Gulf investors must look out for the American ‘bubble’

Brendan McDermid/Reuters

What happens in US financial markets should be a matter of concern for all of us, and especially here in the Arabian Gulf region.

The American economy constitutes about 25 percent of global GDP, but US stock markets account for a disproportionately large amount of global capitalisation – more than 60 percent by some reckonings. The rest of the world cannot get enough American assets, it seems.

You can see why. Over the past two years the S&P 500 Index is almost 50 percent higher in one of the best-ever runs for US markets. Investors shrewd enough – like many Gulf financial players – to have bought into the Magnificent Seven technology stocks have enjoyed a significantly higher return.

The re-election of Donald Trump as president has turbocharged US equities, and other assets like crypto and real estate thought to be beneficiaries of his tax and regulation-cutting style.

Surveys of investor confidence paint a generally rosy picture for the future, while assessments of downside risk (like the infamous VIX index) are at historically low levels.

But such stellar performance cannot be sustained indefinitely, and already some market experts are warning that the US gravy train will soon hit the buffers.

Ruchir Sharma, chairman of investment group Rockefeller International, warned a couple of weeks ago that the “mother of all bubbles” in US financial markets was due a correction – even if he could not say when that would happen. “Bubbles end unexpectedly,” he said.

There are a number of reasons why 2025 could see a slowdown in growth in US financial markets.

Valuations have stayed higher for longer than at any time since the run-up to the dotcom bubble of the early 21st century. That bodes badly for future equity values.

US debts – sovereign in the case of Treasury bonds as well as corporate – are at all-time highs, leaving the Federal government with no room for manoeuvre in the event that something like the 2008 banking crisis recurs. Massive quantitative easing would be much more difficult, and less effective, this time round.

There is a significant risk too that Trump’s new administration – volatile and unpredictable as the man himself and with an agenda of retribution against traditional structures – will not be able to react fast enough to a financial or market crisis.

These risk factors are all in place against the backdrop of the most polarised economic and geopolitical outlook for many decades. Protectionism, tariffs and threats to world trade are not usually regarded as beneficial for stock markets.

None of this is to say that 2025 is destined to be the year that the American equity bubble bursts, but the consensus is that growth in asset values will slow significantly. Aggregate forecasts for the S&P 500 are for an 8 percent rise over the year.

Gulf investors will have to keep a careful watch on the US indices.

The big sovereign wealth funds of the UAE and Saudi Arabia, like the Abu Dhabi Investment Authority and the Public Investment Fund, have significant parts of their global portfolios in US equities, with potential exposure to any slowdown or downturn.

Both countries are also multi-billion dollar holders of US Treasury debt, which could suffer extreme volatility in the case of domestic financial upheaval. However, neither holds more than 1 percent of US Treasury debt, according to official figures, and their holdings have remained relatively stable over recent years.

At the same time, US financial institutions have been major backers of diversification strategies in Gulf countries, so any domestic American stress could have a knock-on effect for regional markets.

We all saw in 2009 how a largely domestic US financial meltdown ripped around the world, eventually hitting the UAE in the shape of the Dubai World crisis, which for a moment posed an existential threat to the economy of Dubai.

Sixteen years on the picture has changed significantly. There is nothing on the horizon in UAE or Saudi finances that seems to carry the threat of Dubai World, and those countries’ financial structures continue to win plaudits for capital strength and resilience. 

But regional policymakers should remind themselves that all good things, like the incredible performance of US financial markets, have to come to an end.

Frank Kane is Editor-at-Large of AGBI and an award-winning business journalist. He acts as a consultant to the Ministry of Energy of Saudi Arabia