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Kuwait Strategy: Reiterate OW Kuwait on cUSD1bn FTSE inflows, Buy NBK

Reiterate OW on Kuwait ahead of FTSE’s 28 March release 

We reiterate our OW call on Kuwait in MENA as we expect to see an uptick in interest following FTSE’s 28 March announcement, which is expected to specify the number of tranches for Kuwait’s FTSE EM inclusion. We continue to expect two tranches, similar to what we saw in Qatar, with the first tranche in Sept’18 (50%) and the second in Mar’19 (50%). We believe NBK is the best way to play this index trade, as we see it as the market proxy with an expected flow-to-ADVT ratio second only to Agility.
Kuwait is more than just an index story and the price is right

Kuwait has the lowest CDS spreads among major FMs, and the lowest budget and external breakeven oil prices in the GCC, further cementing its fundamental story. Consensus EPS growth for Kuwait is expected to be 15% for 2018e vs 18% for FM-x-GCC, but we see upside risks to Kuwait’s EPS. Also it is trading at attractive levels from a MENA, FM-x-GCC and FEM context – notably its discount to FM on P/E is 4% vs 5-year avg. premium of 18.5% and a 35% P/B discount vs 5-year discount of only 8%. Finally, the dividend yield spread of MXKW to MXFMXGCC is now 2% (vs 1% historically).
NBK (top pick) will be the proxy for the trade (Buy, 17% upside)

We estimate that NBK (part of our MENA top 20) will receive cUSD279mn inflows as a result of the FTSE upgrade (49x 3MADVT). Our banks team is positive on NBK with a TP of KWD0.92 (17% upside) due to credit growth, NIM expansion, and 16% EPS growth in 2018e. NBK’s earnings have been understated in the past few years by c20-30% p.a. because of precautionary provisions and assuming that these are finally stopped by CBK, we could see NBK’s reported ROE of 12.1% and tangible ROE of 14% rise by c250bps. This is despite NBK having a strong capital position (CET1 of 14.2% is c275bps above the regulatory minimum; balance sheet leverage is low at just 9x). We also have ZAIN and HUMANSFT in our MENA Top 20 list, with ZAIN in our FEM picks list. We also highlight Buy-rated KFH (TP of KWD0.68, +15% upside) as the second-largest beneficiary of FTSE-EM flows. 
What will the final list look like? BURG to  miss out 

In total, we expect FTSE’s final list of constituents for Kuwait to include 11 to 16 names across the large, mid and small cap segments. Accounting for 0.5% of the FTSE EM All Cap Index and leading up to cUSD1bn worth of passive inflows from FTSE trackers. Our updated watch list is missing BURG compared with our list published on 4 January 2018, due to liquidity. However, we flag three medium to low conviction new possible additions: GBK, BPCC, and ALAFCO.
Mohamed Al Hajj