Lurking in the background are the combustible politics and instability of the Middle East. The Israel-Hamas war has cast a pall over the region and frozen a much-anticipated peace deal between Riyadh and Jerusalem. Iran and its proxy militias in Lebanon and Yemen—the latter attacking ships in the Red Sea—remain a source of regional conflict. 

But the instability doesn’t seem to be affecting Saudi Arabia’s investment outlook or its stock market: An exchange-traded fund tracking the Saudi market is up 11% in the past year, almost doubling the return of emerging markets broadly. More gains could come as the economic transformation takes hold. Non-Saudi companies like Boeing, Oracle, and Hilton Worldwide Holdings could get a boost to sales, along with Wall Street banks trying to tap into the action from a revitalized Saudi Arabia. 

“No one believes me when I tell them what is happening in this country,” says Amy Oldenburg, head of emerging markets equity at Morgan Stanley Investment Management. “It’s rare in emerging markets that we see a country with such an aggressive plan—trying to achieve things that countries have done over 15 to 20 years within a shorter period of time.”

In the near term, oil will remain critical, accounting for 40% of economic activity and 70% of government revenue. The Saudis cut production recently amid worries about weakening demand from China and increased production from the U.S. Reflecting the pressure, the kingdom’s latest budget outlook projects modest deficits over the next three years versus previous forecasts for largely balanced budgets.  

Over the longer term, global efforts to phase out fossil fuels threaten the economy, a reason the Saudis are investing aggressively to diversify. The government also needs oil to stay above roughly $80 a barrel to maintain a fiscal break-even point—while spending massively from its sovereign-wealth fund to subsidize new industries and projects.  

The non-oil economy is now booming with spending by consumers, businesses, and the government, says economist James Swanston of Capital Economics. That should help reignite growth. Swanston expects Saudi’s economy to expand by 6.3% in 2025, making it one of the strongest emerging markets.  

The core of the makeover is “Vision 2030,” a sweeping modernization plan launched in 2016 by the country’s de facto ruler, Crown Prince Mohammed bin Salman, known by his initials MBS. A globe-trotting millennial, MBS has been on a roadshow to promote Vision 2030—aiming to burnish the kingdom’s image and lure investment. 

The changes are transforming Saudi’s economy. Riyadh recently hosted the Middle East’s largest pop music festival. Lucid Group started building electric vehicles in the country for both domestic sales and export. A $500 billion renewable-powered city project is going up in the desert. Even its oil industry is diversifying with a push into petrochemicals.

A big change is that the Islamic “morality police” have been sidelined. Women are now on the roads and able to socialize without a male guardian—a stark contrast to 2018, when women were jailed just for driving. Female labor-force participation has jumped from 18% in 2009 to 30%.

The overarching goal is to inject dynamism into a sclerotic economy and modernize a country where more than half of its 36 million people are under 35 and until recently had scant incentive to look beyond government jobs.

A welcoming face is on display and gaining traction. Films, music, and other forms of entertainment are no longer banned. Riyadh is hosting techno concerts, wooing celebrities like Gwyneth Paltrow to film festivals, and turning into a sports powerhouse: The Saudi-sponsored LIV golf league has lured top players; soccer superstars like Neymar and Ronaldo now play in Riyadh.

Global companies and leaders are coming, too. Just weeks after the Hamas attacks on Israel, a “Davos in the Desert” conference drew chieftains including Citigroup CEO Jane Fraser, BlackRock Chairman and CEO Larry Fink, and Goldman Sachs Group Chairman and CEO David Solomon. Oracle says that it plans to invest $1.5 billion to bolster the kingdom’s cloud infrastructure; Microsoft announced a $2 billion investment to do the same. HSBC Holdings plans to increase its workforce in the country by 10% to 15%. 

A new entrepreneurial spirit is also percolating. Years ago, young Saudis went into cushy government jobs that paid well, avoiding the private sector and risk-taking. Today, there’s far more incentive to launch a start-up, along with success stories like grocery delivery firm Nana and ride-sharing app Careem.

