Dubai Friday: The Black Swan Rears Its Ugly Head

So much for a sleepy Thanksgiving week Friday... a tiny Black Swan called Dubai reared its ugly head. There has been some hand wringing in the UK papers about the debt situation in Greece (all of which ignored by giddy US traders who only know one trade anymore: "US dollar down, buy anything"), so Dubai was a bit out of left field.

You might say Dubai what? Greece who? Small peanuts... but they key is contagion risk. In the late 90s a small economy (Thailand) caused a series of currency disasters which set the world on fire. Which ironically was the first real use of power by Alan Greenspan to flood the world with US dollars (outside Black Monday 1987)... a now knee jerk reaction to any crisis.

I know you laugh here saying "only $60 B!" - that's nothing! Heck that's 1/3rd of an AIG bailout, or 1/3rd of a Citigroup bailout. Heck we committed $13 Trillion of US treasure to backstop the global economy. [Mar 31, 2009: Financial Rescue Package Now Totals $12.8 Trillion] That's how numb we've become to the figures and how epic the use of government/central bank interventions have been in this era... when $60 billion makes many shrug their shoulders. How far we've "advanced" in a decade.

Anyhow, the solution is easy... just have Ben print $60B and hand it to Dubai for the "betterment of the world"... and if it affects any of our financial oligarchs just print more money to give to them as well. Problem solved.... after all US dollars are akin to toilet paper nowadays. In fact S&P futures should be up at least 10% because this insures an even more "extended period of" super low rates. What happened to the party everyone?

Via Bloomberg:

• Global financial markets swooned Thursday, with London seeing its most precipitous drop in nearly nine months, a day after Dubai stunned investors with the news that it was asking banks to allow its main investment vehicle, Dubai World, to suspend its debt repayments for six months.Standard & Poor’s 500 Index futures dived 2.2 percent.
• Dubai World, the government investment company burdened by $59 billion of liabilities, sought to delay repayment on much of its debt.
• The announcement — the global high finance equivalent of a homeowner asking the bank to allow six months of skipped mortgage payments, presumably because the homeowner was out of cash — sowed fear of a contagion of instability that could roil markets that are only now recovering from the near cataclysm of the last year.
  “People are worried about the contagion effect from Dubai,” said Nader Naeimi, a Sydney-based strategist at AMP Capital Investors, which holds $75 billion in assets. “Events like this bring back all the bad memories from the global financial crisis. The market has rallied a long way and is very sensitive to any bad news.”
• Dubai, which borrowed $80 billion in a four-year construction boom to transform its economy into a regional tourism and financial hub, suffered the world’s steepest property slump in the first global recession since World War II. Home prices fell 50 percent from their 2008 peak, according to Deutsche Bank AG.
• Like many Western consumers during the good times, Dubai gorged on debt and borrowed too much to finance a building boom that has gone bust in the downturn. When credit markets froze last year, Dubai, like Iceland, found itself overextended. But Dubai, which has no oil, was backed by its Arab emirate neighbors. At least that is what investors had assumed.
• The cost of insuring Dubai’s debt against default quadrupled Thursday.

This was one of my 2009 Outlier Predictions [Dec 16, 2008: 13 Outlier 2009 Predictions], but I was focusing mostly on Eastern Europe

#12 Wildcard/Europe: Potential defaults on debt arise in a host of smaller countries - especially of the Eastern European variety. I don't know which ones, but they have been mini U.S.'s, borrowing over and above their head, but unlike the U.S. do not enjoy the fact the entire world rushes into their debt market when a crisis emerges. The opposite will happen - Iceland & Ecuador are just the precursor. Russia, if low oil prices persist, invades another former satellite country both as a nationalistic reason (diversion to the populace from worsening domestic conditions) and to try to light a fire under European natural gas, and/or oil prices.

Keep an eye on Greece

• The cost of protecting Greek and Irish government debt against default jumped on Thursday, according to data monitor CMA DataVision, as debt problems in Dubai fuelled risk aversion.

There is one benefit from this... rather than getting the annual CNBC cheerleading about consumer spending from dark mall parking lots across America, we might actually have some useful discussion tomorrow.

Comments

[Alan Young]

It's not a "Black Swan" if everyone knew it was risky. Junk bonds defaulting are business-as-usual. Black Swan would be Japan defaulting.

2009 Nov 27 05:42 AM

[John Galt]

Black Friday it is.

