While some regional stock markets have had a scorching first quarter, Qatar\'s performance has been unusually subdued, with the index barely up about quarter of a per cent year to date. Ironically, a strong performance last year might be one reason for Qatar\'s disappointing first quarter. \"The lag in Qatar performance is likely due to profit taking from certain blue chips which saw signifiant gains following the announcement of their FY 2011 results,\" Raghu Mandagolathur, senior vice president, research at Kuwait Financial Centre (Markaz), said. He pointed to Industries Qatar which jumped 8 per cent in February while Qatar Telecommunications (Qtel) surged 12 per cent. A number of factors have worked against Qatar. According to Saleem Khokhar, head of equities at National Bank of Abu Dhabi\'s asset management group, \"rich valuations due to strong performance last year, a move by the Qatar banking regulators to reduce dividend payouts by Qatari banks, and Qatar\'s reluctance to raise foreign ownership limits, effectively excluding it from a possible MSCI upgrade to emerging market status at the June 2012 review.\"With regard to dividend distributions, Saudi and UAE companies stood out this year causing a flood of retail investors to move away from Qatar, Haissam Arabi, chief executive of Gulfmena Investments, said. The lag could also be due to the drag from the banking sector, with Qatar National Bank (QNB) registering a loss of 11 per cent on its share price in the first quarter, Arabi and Mandagolathur added. Mandagolathur also explained that the introduction of a Total Return Index — which takes into account dividends when calculating the performance of indices — \"may be causing investors to take a cautious approach for the time being until clarity is afforded in April.\" However, Qatar still has potential for a strong showing for the rest of the year. \"Now that Qatar, UAE and Saudi Arabia are more or less at level playing field, we could start seeing the Qatari market making up for lost time,\" Arabi said, adding though that first quarter earnings need to surprise on the upside for that to happen. But banks, usually a major driver of indices in Qatar, are not expected to show the same growth rates as in previous years due to a shrinking deposit base and a constrained loan-to-deposit ratio. \"If profitability in the banks does not register double digit growth this year, the Qatari equities market might continue to lag behind other regional markets albeit with an upside risk,\" Arabi said. Khokhar agreed. \"Qatar\'s underperformance has generally come from the Qatari banking sector and this may remain the case for the second quarter.\" But he pointed out that, generally, valuations for Qatari stocks are now in line with Gulf markets, with the exception of Saudi Arabia, which trades on higher multiples. \"The fundamental growth story for Qatar remains intact and potential capital appreciation for Qatari stocks over the medium to longer term is significant,\" Khokhar said. According to him, stocks that have performed well and which he would continue to hold for their good upside potential are: Qatar Telecommunications, Qatar Electricity and Water and Industries Qatar. Arabi\'s picks include the Commercial Bank of Qatar, Qatar National Leasing Company and Industries Qatar (IQ). \"Industries Qatar should benefit from expanding capacity in spite of lower steel and fertiliser prices globally. Other than IQ, which could be vulnerable to global macro trends, we don\'t see major risks as government continues to enjoy high oil revenues and mega spending,\" he said. Shakeel Sarwar, head of asset management at Securities and Investment Co., Bahrain, thinks Qatar still has the potential to outperform other regional indices because the valuations are still attractive and the overall economic and corporate earnings growth story remains intact. He likes Industries Qatar, Qatar National Bank, Commercial Bank, Doha Bank and Qatar Navigation. \"I think these stocks have the potential to produce double digit returns in 2012.