable energy is more strategically important to the government as a sustainable solution. We continue to like this sector.

Europe Middle East and Africa – Reza Karim

Winners

South Africa

In addition to being a beneficiary of higher commodity prices and running a current account surplus for at least the next couple of years, monetary policy is credible and inflation is well managed. Commodity exporters in South Africa look particularly attractive.

African oil exporters Nigeria/ Angola

Angola’s debt to GDP is expected to decline sharply because of the high oil price and the country is also almost self-sufficient when it comes to food imports. To a lesser extent, Nigeria also benefits from high prices, but production has been running lower than expected and food inflation is high.

GCC

The IMF expects Kuwait, Oman, Qatar, Saudi Arabia, and the UAE to run large current account fiscal surpluses this year, thanks to oil. Strong fiscal surpluses allow much greater room to manage the increase in food prices through subsidies. The region is looking much stronger than during the “Arab spring” period and the probability of political unrest is reduced.

Losers

Turkey

As an energy importer, higher prices are clearly not a positive for its trade balance, and disruption to tourism from geopolitical events makes matters worse. Turkey remains an idiosyncratic case. After a recent investment trip, we cannot see the ingredients for a default given a relatively acceptable Debt/GDP ratio and a sound banking sector.

However, recent FX stability might not hold in the long run unless the government can engineer new innovative schemes (such as recent tax-free TRY deposits). A potential government change in 2023 might be a positive for the country. We remain underweight but watchful.

Egypt

Despite the devaluation, the current account deficit and inflation remain high. Policy has been slow to meet IMF demands. Central bank policy is restricted as it is not possible to both fix the exchange rate and combat inflation at the same time. This implies more downside to bond pricing.

History tells us that yields at these levels are not sustained for the longer term in emerging market debt, and investors should consider returning to the asset class, or increasing exposure. At the same time, the consequences of higher inflation are crucial to the relative prospects of emerging market countries and companies, as such an active, selective approach is likely to deliver materially better performance.

Ghana

The country has large funding needs and access to foreign capital markets is effectively closed. Inflation is running high and so is its deficit. Without a credible and strong macroprudential policy, it is hard to see stability anytime soon.

— Alejandro Arevalo, head of Emerging Markets Debt at Jupiter Asset Management. 

Saudi business confidence dips amid inflation fears despite fastest economic expansion in a decade

Saudi Arabia is proving vulnerable to fears over inflation in the wake of the war in Ukraine, even at a time when the economy expands at the fastest pace in over a decade.

Confidence among companies worsened, with respondents to S&P Global’s survey of purchasing managers saying that volatile global prices and greater uncertainty have rattled some clients.

Only 9 percent of the respondents provided a positive forecast for their output expectations, compared with an average of 15 percent for last year.

New order growth in the Saudi non-oil private sector slipped to a three-month low in April as companies sharply raised selling charges to pass on higher input costs, according to the S&P Global survey.

The PMI “showed the first signs of price pressures swaying clients’ spending decisions,” said David Owen, economist at S&P Global.

“Business confidence in future activity levels was down to a three-month low and one of the lowest ever recorded, indicating a marked degree of uncertainty over whether the current rate of output growth can be sustained.”

Business conditions improved overall but still reached the lowest in three months.

S&P’s Saudi Purchasing Managers’ Index was at 55.7 last month, still well above the 50-mark separating growth from contraction.

The world’s biggest oil exporter isn’t immune to a recent run-up in global costs even as booming crude prices continue to power its economy, Bloomberg reported.

Although domestic consumer inflation only reached an annual 2 percent in March, it’s less favorable when factoring in the statistical effects of the 2020 value-added tax hike.

Alongside inflation and Russia’s invasion of Ukraine, renewed Covid-19 controls in Asia are also a risk for the Saudi business outlook, according to S&P Global.

Facing higher prices, Saudi companies responded by building up stocks, with purchasing activity and inventories both rising at the sharpest rate since December 2017.

The rate of job creation last month was the fastest since June 2021, contributing to increases in wage costs, Bloomberg reported.

“A further marked uptick in output prices during April, in light of rising commodity prices and global inflation fears, risks dampening sales further in the coming months,” Owen concluded.

Inflation takes flight – but what goes up must come down

Whether transitory or permanent, and who called one or the other; inflation is the talk of the town and the latest frustration of the Fed.

One thing is indisputable, it is the main theme of the first half of the year; a period marked by weak and volatile financial market performance.

