Dubai growth was never 'long-term sustainable'

With investor confidence sapped following the Dubai government's decision to seek a six-month 'standstill' on the debt of Dubai World and Nakheel, Jones Lang LaSalle says the real danger is sovereign – not corporate – default.

The decision by the Dubai government to seek a six-month debt standstill for its largest subsidiary Dubai World shouldn’t necessarily come as a surprise to most real estate investors – because the city-state’s property market was never “long-term sustainable”.

As ratings agencies and investors reacted to the news from Dubai on Wednesday, Jones Lang LaSalle Meghraj’s chairman and country head Anuj Puri today reiterated what most already knew: “It was evident that Dubai’s real estate market was not long-term sustainable, since it was not driven by end user demand.”

As a first step, Dubai World intends to ask all providers of financing to Dubai World and Nakheel to “standstill” and extend maturities until at least 30 May 2010.

Dubai government, 25 Nov 

He argued that for “a long time now” too many apartments had been standing unsold, held by speculators hoping to sell them at higher prices “that never happened. The big question now is how many of these investors have the ability to service their mortgages.”

On Wednesday, Dubai’s government said it had appointed Deloitte managing partner Aidan Birkett to spearhead the restructuring of Dubai World, which owns development companies Nakheel (which developed the three palm-shaped islands), Limitless and LeisureCorp as well as private equity firm Istithmar World.

The government added in the statement at the time: “As a first step, Dubai World intends to ask all providers of financing to Dubai World and Nakheel to “standstill” and extend maturities until at least 30 May 2010.”

Puri, however, added that the “real danger” was the possibility of sovereign default, not just corporate. “Any kind of specific predictions would be premature at this time. The next few weeks will reveal whether the Dubai situation will stay at the corporate default level, or whether it will escalate into sovereign default,” he said.

Moody's Investors Service promptly downgraded the ratings of all six government-related issuers (GRIs) in Dubai, saying further possible downgrades could be possible. The GRIs affected include DP World, Dubai Electricity & Water Authority, DIFC Investments, Jebel Ali Free Zone, Dubai Holding Commercial Operations Group and Emaar Properties. Dubai World and Nakheel are not rated by Moody’s.

The ratings agency has previously stressed the way Dubai deals with Nakheel’s debts would be a “litmus test” for the city-state. But it added in a statement yesterday the restructuring decision
‘highlights the government's intention to strictly adhere to its stated policy of supporting only those companies with viable long-term business prospects, which implies that support for distressed or weaker companies may be less forthcoming”.

I think we will find it is not on the scale of previous problems we have dealt with. The world financial system is stronger now and able to deal with the problems that arise.

Prime Minister Gordon Brown

A report by Bloomberg today also revealed that Royal Bank of Scotland Group was the biggest underwriter of loans to Dubai World while HSBC Holdings has the most at risk in the United Arab Emirates.

Citing a JPMorgan Chase report, Bloomberg said RBS arranged $2.3 billion, or 17 percent, of Dubai World loans since January 2007, while HSBC had the “largest absolute exposure” in the UAE with $17 billion of loans in 2008.

British Prime Minister Gordon Brown said the Dubai situation was a “setback” to the global financial recovery but added: “I think we will find it is not on the scale of previous problems we have dealt with. The world financial system is stronger now and able to deal with the problems that arise,” a Reuters report cited him as saying.