In the old days, “you couldn’t wait to get out of there. It was dead and intellectually stale,” says Jon Alterman, director of the Middle East Program at the Center for Strategic and International Studies, who has visited the country for decades. “The mood now is different, with a sense that this place is on the move.”

Critics assert that the Saudi charm offensive is designed to deflect attention from ongoing human-rights abuses, including lengthy jail terms or death sentences simply for tweets. Despite the flurry of reforms, analysts say there’s virtually no movement to open up Riyadh’s political system—with power largely consolidated in MBS—while repression and surveillance have increased. 

Riyadh is also trying to rehabilitate its image since the 2018 assassination of the Saudi dissident and journalist Jamal Khashoggi. U.S. intelligence pegged responsibility for the murder on Saudi authorities, including MBS. The Saudi government denied responsibility and prosecuted eight people it said were involved. 

So far, none of this looks likely to derail the makeover. Assuming that the Israel-Hamas conflict doesn’t spread, Saudi’s economic plan should stay on course, says Ayham Kamel, head of the Eurasia Group’s Middle East and North Africa research team. The country’s geopolitical stature could also get a lift if it manages to de-escalate the conflict—part of a broader initiative by Saudi leadership to make peace with historic rivals, as it recently did with Iran. 

“Saudi Arabia gave Iran considerable concessions,” says Marko Papic, chief strategist at Clocktower Group. “These concessions should convince investors that [the kingdom] is singularly focused on its dramatic economic transformation.” A detente between the historic enemies should act as a geopolitical anchor, stabilizing the climate for investment, says Papic, who has made several business trips to the kingdom this year.

Saudi Arabia’s rise reflects a shift away from China by global investors and companies. China’s growth is slowing as it struggles with an aging population, high debt burdens, U.S. trade frictions, and a global trend to “reshore” manufacturing. Foreign direct investment in China has dwindled and even went negative recently, exceeding $100 billion of outflows in the first three quarters of 2023, according to the Peterson Institute for International Economics.

While Saudi Arabia isn’t nearly big enough to replace China in investment or corporate portfolios, it stands in stark contrast in terms of the resources at its disposal. It has a young, increasingly educated population. Its economy is at an earlier development stage than China’s, and it has vast financial resources, fueled by a sovereign war chest of roughly $2 trillion and gushers of oil revenue, topping $228 billion in 2022.  

Saudi oil money is now being redirected to a slew of new industries. Goldman Sachs estimates that the government could spend $1 trillion by the end of the decade in six sectors, including clean tech, petrochemicals, mining, transport, and logistics.

Manufacturing is on the rise. Riyadh in its initial Vision 2030 plan targeted lifting non-oil exports to 50% from 16% of gross domestic product. The government is wooing biotech and pharmaceutical companies with subsidies and other incentives, including $1 billion for treatments for aging. Riyadh is also using its petrochemical base to lure “dirty” industries that are being pushed out of other parts of the world or want to cut their reliance on China, Papic says. Even China is looking at Saudi Arabia to diversify its clean-energy manufacturing base, he adds. 

The most eye-catching project is called Neom, a $500 billion futuristic city and business hub powered by solar and thermal energy. An offshoot island, called Sindalah, is being built as a playground for the global elite, including luxury hotels and shopping, high-tech golf, and ample marina space for “superyachts.”

In the long term, the goal is to challenge Dubai as a luxury tourism destination. Riyadh has set a goal for tourism to account for 10% of GDP by 2030, up from 6% this year. To help hit that target, the government is starting a second airline, aiming to challenge Persian Gulf carriers like Emirates and Etihad.

All of this is an unprecedented experiment. No country so dependent on oil has reinvented itself so fast. It took Dubai decades, at a much smaller scale. Norway has diversified but had the benefit before discovering oil of developed institutions, infrastructure, a university system, and an educated workforce—all of which Saudi Arabia still has to develop. 