2009 Nov 27 08:26 AM

[DL1947]

the more serious problems is US states and cities on the cronically ill list , together it is likely more than the 59B Dubai number ; how long and how many times can the Federal government step in and save them .

2009 Nov 27 08:48 AM

[Road Runner]

Dubai should be viewed like Bear-Sterns or Lehman Bros before the market collapse in 2008. Bear-Sterns was gong under in the spring of 2008, but it found a suitor that took it over which prevented its problems from spreading to the wider market. But later, Lehman Bros found no such suitor and it failed. It’s failure caused AIG to fail from credit default swaps, which lead to the money markets locking up, which lead to ….

If Dubai can find a suitor that takes over its loans for equity positions, then this crisis will pass without big consequences. But, if it doesn’t, then watch out below – there could be another ripple effect like Lehman Bros.

I think it is highly likely that Abu Dhabi, an oil-rich neighboring fellow member of the United Arab Emirates, will come to the rescue. They have motive to help a fellow United Arab Emirates kingdom, and to get some of Dubai’s assets at a great price. Also, there is motive to prevent another financial crisis that would negatively affect the world economy, thus pushing down oil prices. Plus, there may also be world pressure on Abu Dhabi to take care of its “irresponsible relative”.

Thus, I believe that this crisis is more sizzle than steak.

2009 Nov 27 08:49 PM

[TraderMark]

Dubai's "suitor" will be UAE as you state. They will (unlike the US government towards Goldman Sachs...err, I mean AIG) require a haircut and actually demand a good deal instead of handing out taxpayer money 100% on the dollar. Only an idiot country would do that... or one captured by their banks.

but yes it is actually a lot like Bear, or the bear hedge funds which crashed summer 2007. They were shrugged off and away we went to all time highs by October 2007.

US, UK, Japan, Greece, Ireland, there are lot of full blown ponzi scheme economies going on where debts shall overwhelm the ability to service them. Over the next 15 years I expect many Argentina's to emerge in Western Economies and we'll see what Japan does on the East.

All in good time, the canaries are suffocating as we speak but certainly in between we can have many eye of the storms. Certainly in the US we are not even admitting we have an issue so rather than putting on the brakes to our insolvency we are pressing the pedal to the metal.


On Nov 27 08:49 PM Road Runner wrote:

> Dubai should be viewed like Bear-Sterns or Lehman Bros before the
> market collapse in 2008. Bear-Sterns was gong under in the spring
> of 2008, but it found a suitor that took it over which prevented
> its problems from spreading to the wider market. But later, Lehman
> Bros found no such suitor and it failed. It’s failure caused AIG
> to fail from credit default swaps, which lead to the money markets
> locking up, which lead to ….
>
> If Dubai can find a suitor that takes over its loans for equity positions,
> then this crisis will pass without big consequences. But, if it
> doesn’t, then watch out below – there could be another ripple effect
> like Lehman Bros.
>
> I think it is highly likely that Abu Dhabi, an oil-rich neighboring
> fellow member of the United Arab Emirates, will come to the rescue.
> They have motive to help a fellow United Arab Emirates kingdom, and
> to get some of Dubai’s assets at a great price. Also, there is motive
> to prevent another financial crisis that would negatively affect
> the world economy, thus pushing down oil prices. Plus, there may
> also be world pressure on Abu Dhabi to take care of its “irresponsible
> relative”.
>
> Thus, I believe that this crisis is more sizzle than steak.

2009 Nov 27 09:48 PM

[TraderMark]

everyone knew real estate was risky but that did not stop the black swan event

I dont recall reading all the stories on Seeking Alpha or hearing on CNBC or readng in WSJ about how shorting Dubai would be an awesome opportunity 7 days ago.


On Nov 27 05:42 AM Alan Young wrote:

> It's not a "Black Swan" if everyone knew it was risky. Junk bonds
> defaulting are business-as-usual. Black Swan would be Japan defaulting.

2009 Nov 27 09:49 PM

[enigmaman]

While a small default in comparison to others, nervous investors paid attention because they realize this is not an isolated incident, its yet another reminder that not all the wildly overly optimistic excesses in the markets have been worked out, somebody will connect the dots to determine the ripple affects, if it truly is confined and contained the markets will shrug it off but if it looks like it will have some ripple affects then watch out because the secrecy and lack of visibility surrounding this matter could cause investors to play it safe and bail which could result in the ripple to turn into Tsunami

2009 Nov 28 07:30 AM