If Middle East Eases: Go Long South Africa and Turkey, Short Saudi Energy

Overview

This report by Morgan Stanley is a tactical investment strategy memo regarding potential easing of tensions in the Middle East (especially a possible Memorandum of Understanding between the US and Iran to reopen the Strait of Hormuz). The core of the report lies in identifying EEMEA ( Emerging Europe, Middle East, and Africa ) stocks that would benefit or be negatively impacted through quantitative screening under scenarios of reduced geopolitical tensions. The conclusion shows that the stock markets of South Africa and Turkey have the highest upside potential, while energy-related sectors in Saudi Arabia and Eastern Europe face significant downside risks.

Core views

Expectations of easing geopolitical tensions are driving market rallies. Recently, global markets have risen due to hopes of缓解geo-political tensions (cessation of hostilities预期between the US and Iran), and EEMEA stock markets are trying to break through recent downward trend resistance levels. In this context, the institution provides a tactical long-short stock screening list based on specific logic. Bullish direction: Led by South Africa and Turkey. The report suggests that if substantive easing agreements are reached, South African stocks (covering mining, finance, and consumer goods sectors) as well as Turkish bank stocks will show the greatest upside potential. Additionally, Greek and Polish stock markets are also seen as leaders in recovery. Although the UAE market may also rebound with the overall trend, the report recommends a fade strategy (reducing holdings at higher levels) unless there is evidence that its population growth is accelerating again. Bearish direction: Pressure on energy and chemical sectors. Conversely, under the same easing scenario, the energy, chemical, and utility sectors of Saudi Arabia and emerging European markets (such as Poland, Czech, etc.) will face the most negative impacts. These sectors had previously benefited from geopolitical risk premiums, and the easing of tensions could lead to valuation adjustments. Short-term risks to the Saudi viewpoint. The report points out that there are currently short-term risks to the 'overweight' view on Saudi Arabia because the easing of tensions could weaken its geopolitical premium. However, from a medium-term perspective, oil prices are still expected to remain at relatively high levels, continuing to provide fundamental support for the Saudi market.

Analysis framework

The institution adopted a quantitative screening method combining fundamental correlations and technical aspects. Specifically, the tactical long-short screening is based on two main dimensions: one is the combination of oil price correlation, local interest rate correlation, and market performance during previous ‘false’ deal achievements (accounting for about 2/3 weight); the other is the Z-score technical indicator used to identify overbought or oversold conditions (accounting for about 1/3 weight). This hybrid approach aims to capture those assets that are most sensitive to geopolitical events and are in extreme technical positions.

Methodology notes

• Quantitative/Factor/Portfolio Theory

  Multi-factor screening driven by geopolitical events

  By combining the asset's correlation to oil prices and interest rates (reflecting macro sensitivity) and the market response to historical similar events, overlaying technical indicators (Z-score) for overbought/oversold states, the report constructs a tactical trading portfolio. This method helps investors quickly identify beneficiary and impaired assets at geopolitical turning points.

• Industry/sector analysis frameworkSubstitution effect analysis

  Fading of geopolitical risk premium

  During geopolitical conflicts, certain assets (like Saudi energy stocks) gain premiums due to supply interruption risks; once the situation eases, this risk premium fades, leading to lagging relative performance. Conversely, assets that were previously suppressed (such as non-resource South African stocks) may rebound due to rising risk preferences.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• South African Stock Market (South Africa)

  Beneficiary: Easing tensions boost risk preference, favoring mining, finance, and consumer goods sectors

  Strengths

  Covers diverse sectors (mining, finance, consumption), has the highest upside risk

  Weaknesses

  ---

  Comparison

  Compared with Saudi energy stocks, South African stocks benefit more from improved global risk sentiment

  Risks

  ---

• Turkish Banks (Turkish Banks)

  Beneficiary: Easing tensions lower regional risks, beneficial to high-beta bank stocks

  Strengths

  Dominant in tactical bullish screenings

  Weaknesses

  ---

  Comparison

  Together with South African stocks, they are leading the rally tier

  Risks

  ---

• Saudi Energy/Chemical Stocks (Saudi Energy/Chemicals)

  Impaired: Fading of geopolitical risk premium could lead to valuation adjustments

  Strengths

  Still supported by high medium-term oil prices

  Weaknesses

  Facing short-term downward pressure, being a major part of the tactical bearish screening

  Comparison

  Together with emerging European energy stocks, they are viewed as negative lists

  Risks

  Short-term risk to the overweight view

• UAE Stock Market (UAE)

  Neutral to cautious: May rebound with the market but lacks strong fundamental support

  Strengths

  May follow regional sentiment rebound

  Weaknesses

  Lacks evidence of population growth, suggested to reduce holdings on rallies

  Comparison

  Performance may not be as strong as South Africa and Greece

  Risks

  Sustainability of rebound questionable without population growth data support

Key data

• Screening weight - fundamentals/historical performanceAbout 2/3Includes oil/interest rate correlation and market performance during previous false deals
• Screening weight - technicalAbout 1/3Based on Z-score technical indicators to identify oversold/overbought states
• Core Bullish AreasSouth Africa, Turkey, Greece, PolandAmong which South Africa covers mining, finance, consumption; Turkey mainly consists of banks
• Core Bearish Areas/SectorsSaudi Arabia, Emerging EuropeMainly concentrated in energy, chemicals, and utilities sectors

Impact & implications

For investors, the report signals that when there are signs of easing geopolitical tensions, they should quickly adjust their allocation structures in the EEMEA region. It involves shifting from energy stocks dependent on geopolitical risk premiums to emerging market domestic demand and cyclical sectors benefiting from a rise in global risk appetite (such as South Africa's comprehensive economic sector). Meanwhile, attention should be paid to the short-term volatility risks of the Saudi market, although its medium-term oil price support logic remains unchanged. Caution is needed for the UAE market regarding pure sentiment rebounds lacking fundamental (population growth) support.

Risks

• Failure of US-Iran negotiations or re-escalation of geopolitical tensions
• Sharp drop in oil prices, weakening medium-term support for markets of oil-producing countries like Saudi Arabia
• Lack of fundamental evidence such as population growth in UAE leading to failed rebound

What to watch

• Progress on the Memorandum of Understanding between the US and Iran to reopen the Strait of Hormuz
• Breakout situations of the stock markets of South Africa, Greece, and Poland
• Population growth data of UAE
• Medium-term trend of oil prices