\" Mandagolathur\'s research points to a favourable view on Qatar National Bank as it is \"a medium return, low risk stock in our assessment\". He also believes Qatar Telecommunications is a strong firm, but he sees some downside risk in the near term given muted earnings in telecoms in general. »Saudi Arabia\'s Tadawul is up almost 18 per cent since the start of the year, but there is a mixed view on the quality of the rally in the region\'s biggest market. And when it comes to the Dubai Financial Market index, which is up almost 24 per cent and the Abu Dhabi Securities Exchange, which has risen more than 5 per cent, the views are relatively more positive. \"[We are] nervous,\" Shakeel Sarwar, head of asset management at Securities and Investment Co., Bahrain, said, referring to the Saudi performance. Out of the top 70 out-performers, there are hardly six or seven companies which could be classified as ‘investment grade\' — the rest are all speculative small cap stocks, he explained. \"The interesting thing is that almost all blue chips and large caps, including Sabic [Saudi Basic Industries], Al Rajhi, Samba, SAFCO [Saudi Arabia Fertlizer Company], STC [Saudi Telecom Company] etc., have underperformed the market massively. We estimate that speculative stocks have contributed around 5 per cent to the index\'s returns.\" Yet he is confident that as the year progresses, the markets will return to a more normal pattern. \"There is great value in the GCC [Gulf Cooperation Council] markets but the froth we have seen with the Saudi small caps were unconvincing for us to invest in.\" Raghu Mandagolathur, senior vice-president at Kuwait Financial Centre (Markaz), believed the first quarter rally in Saudi Arabia and Dubai may have likely rallied too hard and too fast and are poised for some profit-taking. \"We\'ve already seen that in Saudi Arabia, where blue chips are down for the month. The same goes for Dubai, which has rallied on the back of Emaar Properties, but that seems due for some selling pressure. Holding seems the best course at the moment until [there is] more clarity. April looks set to be a negative month for markets given the first quarter gains.\" Healthy corporate earnings Others are more optimistic though a brighter outlook is dependent on healthy corporate earnings in the coming quarters, coupled with a quieter international environment. According to Haissam Arabi, chief executive of Gulfmena Investments, both Saudi Arabia and the UAE have entered into a bull market cycle. The tell-tale signs include a massive surge in trading volumes. \"These markets are also coming from a very low point and supported by solid fundamentals on both macro and micro levels,\" he said. \"Current valuations are still not stretched and that is why first quarter results will be critical as they will validate whether the markets have another leg to the rally or not.\" According to Saleem Khokhar, head of equities at National Bank of Abu Dhabi\'s asset management group, Saudi Arabia continues to perform on the back of strong infrastructure spend and the possibility of the Saudi market opening up to foreigners. The UAE market has benefited as a safe haven from the Arab Spring and has witnessed a resurgence in confidence, particularly in Dubai. \"Investor focus post first quarter will likely be on growth and capital appreciation with the dividend themes taking a backseat. First quarter numbers will be watched closely. However, I do not expect any significant deviation from street estimates. Much depends on the global recovery and investor sentiment, which we believe is cautiously optimistic,\" he said. Arabi believes regional markets, like the UAE and Saudi Arabia, may have decoupled from the rest of the world as they are still showing resilience and may be in a bull cycle. \"That said, the markets and the positive investor sentiment have a threshold, Eurozone fears may not derail sentiment in a week but if it does persist and sentiment shifts, we could see a reversal and higher correlation with global markets again,\" he cautioned. But, he added: \"We believe that first quarter numbers from Saudi Arabia and the UAE will likely act as catalyst at least to maintain resilience before they can pick up again.\" Arabi\'s favourite three picks in the UAE are Emaar, Tamweel and National Bank of Abu Dhabi. In Saudi Arabia, he favours the banking sector and cements companies, with Al Rajhi as the top pick followed by Yamama Cement and Saudi Cement. Khokhar\'s picks in Saudi Arabia are Al Rajhi, Mobily (Etihad-Etisalat) and Tasnee (National Industrialisation Company). In Abu Dhabi, he likes First Gulf Bank and in Dubai, Emaar. Sarwar would continue to stick with blue chips in Saudi Arabia — Sabic, Al Rajhi, Samba, SAFCO, STC — despite these underperforming. Mandagolathur thinks Sabic, in Saudi Arabia, will probably trade sideways as demand remains muted. In Dubai, Emirates NBD looks attractive at a price earnings ratio of six, but overall, mid and small caps might be a better pick in the second quarter.