Dubai's Disabused Creditors

The Economist has a good short overview of the situation in Dubai, which includes this interesting take:

Investors had half-expected Dubai World to seek forbearance from its bankers, asking them to extend their loans. But they felt sure the emirate would make good on publicly traded instruments, and in particular Nakheel’s sukuk, rather than suffer further damage to its financial reputation.

I remember the days when investors felt that in the world of emerging markets, publicly-traded bonds were implicitly senior to bank loans. But those days came to an end in the late 1990s with bond defaults in Pakistan, Ukraine, and Ecuador — and they’ve never returned. And it’s not even obvious at this point that restructuring loans is easier than restructuring bonds.

Certainly any entity like Dubai World carrying a large amount of bank debt would be very wary about needlessly infuriating its bankers by defaulting to them while remaining current on its payments to bondholders. If Dubai World’s bondholders really took solace in the fact that they held bonds rather than loans, they thoroughly deserve a large hit in the wallet. And as Willem Buiter says, it’s a good thing too:

Property developers tend to be highly geared and very procyclical in their revenue flows and access to the capital markets. During construction slumps they drop like flies. Because the property sector is risky (ask Donald Trump), its creditors tend to get better interest rates than the sovereign rate. Dubai is no exception to this rule. If you earn a risk premium during good times, you should not moan when the borrower defaults from time to time when the going gets tough…

Property companies don’t fall into the systemically important category. Their collapse is painful for their shareholders, creditors and, if the local labour markets are weak, their employees. They are not, however, systemically important. Their collapse will not threaten the delicate fabric of financial intermediation. They are fit to fail. Creditors beware.

Comments

[Davewmart]

I usually like whaqt Willem Buiter writes, and he is perhaps correct that property risk is not in itself systemically important.
However, pushed too far the idea that property exists in some sort of self contained bubble is not supportable as other sectors will be hard hit by defaults.
Maybe Dubai alone is not a big enough event to push banks over the edge, but it is hot likely to be an isolated occurence and does not bode well for banks which are already in trouble.
The biggest losses it seems are on UK banks, which have problems enough, as does UK sovereign debt incurred supporting them.

2009 Nov 28 07:21 AM

[Leftfield]

This crisis highlights the fact that there has been no change, no reform, all too little consequence for the most culpable. Therefore, a pinprick can all too easily implode the present taxpayer underwritten bubbles, the means of which our leaders, in their wisdom, have bestowed upon the usual suspects to inflate.
For a few years we were treated to the spectacle of MSM and comedic government spokespersons telling us that subprime was a small part of the housing industry, which really didn't loom so large anyway, in our post-reality goldilocks economy. Just as skyrocketing oil presumably was an irrelevant sideshow to the real economy: Trading paper and shopping.
The liars continue to lie, the situation is more frail than ever, the unrepentant are in control. Dubai, maybe my aunt foreclosing, it may not take much to start another avalanche.

2009 Nov 28 08:44 AM

[knight]

Some thoughts as I live in Dubai and hold the bonds

Nakheel 09/ Dubai bonds
I
t has been a very interesting/difficult week with regards to our holdings on the Nakheel bonds. The unimaginable happened which caught everything and everyone off guard. The last two weeks investors were full of confidence as S.MO (Dubai ruler) himself said 10 days ago they were prepared to meet all debt obligations and for those people who think Abu Dhabi and Dubai don’t stand together to “shut up”. The consequence of their actions will be severe as investor confidence is now completely lost. Dubai economy is based on 3 things.
1. Financial services
2. Real estate
3. Tourism
With this latest move they effectively killed 2/3rds of their economy. The real estate sector was picking up and this effectively killed any rally. It would not surprise me if prices drop by another 30% from current levels. People are saying if they can do this in the international market who knows what they could do in the local markets. Bond prices have been quoted on Friday between .45 cents to as high as .75 cents. The trading volume has almost been non existence as few hundred thousand dollars are changing hands in a given DAY. If they don’t pay the bonds by December 31st 2009 they will be in default. This would then trigger a series of events which no one knows would take place. Some are hopeful they pay the bonds I am not as the damage has been done. Asian markets and markets around the world have been punished since this announcement with some markets off by 7% in the past TWO days alone. Weather this is contained or leads to a broader sell off will remain to be seen. Abu Dhabi has said they will choose which entities to support from Dubai world. Nakheel being one of the biggest they will need to decide if this is of strategic imoportance and to big to fail or to big to save.

If you wanted to restructure your bonds its your right but it shouldn't be done 2 weeks before you are meant to pay it and 10 days ago saying the face value increase by 6 dollars to 115.5 per share because there is no IPO. Its dishonest and deceitful

2009 Nov 28 11:20 AM