“This is a sea change in the region,” says Rabah Arezki, a Middle East specialist at Harvard University’s Kennedy School of Government. “The litmus test of reform will be if they attract foreign investment. It will take a few years to test, but this is the biggest economic experiment we have seen in a long time.”

Investing in Saudi’s Makeover

While the Saudis are pushing reforms, this is still an early-stage market. Foreign ownership of publicly listed equities is limited to 49%. Underlying asset owners need to be “qualified foreign investors” and obtain legal registration to own and trade securities, according to Vivian Lin Thurston, a manager for William Blair’s emerging markets growth strategy.

“Saudi stock markets are still in the early phase of growth and development,” she notes. Liquidity on the Riyadh exchange is low. Just a sliver of Saudi Aramco, the state oil company, trades publicly, and many of the newest equity listings are available only to locals. 

Transforming the country’s bureaucracy is a work in progress. Legal, regulatory, and tax structures are in flux; some multinationals have been hit with large, surprise tax bills. So far, foreign direct investment accounts for just 1% of GDP, with the Saudis investing far more abroad than others are investing in the kingdom, according to the Institute of International Finance.

The plus side is that officials are open to hearing investors’ concerns, according to Morgan Stanley’s Oldenburg, who views that as a sign of momentum.

The most accessible instrument is the iShares MSCI Saudi Arabia ETF. The fund tracks the Saudi stock market, holding 120 companies listed on the Riyadh exchange. About 40% of it consists of banks, nearly a fifth is in materials, and 8% in energy.  

That makeup is changing, though. Several dozen companies, many consumer-oriented, are poised for public offerings in the next year or two. The country is also increasing foreigners’ ability to own shares of local companies, which should help fuel investment. 

Another lift could come from investors in emerging market funds. Saudi Arabia now makes up just 4% of the MSCI Emerging Markets index, but is poised to become the fifth-largest country in the index in a couple of years. The upshot: Any investor that uses the index as its benchmark will need to buy more Saudi stocks. “It’s on the cusp of being too large to ignore,” Oldenburg says.

Thurston sees opportunities in cosmetics, fitness, and healthcare companies. The country’s young population has considerable disposable income, thanks partly to government funding for things like education abroad. Credit growth is also picking up as consumers begin borrowing for things like cars and mortgages—signs of a growing middle class that make the country attractive for investment, says Thurston.

Multinationals will have to invest if they want a piece of the Vision 2030 action. Whereas companies for decades built regional bases elsewhere and viewed the kingdom as a stopover, Riyadh is requiring firms to locate regional headquarters in the country by 2024 to be eligible for government contracts. That includes Aramco and legions of firms building out infrastructure and manufacturing—lucrative sources of new revenue. 

Boeing, for one, has secured a deal for 80 new 787 Dreamliners as the Saudis build their second airline. Hilton Worldwide plans to open more than 50 hotels across the country. 

The Saudis are also making a big push into videogaming: the sovereign-wealth fund owns minority stakes in many gaming firms and doubled its position in Electronic Arts earlier this year as part of a $40 billion initiative to turn the country into a videogaming hub.

Investors should bear in mind a few caveats. Even as it tries to diversify, Saudi stocks tend to move with oil. The market isn’t cheap by emerging market standards, trading at 17.5 times forward 12-month earnings versus 12.3 for the broader emerging markets index. 

Transforming the economy isn’t just about investing. The country needs to reshape its bureaucracy, educate a new managerial and worker class, and pass far more legal protections. “You have wealthy leadership that’s serious about bringing in the best and rewarding excellence,” Alterman says. “But there’s a lot to do.”

The upside in Saudi Arabia resides in MBS—an authoritarian leader who has shown no interest in opening up the political system. Dictatorships come with considerable risk, as investors in Russia and China can attest. 

“If you are going to have an authoritarian regime, as an investor, you want to know at least who is in charge,” says Papic. The Middle East’s largest economy won’t be a democracy. Assuming it stays investor-friendly, it could lift many ships.