Consensus suggests that this weakness and volatility can be largely attributed to inflation, and bonds are a traditional victim of such an environment and therefore not a surprise – but equities, bitcoin, and recently real estate have all suffered despite traditionally serving as an inflationary hedge.

Surprisingly, some market measures of inflation, such as the 10-year breakeven rate, is almost unchanged over the first half of the year. Treasury yields are the sum of two components: breakeven rates, the measure of inflation and real rates, the return after inflation.

The story of markets in the first half is about more than surprisingly strong inflation; the repricing of real rates is a disruptive force to be considered and along with it the tighter financial conditions and declining leading indicators that resulted.

Bond market pricing presented a challenge to start the year; unraveling as the Fed walks back its recently adopted higher tolerance for above-target inflation, alongside a rise in real rates.

The 200bps rise in 10-year real yields, as an example, is larger than the one experienced from 2016 to 2018 as the Fed embarked on the last rate hike cycle. It is also more than that of the 2013 Taper Tantrum. Certainly, much more dramatic than the change in breakeven rates.

With the Fed expected to continue aggressively hiking into a slowdown, the risk of a disruptive end is growing.

The Fed remains convinced of a soft landing for the economy, but inflation may realistically only normalise in a downturn, with higher unemployment. History offers no comfort from periods where unemployment rises even by small margins.

Few markets if any are currently priced for that risk, and that includes the GCC bond markets.

Despite all the headwinds, spreads here are nearly as tight as they have ever been, as the region benefitted from its natural buffer to high inflation through its exposure to oil prices.

The improvement in sovereign fiscal balances has improved credit profiles, and this has been most notable in the high yield universe. As a result, the average yield in that high yield space remains a far cry from 2020 levels, or even 2018 selloff lows.

Investment grade yields on the other hand have danced to a different tune, reaching 2018 and 2020 levels: presenting a compelling opportunity.

In fact, there are now nearly twice as many investment-grade bonds trading below 90 cents than at the 2020 trough, and 12 months forward returns from such yield levels have consistently resulted in double digit total returns.

As always, the outlook is not without its risks. Despite yields being as high as they are, spreads of these investment grade bonds are still low. It is reasonable to expect, as a result, for them to widen from their current levels, dampening potential returns.

However, the more meaningful risk resides in a continued rise in rates, likely alongside continued upside surprises in inflation – this scenario however might be challenged by an approaching recession, limiting the time rates stay elevated, as its likelihood increases under such a scenario.

All things considered, the opportunity presented in regional investment-grade bonds stands out in the asymmetry between the upside and downside at present, particularly in comparison to other markets.

The broader universe of risk assets, such as equities or high yield, have further to decline in a downturn, and historically bottom only slightly before economic troughs, or at a pivot in Fed policy towards easy; neither of which are currently in place.

To conclude with food for thought; is the distinction of inflation as either transitory or permanent a useful one? Isn’t anything transitory or permanent depending on a time frame? After all, what goes up…

— Sharif Eid, Portfolio Manager, Global Sukuk and MENA Fixed Income, Franklin Templeton.

That being said, there are plenty of positive events happening around the region despite the growing inflation concerns:

Dubai residential property market transactions reach AED61.9bn despite inflation concerns

As the world grapples with inflation spikes, impact on UAE’s economy and Dubai’s residential property market seems limited for now, with villa and apartment transactions in Dubai estimated to have reached AED 61.9 billion between January and May this year, global property consultant Knight Frank indicated.

Citing data from Oxford Economics, Knight Frank pointed to the expected rebound in Abu Dhabi’s GDP growth from about 0.5 percent to just over 6 percent this year with Dubai’s GDP predicted to expand by a similar figure.

“There are many reasons for cautious optimism when it comes to containing inflation in the UAE. The government’s extremely diversified imports strategy, steps to boost food security in recent years, and the strength of the US dollar, which is curtailing imported inflation, are all huge positives,” said Faisal Durrani, partner, head of Middle East Research, Knight Frank.

“By far the most effective measure is the government’s pre-emptive stealth move to freeze the price for 11,000 basic goods, including milk, bread, meat and poultry. The policy has been bolstered by the surge in crude oil prices, which is going to underpin a sharp turnaround in economic growth,” he continued.

Business confidence

The relative positivity in the economy is percolating through to business activity levels, with the latest PMI reading for the UAE’s all-important non-oil sector holding steady at a 12-month high in April as orders continued to rise.

The pace of recruitment appears to have slowed slightly, however, Knight Frank indicated.

“The April PMI readings indicate that businesses are clearly nervous about rising cost pressures. Two immediate pressure release valves are a reduction in the pace of new hires and passing on costs to consumers. The latter is often seen as a last resort and we’re not seeing that yet,” Durrani said.

