The sandstorm that gusted from Dubai after the emirate asked for a delay in repaying $60 billion in debt has settled down for now, and world stock market jitters have eased amid news of a restructuring plan for nearly half the debt. But investors are closely watching to see whether Dubai will pay or default on $3.52 billion in bonds coming due in little more than a week.
“The potential for this to spiral out of control has been well-contained,” says Sam Chandan, an adjunct professor at The Wharton School of the University of Pennsylvania and president of Real Estate Econometrics based in New York.
Still, the debt crisis has the potential to significantly impact the U.S. market and international markets if Dubai’s debt restructuring issues are not properly managed, says Chandan. “Central banks are keenly aware of how a problem not contained early can be significantly disruptive later on — and disruptive in a way that the longer we wait the harder it is to contain.”
As part of a plan to restructure $26 billion of its debt, much of which is comprised of real estate loans, Dubai World, the investment arm of Dubai, is considering asset sales and other options for relieving its heavy debt burden. One of seven emirates or city states of the United Arab Emirates, Dubai incurred much of the debt as it built grand developments, including beach resorts and residential islands shaped like palms, and invested in properties abroad.
Although Dubai World owns a number of trophy properties in the U.S. its holdings amount to only a fraction of its total debt, $4.2 billion in all, according to Ben Thypin, senior market analyst at New York-based research firm Real Capital Analytics.
Dubai’s U.S. purchases within the past five years include the Fontainebleau hotel in Miami for $750 million, the CityCenter Casino in Las Vegas for $5.4 billion, the Helmsley Building on Park Avenue in New York for $705 million, and the W Hotel in New York for $285 million. The W Hotel recently has suffered cash flow problems related to a $115 million mortgage.
A small portion of Dubai’s U.S. holdings is actually in default, says Thypin. “So [the debt] is not completely contained in the U.A.E. but $4.2 billion out of $26 billion is not that much. Their bigger problems are at home, and once they are settled that’ll make the problems over here easier to address.”
While much of its development and investment has occurred on its home turf, Dubai World’s portfolio stretches across 100 cities and includes U.S. ports.
The Dow Jones U.S. Real Estate Index fell 2.9% Nov. 27 after Dubai stunned the markets with its request for a six-month delay in making payments on its $60 billion debt. By now, the broader markets have recovered, and U.A.E. markets have closed for national holidays until next week.
Bank ratings downgraded
The next hurdle that Dubai World faces is a Dec. 14 deadline, when $3.52 billion in Islamic bonds, called sukuk, mature.
“People will be watching. The expectation is that the folks who are involved will continue to manage this proactively. There will be a negative reaction in the market if we do observe a default with this next round of maturities,” says Chandan.
On Monday, Standard & Poor’s rating agency placed the Abu Dhabi Commercial Bank on A/A-1 ratings on CreditWatch with negative implications. Earlier, it placed on CreditWatch with negative implications the A- long-term rating on Emirates Bank International PJSC, National Bank of Dubai, and Mashreqbank, as well as the BBB/A-2 ratings on Dubai Islamic Bank.
Standard & Poor’s explains that it expects asset quality to continue to deteriorate, affecting Dubai World’s restructuring efforts. The ratings firm plans to reassess its views in coming days as it scrutinizes the U.A.E. government’s willingness and capacity to support the banks as the debt crisis plays out.
“The rating actions reflect the large exposure these banks have to Dubai World and Nakheel (Dubai World’s quasi-government development firm), and more generally to Dubai-based government-related entities, and the risks that the standstill agreement would pose to these banks,” Standard & Poor’s analysts said in a statement.
No immunity for wealthy borrowers
The upshot of the Dubai crisis is that lenders will more carefully scrutinize even well-heeled borrowers including those from oil-rich countries such as the U.A.E. “Going forward, banks are going to be a little more hesitant to lend to borrowers that don’t have operational experience,” Thypin of Real Capital Analytics adds.
Part of the problem has been a lack of experience, says Typin. Although Dubai World has built impressive hotels at home, “they’re not in the hotel business and until recently they weren’t in the real estate business.”
The conglomerate took on a great deal of risk, the analyst says. “When you’re buying something at the top of the market there’s always a risk. I think a lot of people may have been telling them what they wanted to hear because they had billions of dollars at their disposal. If they had better advisers or a more prudent lender or more prudent managers within their real estate group, they may not have made the decisions they did,” says Thypin.
However, Dubai World did buy high-quality assets abroad in relatively vibrant markets like New York, he notes.
Will Abu Dhabi bail out Dubai — again?
Many investors were surprised that Abu Dhabi, the wealthiest of the U.A.E.’s emirates and the seat of government, did not immediately bail out its sister city, Dubai. But a number of analysts believe that Abu Dhabi has long been irked at Dubai’s spendthrift ways with regard to real estate.
Earlier this year, Abu Dhabi paid $10 billion for Dubai’s debts, but it has shown reluctance to step in and take over the larger bills coming due. However, it is widely believed that the government would not allow Dubai to default on major loans in a way that would cause long-term repercussions for capital markets.
“I think what you’re seeing here is the reluctance of Abu Dhabi to come in without getting a pound of flesh out of Dubai,” says Rick Rosan, president of the Washington, D.C.-based ULI Foundation, a real estate organization. In the process, Abu Dhabi will likely gain more control of Dubai’s spending.
Bankers, predominantly in the Middle East, assumed that their debt would be secure because Dubai was supported by its oil revenues, which were bolstered by prices near $100 a barrel, says Rosan. Now, prices have dropped closer to $80 a barrel.
The U.A.E.’s wealth is still intact, but it remains to be seen whether Abu Dhabi actually will come to Dubai’s rescue again.
“The question is, will Abu Dhabi come in?” says Rosan. “It looks as if to me like they’re going to be difficult. They’ll come in [to the rescue], but I think they’re going to come in on their own terms.”