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Low Oil Prices Pressuring Producing Countries

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While low oil prices have been a boon to consumers, they’re taking a toll on the countries and industries that produce it—and thus on investors with money in various segments of the oil industry. But the effects go farther than the energy sector, into a range of other sectors the health of which depends on the flow of oil dollars. This includes everything from tourism to retail to real estate.

But of course other forces are also at play in those industries, making the outcome far from a sure thing, whether for good or ill. A negative pressure in one area could end up putting a positive force on another, with investors left trying to figure out how all the pieces fit together.

Here’s a look at how the effects of low oil prices are playing out in various sectors in the Middle East.

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1. Saudi Arabia is burning through its foreign reserves.

Saudi Arabia’s foreign reserves are down, thanks to lower oil sales, but that’s not the only reason. The country’s been spending like crazy despite the falling price of oil, with some of its most conspicuous outflows occurring since King Salman bin Abdulaziz ascended the throne in January.

For instance, in just two months, the Saudi government has run through $36 billion of its central bank’s net foreign assets, which amounts to approximately 5% of its total foreign reserves. That’s the most the country’s foreign reserves have dropped in a two-month period on record. The next largest decreases were in 2008 and 2009, during the global financial crisis, but they paled in comparison.

Among the big-ticket items that foreign reserve money has gone for are a two-month bonus granted by the new king to pensioners and to government employees; expanded military action both at home and abroad—in 2014, military spending by the Saudi government jumped 17%, totaling more than $80 billion for the greatest such spending increase of any major power—and investments in oil field projects despite the current state of oil prices.

In addition, the country has maintained existing spending levels in many other areas, such as wages, public benefits and infrastructure projects.

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2. Succession to Saudi throne seen as stabilizer to current oil policy.

Speaking of the new king, his recent overhaul of the succession plan has put younger members of the royal family in line for the throne. The move is seen not only as an indication of a tougher foreign policy in the future but as a predictor that the country’s current oil production levels will continue.

Some of the changes will affect the Saudi oil industry. Khalid al-Falih, who was president and CEO of Aramco, was named the country’s new health minister during the overhaul. In his place, Amin Nasser was named acting CEO, and a new supreme board to oversee Aramco’s affairs has already replaced the one put in place by the late King Abdullah. The board is headed by Deputy Crown Prince Mohammed bin Salman, the son of the current king and second in line to the throne as well as the chairman of the Council of Economic Affairs and Development.

While Aramco itself is being restructured, as well as being separated from the oil ministry, reportedly the change in leadership is expected to solidify the country’s oil policy.

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3. Dubai’s shops are feeling the absence of customers.

Lower oil prices have meant that those dependent on oil for their income have less money to spend. That’s hit the luxury shops of Dubai hard, especially gold dealers.

Both tourism and shopping have fallen in the country that’s built an economy not totally reliant on oil. However, Dubai is still susceptible to hits on other sectors that result from oil’s drop. Fewer tourists are coming, and when they do they just aren’t spending the way they used to. In particular, the numbers have fallen off for Saudi Arabian tourists—and for Russians as well, who have their own financial tales of woe and as a result fewer rubles to exchange for gold trinkets.

Hotels are not hiring; some are even laying off. In March a report in the newspaper The National cited airport statistics indicating that Russian visitors to Dubai in February fell 36%. And a PwC report said that Dubai hotels are probably in for a 2.4% decrease in revenue per available room.

That’s meant that local demand for gold has fallen substantially, along with the price of oil. In 2014, the metal was already on its way down, with figures from London-based research firm Metals Focus data showing a 23% drop for the year—the largest fall in demand in the region for at least four years.

So it’s no wonder that the Dubai Gold Souk is having to resort to discounts, instead of the heavy markups that used to highlight its stock in trade. Lower prices in the gold market in general are no help, further pressuring dealers.

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4. Middle Eastern sovereign wealth funds are cutting global investments in real estate.

Saudi Arabia’s government may still be spending, but that doesn’t mean that it hasn’t cut back elsewhere—or that other Gulf nations haven’t tightened the purse strings. One way is for their sovereign wealth funds to dial back on new real estate investments elsewhere in the world.

According to consultants CBRE, SWFs in the Middle East reduced their real estate purchases outside the region by 31% in 2014. “This reflects more cautious behavior from natural resource-based SWFs in light of weaker oil pricing,” CBRE said in a report. “The effect might be even stronger in 2015 and in the next couple of years after.”

At an April news conference, Nick Maclean, managing director of CBRE Middle East, said that some factors accounting for the drop were high prices, a lack of available properties and fast deal completion. He said in reports, “There’s a suggestion that some locations from a GCC (Gulf Cooperation Council) perspective have become too expensive, London being one.”

But other Middle East investors turned to sites elsewhere in the world to find the potential for better returns than they expect at home. CBRE said in the report, “In contrast to SWFs, private wealth and equity funds took off as a major new source of outbound capital from the Middle East. Research shows a greater allocation of investment in real estate and more concentration on geographical diversification away from the home region.”

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5. A Dubai developer has nixed a hotel in favor of more exclusive residences.

Palma Development of Dubai has decided to ditch a license it already had to build a hotel on the country’s man-made Palm Jumeirah Island, in favor of building high-end ocean-view private residences for which it says demand will always be strong.

Not only tourism is falling in Dubai, but the residential market is slowing as well. Buyers from Russia and from Western Europe as well are suffering from declining currencies and the dollar-pegged economy of the United Arab Emirates, which is making any potential spending more expensive.

But Serenia, the Palma project, has the potential to withstand all that, according to Kareem Derbas, co-founder of Palma and its CEO. In reports, he pointed out that the demand for beachfront properties is always growing. The brochure for Serenia describes it as “an exclusive gated residence,” with “every home promis[ing] a spectacular PANORAMIC view over the Palm Island and/or the Gulf.”

The company plans to pay for the development via equity and presales, resorting to loans only if necessary. It does not expect to need them.

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