There are some questions that we simply don’t get around to asking ourselves very often, and this is one of them – where are all those disaffected Middle Eastern investors putting their money, now that New York’s relationship with so much of the Muslim world has hit such a sticky patch?

Are the oil sheikhs and their well-heeled families staying true to Wall Street in its hour of turmoil, or are they looking for more ‘politically acceptable’ places to keep their cash?

Meanwhile, here in Europe, are they feeling pinched by the new laws curtailing banking privacy, or by Alastair Darling’s £30,000 a year tax on non-domiciled foreigners’ investment incomes? For that matter, are ordinary UK Muslims beginning to follow their brethren’s lead away from the West and back toward the financial centres of the Middle East?

A booming region
If you need answers, consider the magnificent new financial centres going up in Dubai and Abu Dhabi. Or the booming financial scenes in Egypt and Jordan, which are profiting enormously from the West’s present discomfort. Or the biggest financial centre of them all, Riyadh, which holds half the combined market capitalisation of the Arab world, and which is now locked in a brotherly struggle with Dubai for its future dominance of the greater Muslim investment portfolio. Make no mistake, this is a huge and fast-changing market that we ignore at our peril.

But then, Saudi Arabia is no ordinary country. Over half of its population is under 20 years of age. Its average per capita income of US$25,000 (in purchasing power parity terms) puts it ahead of large parts of Europe, even though only a relatively small proportion of the country’s passport-holders – and almost no women – are actually working. Like many other oil-producing states, Saudi Arabia relies heavily on migrant labour to get things done.

Its export industries are booming, especially the non-oil ones. And its people are certainly keen investors. When the government sold off a 70 per cent stake in the nationalised Al Inma Bank a few weeks ago, almost half of the population subscribed to the $2.8 billion flotation.

In short, don’t underestimate the power of the Saudi stock market. Its 120-odd listed companies share a combined market capitalisation of more than $500 billion, which means that their average size is a staggering £2 billion in sterling terms. Last year, 25 new companies joined the market, and another 30 to 40 are expected to make their entrance this year. Altogether, it is estimated that the banking system alone has $200 billion of deposits right now.

Opening up
This is why Saudi Arabia is moving fast to consolidate its dominance of the Gulf states’ financial markets. At present, it is being held back by a rule that bars foreigners from direct ownership of Saudi-listed stocks, unless they are nationals of the Gulf Co-operation Council. This means, in effect, that, as a Briton, you can only invest through a mutual fund.

But Dubai doesn’t have such strict rules about foreign ownership so Riyadh is now taking steps to relax the old restrictions. HSBC Bank Middle East is planning to launch two index products that will give international investors access to the national market – a Saudi equity index with 36 varied stocks and a petrochemical index with 11 stocks including the country’s largest company, the Saudi Basic Industries Corporation.

Riyadh is taking other steps to open up the way to a wider world. Reporting requirements have been toughened up in the past year, and the exchange now has an electronic trading system that has doubled its handling capacity, says the Capital Market Authority, which oversees the whole market.

And the government is getting bolder about letting the private sector into its more closely guarded sectors, via privatisations in areas such as insurance and telecoms. Furthermore, it is actually inviting foreign companies to get involved in the construction of new economic zones. In fact, the remaining restrictions on direct foreign investment may be abolished in the next year or two.

But does it deliver?
So far so good. But the feelgood factor in Riyadh starts to fade rather rapidly when we look at how the market has actually performed over the past few years. Calling it a switchback would be putting it rather mildly: from an absurdly speculative peak of 20,900 points in February 2006, the index dropped right back to below 7,000 in the middle of last year, before starting a stunning fightback to 12,000 in December. Its current valuation of 9,500 (in early April) looks like quite a bargain, but not unless we understand what has been going on to create this terrific volatility.

The problem, essentially, is that there has been far too much money flooding in from abroad and not enough equities for investors to buy. The result has been a ghastly cycle of overvaluation and subsequent sell-offs, which would scare off all but the most committed investors.

An ill-advised short-term investor would have lost his shirt if he had gone in at the wrong moments during the past couple of years. A long-term buy-and-hold investor, however, ought to have fared better. But either way, with average luck, the recent changes ought to reduce this volatility.

A good investment prospect?
So what of the country itself? It seems hardly necessary to say that the Saudi regime is benevolent but effectively absolutist, and that the king’s ministers get what they want without much debate. But to stop at this would be to underestimate the modernisation that is going on throughout the country as it aims to integrate itself better with the changing times. Technocrats are in place at every level. After all, nothing less than Saudi Arabia’s business standing is at stake.

Remarkably, the World Bank has recently declared Saudi Arabia to be the world’s 23rd easiest state in which to conduct business, thus putting it ahead of both France and Austria. And its accession to the World Trade Organisation in 2005, together with a steady opening up of the Saudi economy to foreign investors, has sent its annual receipts of foreign direct investment up from $2 billion to $18 billion in 2007.

All this has been accompanied by an export drive for products of all sorts; about 500,000 people now work in manufacturing. But farming is in decline. Wheat was once an export commodity, but production is now being scaled back to conserve water resources.

We’ll conclude this survey with a tantalising possibility. The Saudi authorities have become worried in recent months that the weakness of the US dollar might drag it down and make the whole economy less attractive to foreigners. That’s why we have been hearing a lot of loose talk about decoupling the Saudi riyal from the US dollar and letting it rise.

That would effectively make Riyadh’s markets a magnet for other investments from around the world, and some of us would soon become rich. But be careful of what you wish for, as it would also send the sterling price of oil through the roof. Wouldn’t it?