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BofAML Weighs In On Qatar: “Major Concessions Will Be Needed”

"Financial links are a key risk"...

Ok, so as we head into Monday evening in the US, analysts have had a chance to get something on paper with regard to the Qatar situation.

As a brief recap, the QE Index fell the most since 2009 while yields jumped and riyal forwards rose after simmering tensions between Qatar and its neighbors came to a head after a two-week-old dispute involving inflammatory remarks attributed (maybe falsely) to emir Sheikh Tamim bin Hamad Al Thani finally resulted in Saudi Arabia, Bahrain, the United Arab Emirates and Egypt cutting most diplomatic ties with Doha.

While this isn’t the first time Qatar has come to diplomatic blows with its “allies” (see the 2014 spat over the Muslim Brotherhood), it does have the potential to spiral further out of control if left unchecked.

Apparently, Riyadh lost patience with Qatar in April, after Doha secured the release of kidnapped royals by handing over nearly three quarters of a billion dollars in ransom money to Iran, where they had been held hostage since 2015 (more here).

The implications of the current spat are as yet unclear, but that’s not going stop folks from speculating. We brought you Citi’s knee-jerk reaction earlier this morning. Below, find BofAML’s take.

Via BofAML

Major GCC-Qatar dispute erupts

Saudi Arabia announced today it severed diplomatic and consular relations with Qatar. It also closed all land, sea and air links, preventing crossing into Saudi territories, airspace and territorial waters, severing all means of transport to and from Qatar. The rupture of diplomatic ties was subsequently followed by Bahrain, UAE, Egypt, Libya and Yemen. The move was motivated, according to official news reports, by Qatar’s “failure to abide by the Riyadh Agreement on returning GCC diplomats to Doha and its Complementary Arrangement in 2014”, as well as its ties to Islamist groups (including the Muslim Brotherhood) and Iran. The Qatari news agency reported that authorities “regret” the GCC move to cut ties, and that it is “unjustified and without real basis”. US Secretary of State Tillerson remarked on the importance for the GCC to remain unified and that the US, which maintains in Qatar the largest Middle East military base, was willing to help bridge regional differences. Kuwait, typically a regional mediator, appears to be remaining on the sideline of the dispute so far, having failed to bridge GCC differences.

Crisis will require major political concessions

We expect the dispute to linger on and tensions to remain, but we would fade extreme market moves. Intra-regional disputes have been recurrent in the past, and typically lingered for some time until concessions were made. The escalated measures compared to the previous standoff in 2014 likely reflect the recurrent nature of the disagreements. As the Saudi-led response has been more forceful this time, there is likely to be more intense pressure being applied on Qatar. Fully resolving the crisis will likely require credible and sustained concessions to harmonize GCC foreign policy. We do not expect further isolation or retaliatory measures to be announced for now as chances are likely to be given for diplomatic mediation and negotiations to proceed.

Past disputes have been slow to resolve. Saudi Arabia recalled its ambassador to Qatar from 2003 to 2007, following Al-Jazeera televised content deemed offensive in Royal circles. A November 2013 Arrangement stipulating non-interference in internal GCC affairs was agreed to in Riyadh. However, diplomatic ties with Qatar were subsequently severed in March 2014. They were restored in mid-November 2014, prior to the 9-10 December 2014 GCC Heads of States Summit that was due to take place in Doha. In the lead-up to the agreement, senior members of the Muslim Brotherhood were asked to leave Qatar in September 2014. The 38th GCC Summit will be held in Kuwait in December 2017 and could be a natural venue for publicly resolving differences if diplomatic negotiations progress.

No major direct economic impact

Despite the diplomatic isolation of Qatar, we do not see a major economic impact from the ongoing dispute. Intra-regional trade remains relatively low. The closure of the Qatari-Saudi land border is likely to force re-routing of imports and push Qatari inflation higher. UAE does import gas from Qatar through the Dolphin pipeline on a commercial basis, but we do not see a discontinuation for now.

Financial links are key risk

The GCC markets are more financially integrated and links are key to watch. Inflows are likely to taper off but we do not see an impact leading to reversal of FDI, portfolio investment (stocks or bond holdings) or non-resident deposits from public sector entities for now. Similar past intra-GCC or Saudi-Egypt or Saudi-Lebanon disputes did not see financial and portfolio links severed. Given likely material intra-regional holdings, hypothetical large regional bond sales would lock in mark-to-market losses. This is an unlikely course of action unless there is a structural and permanent political rupture of ties. Given years of regional political integration efforts, we think negotiations will likely successfully avoid this outcome through eventual political concessions. Unless this becomes otherwise apparent, should we see much greater spread widening from here, we would expect local buying to emerge and support asset prices.

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