Is It Time To Get Exposure to Saudi Arabia?

Though the world may be headed for a global slowdown, many individual countries are set to buck the trend. For that reason, market research firms like MSCI have established a series of stock indexes based on the top-performing companies in a given country.

Single-country exchange-traded funds (ETFs) have been launched to track those indexes, much like the popular VOO ETF tracks the S&P 500 in the U.S.

Buying single-country ETFs gives investors a new way to diversify, and can also be used to limit single-stock exposure.

In the case of iShares MSCI Saudi Arabia ETF (NYSEARCA: KSA), the ETF is perhaps the most liquid way foreign investors can invest in Saudi Arabian stocks. The kingdom’s stocks are listed on Tadawul, the Saudi stock exchange, which is closed to individual investors.

That is certainly an advantage for KSA, but single-country ETFs can also have drawbacks. If the country faces geopolitical complications, such as the war in Israel, it has the potential to materially affect the ETF’s performance.

Investors also have to pay close attention to the ETF’s composition. For example, some might assume that a Saudi Arabian ETF would consist of oil stocks, when in fact it is highly concentrated in financial institutions.

What Stocks Are In The KSA ETF?

The top holding of KSA is Al Rajhi Banking & Investment Corp, the world’s largest Islamic bank. Al Rahji has 600 branches across the kingdom and $88 billion in assets under management. It’s also a major investor in other Saudi Arabian businesses. Al Rahji shares account for 12.23% of KSA’s $804 million portfolio.

Though Al Rahji might be the largest Islamic bank in Saudi Arabia, the Saudi National Bank is the largest commercial bank. Owned by the Saudi government, the Saudi National Bank had $273.9 billion in total assets in 2022. Saudi National Bank shares account for 8.28% of the ETF’s holdings.

The lone energy stock in KSA’s top 10 holdings is Saudi Arabian Oil Company, better known as Saudi Aramco. The government-owned oil and gas company is one of the five largest companies in the world by market capitalization. Its $1.93 trillion valuation puts Saudi Aramco in the company of Nvidia, Microsoft, and Apple. Saudi Aramco shares count for 6.21% of KSA’s holdings.

KSA’s fourth biggest holding is Saudi Arabian Basic Industries Corporation, also known as SABIC. SABIC is a chemical company that makes products like polymers and fertilizers, and it’s the second-largest company in the kingdom. 70% of SABIC shares are owned by Saudi Aramco, and SABIC accounts for 5.63% of KSA’s portfolio.

Rounding out the top five holdings is STC, the Saudi Telecom Company. STC offers everything from mobile services to online payments to cloud computing. STC is 5.54% of the KSA ETF, with shares valued at $44.5 million.

How Has The KSA ETF Performed?

From the ETF’s launch in 2015 until mid-2022, KSA gained 101%. But 2022 was a rough year for stocks around the globe, and KSA took a step back.

Unlike the U.S. market, Saudi Arabia hasn’t bounced back yet. The U.S. rally has been largely driven by AI-linked big tech stocks, which the kingdom lacks.

VOO is up 82.3% in the past five years, while KSA has only returned 31.5% in the period. Over the past 12 months, VOO is up 26.4% while KSA is up 4.53%.

While KSA has underperformed the S&P 500, it’s likely not a shock to many of the ETF’s investors. One of the use cases for single-country ETFs is not to replace U.S. stock investments but to diversify them.

A more accurate gauge of the ETF is how it’s performed against other single-country ETFs. Unfortunately, KSA has underperformed there as well.

Over the past year, KSA has been the 25th best-performing single-country ETF. The top five equities countries in the past 12 months have been Pakistan, Turkey, Poland, Italy, and Taiwan, which are all up over 30%.

Downsides To Buying The KSA ETF?

The most obvious risk factor associated with buying KSA is the potential for war breaking out in the Middle East and spreading like a contagion that drags Saudi Arabia into the fray.

With tensions high due to the Israel-Hamas conflict, the region is regarded by some analysts as a tinder box ready to ignite.

The excessive exposure to financial institutions is a further factor why the ETF may end up struggling to sled uphill. With 40.5% of the fund is in financial companies and Saudi National Bank shares down 7.5% year-to-date, other companies need to really outperform to overcome the headwind.

It’s also noteworthy that the fund’s concentration in materials stocks of 18.6% does not provide exposure to the coveted energy sector.

Finally, the expense ratio is high. KSA’s 0.74% expense ratio may be in line with other single-country ETFs, but it’s far higher than VOO’s 0.03% expense ratio.

Best ETF for Saudi Arabia

KSA is the best ETF for Saudi Arabia because of its broad diversification and high liquidity, but the expense ratio is high at 0.74%.

Trading with a price-to-earnings multiple of just 19.6x, it compares well to Vanguard’s S&P 500 ETF, VOO, which trades at a loftier multiple of 26.1x. The heavier concentration in the US of technology stocks explains the premium to a large extent.

Another downside to KSA is it doesn’t pay dividends. VOO has an annual dividend yield of 1.29% and an annual payout of $6.17 per share.

While it’s challenging for single-country ETFs to match the US, which holds the Magnificent 7 stocks under its exchange-traded index fund umbrellas, it shouldn’t be overlooked that KSA has underperformed other country ETFs, such as Pakistan.

With that said, if capital flows to the region continue and the Kingdom appears determined to transform economically and socially, as evident most recently through sporting events held there, the future may well be bright for long-term investors.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.