A series of alleged financial misdeeds that have shaken the Gulf in recent weeks demonstrates the extent to which the region's growing presence on the world stage is bringing with it increased scrutiny. As Gulf investors have increased their holdings in publicly traded companies in the US, so market regulators in that country are playing closer attention to trades originating from the region. "This region is putting itself on the global stage," said Khalid Howladar, a senior credit officer at Moody's Investors Service. "It draws scrutiny from the outside world when you try to establish yourself as an international centre for development, for finance and even as a cultural destination. That includes human rights, labour rights as well as capital market organisations."
The focus recently has been on the Gulf's ballooning profile in the financial world. Last week, the US Securities and Exchange Commission (SEC) sued an Emirati man over alleged insider trading. The SEC lawsuit alleged that Khaled Mohammed Sharif al Sayed al Hashemi bought 120,000 shares in Nova Chemicals in the weeks before the company was acquired by the Abu Dhabi government-controlled International Investment Petroleum Company.
The insider trading lawsuit came only a few days after the SEC launched an investigation into Hazem Khalid al Braikan, a Kuwaiti businessman who was accused of planting fake news stories about the acquisitions of two US companies by Gulf investors. Mr al Braikan was found dead last month in an apparent suicide. Observers say such cases illustrate the SEC's determination to strictly enforce its oversight whenever it has jurisdiction. They also serve as an example of how US authorities are stepping up oversight of investors from the Middle East as they venture increasingly into American markets.
But the cases also highlight a cultural divide, observers say. Insider trading is a federal offence in the US that is often punished with large fines. While it is also illegal in most countries in the Middle East, analysts say it is rare for regulators to enforce it actively in the region's still-young capital markets. As Arab investors, corporations and sovereign wealth funds pick up more assets in Europe and the US, more frequent clashes with foreign regulators are only natural, bankers say.
Given the relatively lax enforcement of laws against misdeeds such as insider trading and stock promotion schemes in the Gulf, and the loose regulatory regimes that many local investors have grown used to over the years, many observers say the stage is set for confrontation as these investors increasingly move into international markets. "This does not come as a surprise," said one investment banker who declined to be named. "The two systems had to clash one day. These are young capital markets. They only started investing in the US and we can only hope that the regional regulators get up to speed a bit quicker."
In this climate of lax enforcement, many observers say that regional investors simply lack an understanding that activities such as insider trading are unlawful, drawing them unknowingly into the SEC's regulatory trap. "Many investors here don't have the same knowledge that something is wrong," one banker said. "As a result, they run straight into the SEC's knife." While the will to beef up regulatory regimes might be there for many regulators in the region, getting up to speed may take time.
In Kuwait, where Mr al Braikan executed his alleged stock promotion scheme, no independent market regulator exists to investigate and prosecute financial crimes. Instead, the exchange is essentially self-supervised. A bill to create a market regulator has been under consideration for years by Kuwait's parliament, but the country's fractious political climate has continually put it on hold. All the other markets in the Gulf have regulators, but many are still working on building up the modern legal and technical structures necessary for strong oversight.
Stock exchanges in the US and Europe, by contrast, have learnt through long and hard experience with financial fraud the importance of providing equitable access to capital markets. That entails setting clear guidelines on the punishment of violations and firm rules regarding listings, mergers and the publication of company news. "The real test is whether the regional regulators will respond and what determines whether they will respond," said another banker who declined to be named.
Until all regional stock exchanges step up enforcement and start taking steps to root out insider trading and other unhealthy activity, observers expect that more cases will flare up. As long as the appetite among Gulf investors for shares in developed markets stays strong, they say, so will be the scrutiny of regulators in those markets. "You can be sure to see more insider trading and court cases in the future," Mr Howladar said.
While these cases highlight differences between the Gulf and developed western markets, regulators in the region are not standing idly by. Earlier this month, the Capital Market Authority in Saudi Arabia fined a prominent investor 100,000 riyals (Dh97,940) for insider trading. The move surprised members of the financial community, many of whom had assumed the authority would shy away from prosecuting powerful and influential people.
The Securities and Commodities Authority in the UAE, too, has been ramping up its efforts at modernisation. In June, the authority signed a memorandum of understanding with the CFA Institute in the US to help improve regulation and education of financial analysts. "They [the regulators] have come a long way in the space of one generation, and in a way it is unfair to hold them to international standards that took Europe 2,000 years to develop," Mr Howladar said.
Other recent developments have sparked hints that there may be change in financial practices and oversight. Recent defaults at the Saad Group and Ahmad Hamad Al Gosaibi and Brothers, a pair of Saudi family conglomerates, have resulted in a widespread discussion about so-called "name lending". A common practice in the region, name lending involves credit given on the basis of a firm's reputation, and not its financial position. With the Saad and Al Gosaibi defaults, many lenders are reconsidering that longstanding tradition.
Of course, even if regulators in the region become stricter, banks firm up their lending policies and investors grow warier of prosecution, there will always be a trade-off between the risks and the greater profits there may be in cheating the system. "Until cheating the system becomes too scary in terms of fees and criminal punishment, you will tend not to go for honesty," Mr Howladar said. uharnischfeger@thenational.ae