Residential market remains relatively insulated

Explaining that the rising inflation poses a limited threat to Dubai’s residential property market, Ashley Bayliss, partner – head of Mortgage and Debt Advisory, Knight Frank, said: “The UAE’s fiscal policy correlates with the US, and the recent 50 basis point hike in interest rates to 2.25 percent does mean higher outgoings for mortgaged households going forward. However, it remains comparable with other international prime markets.”

Mortgaged buyers for villas and apartments account for just 18 percent of Dubai’s residential market, by value, at present, according to Knight Frank.

Last year the figure was nearer 40 percent and in 2007 just over 50 percent of transactions was financed.

“While this appears to be a decrease in residential mortgage lending, as at the end of May there has been almost AED38bn of financing extended across all real estate asset classes. Extrapolating the number of transactions, we have seen so far this year, 2022 could be on course to see the second-highest level of mortgaged deals in the last five years for the whole real estate market. The main challenge is for banks to keep pace with the current growth of the market”, explained Bayliss.

“For the residential market, however, the bulk of deals at the top end of the price spectrum are cash purchases, in large part due to the unrelenting influx of ultra-high net worth capital targeting Dubai’s most expensive homes. So, with cash remaining king, the risk to the housing market is low for now,” explained Durrani.

“With house price growth in Dubai this year expected to hover at around 5-7 percent for the mainstream market and 12-15 percent for the prime markets, residential property in the Emirate is still an excellent inflation hedge,” he continued.

Jobs on the rise as inflation fails to dent the UAE’s biggest business upswing in 2022

Business conditions in the United Arab Emirates improved in May to the strongest this year even as companies came under pressure from inflation and largely chose to absorb higher costs.

Output in the country’s non-oil economy increased at the fastest pace since last December and employment saw a renewed increase, according to a survey published by S&P Global on Friday. Its UAE Purchasing Managers’ Index rose to 55.6, from 54.6 in April, remaining above the 50 mark that separates expansion from contraction.

Despite the pickup, inflationary risks emerged more prominently, with business costs rising to the highest level in more than three years, as disruptions to supply chains around the world and Russia’s invasion of Ukraine stoke prices.

“Following the global trend, the main headwind to the non-oil sector in May was inflation,” said David Owen, an economist at S&P Global. “PMI data suggest that companies are choosing to absorb extra costs rather than pass them onto customers, but this is unlikely to continue indefinitely.”

The UAE isn’t immune to a recent run-up in global costs even as booming crude prices continue to power its economy. The government has already responded by increasing fuel prices by more than 50 percent since the beginning of the year and capping the costs of essential food items.

Still, inflation in the UAE is expected to be at 3.7 percent this year before sliding to 2.8 percent in 2023, among the lowest levels globally, according to the International Monetary Fund.

More from UAE PMI survey:

– Stronger demand supported an uptick in employment. The rate of job creation was the quickest in seven months, yet not enough to avoid constraints on business capacity
– Strong price competition led companies to refrain from passing on higher costs to customers
– Firms were hopeful about an increase in output over the next year and business confidence picked up slightly from the previous month but was overall weaker than the historical trend

Business conditions in Dubai rise to near three-year high

Business conditions in Dubai have risen to a near three-year high, according to the latest report into business activity by S&P Global.

There has been a strong recovery in the travel and tourism sector which helped boost the monthly Dubai Purchasing Managers’ Index (PMI) to 55.7 in May, up from 54.7 in April. These figures are for the non-oil private sector economy.

The latest reading was the highest since June 2019 as business conditions in Dubai continue to improve, although cost pressures quickened across the non-oil economy driven by ongoing volatility in global energy markets.

David Owen, an economist at S&P Global Market Intelligence, said: “May’s PMI data for the Dubai non-oil economy had two prominent findings: firstly, that global energy market volatility drove cost inflation to an over four-year high; and secondly, that a fast-recovering tourism sector is now masking weak performances in the rest of the economy.”

The report said that there was a considerable disparity in sales performance across the different sectors.

Of the three monitored categories, travel and tourism displayed by far the sharpest expansion in May, as businesses commented on further rises in bookings due to the easing of travel rules.

By contrast, wholesale and retail firms saw a sharp slowdown in new order growth, while in construction, new work inflows declined for the first time.

“The uplift in input costs also placed further pressure on firms’ margins, amid additional reports of charge-discounting. This contributed to a more subdued outlook for future activity, which slipped to the lowest in one year,” Owen added.