Saudi Arabia's Capital Market Authority plans to open the stock market to direct investment by foreign financial institutions in the first half of 2015, the regulator said.
The CMA said it would publish next month draft regulations for opening the market; there would then be a 90-day consultation period on the draft.
The opening of the Saudi market, capitalized at about $530 billion, is one of the most keenly awaited economic reforms in the world's biggest oil exporter. The bourse would be one of the world's last major exchanges to begin welcoming foreign money.
"The cabinet authorized the Capital Market Authority – at a time it sees as appropriate – to allow foreign financial institutions to buy and sell stocks on the Saudi stock market, according to rules to be laid down by the CMA," the cabinet said in a statement.
Fund managers said the news could give an immediate boost to the Saudi market as local investors anticipated fresh fund inflows worth billions of dollars. The market index is up 14.2 percent so far this year.
"I think this is very positive news for Saudi Arabia," said Sanyalak Manibhandu, manager of research at NBAD Securities in Abu Dhabi.
"There are many attractions to investing: the market in Saudi is much more diversified than elsewhere in the Gulf, the market cap is bigger and the traded volume and traded value are much bigger."
Saudi authorities, who want to use the stock market to create jobs, diversify the economy beyond oil and expose local firms to more market discipline, have been preparing for the opening for years, and have completed most technical preparations.
Test trades have already taken place, suggesting that when the market is opened, fresh foreign investment could start to flow in very quickly.
But the government has delayed implementing the reform, apparently concerned about causing volatility in the market as well as the political sensitivity of allowing foreigners to build large stakes in top Saudi companies.
Currently, foreigners are limited to buying Saudi stocks via swaps involving international banks and through a small number of exchange-traded funds, which are relatively expensive and inconvenient options.
Foreigners are at present believed to own no more than about 5 percent of the Saudi market, and to account for a smaller fraction of stock trading turnover.
Proposals circulated by Saudi authorities to the financial industry have indicated that Saudi Arabia will follow a model similar to China, Taiwan and some other major emerging markets in opening its bourse.
Qualified foreign investors, awarded licenses based on factors such as the amount of their assets under management, would be given quotas for their investment in the market, while there would be ceilings for foreign ownership of companies.
Potential foreign interest in Saudi stocks is believed to be large, because of the country's strong economy – the International Monetary Fund raised its forecast for Saudi growth this year to 4.6 percent – and the presence of some of the region's top blue-chip firms.
These include Saudi Basic Industries Corp, one of the world's largest petrochemicals groups, and National Commercial Bank, the kingdom's largest lender, which plans an initial public offer of shares later this year that could be worth $4 billion to $5 billion.
Because it is closed to direct foreign investment, the Saudi market has been excluded from the major international equity indexes compiled by companies such as MSCI, even as the much smaller markets of Qatar and the United Arab Emirates were upgraded earlier this year.
Opening the Saudi bourse would be expected to lead to its inclusion in such indexes, helping to establish the Gulf as a mainstream destination for international investors.
Following regulatory reforms in the past couple of years, the Saudi market is one of the most stable and tightly regulated in the Middle East, fund managers say; it has avoided the wild swings seen in recent months in markets such as Dubai.