Dubai’s default should come as no surprise

November 29th, 2009

Why is everyone so shocked that Dubai is likely to default on some or all of its $80bn to $280bn mountain of debt? Markets are apparently “spooked” but given the U.A.E. emirate’s behaviour in recent years, surely  a default either by the country itself or by one of its state-owned enterprieses has long been on the cards?

Ever since I started writing about ‘Blingopolis’ in June 2008 I’ve been horribly aware that Dubai’s whole model — to borrow ludicrous sums to fund ‘white elephants’ in the desert epitomised by the archipeligo of articificial islands (pictured above) and the 818m Burj Dubai (the world’s tallest building a.k.a. the “Death spire”) — was badly flawed and storing up massive problems for the future.

None of the lenders to the emirate (which predictably enough, include Citigroup and Royal Bank of Scotland) seem to have had any awareness that the debt mountain which Dubai, and in particular the hugely over-leveraged Dubai World conglomerate, was building up to fund vainglorious projects and global empire-building was going to prove impossible to service. They also wrongly assumed that the debts of Dubai-owned companies such as Dubai World had an implicit sovereign guarantee.

How can these supposedly bright are highly-paid bond investors and bankers have got it so spectacularly wrong? Were none of them aware of the mismatch between supply and demand for new buildings in Dubai — which became glaringly obvious once the property speculators melted away last autumn?

One might have thought that lenders and bondholders would, at the very least, have noticed something was awry in October 2008. Just as global credit markets went into meltdown and expatriates started to flee Dubai in their droves, the already hugely-indebted Dubai-based developer Nakheel (slogan “Where vision inspires humanity”), part of Dubai World, announced plans for the world’s tallest building — a 1,000 metre (3,280 feet) high skyscraper costing £21bn.

Nakheel’s main motivation for its environmentally catastrophic thinking was seemingly puerile: it was determined to outdo local rival Emaar, which is completing the 818m Burj Dubai down the road. Nakheel’s folly, modestly titled the Nakheel Harbour and Tower, has since been quietly shelved.

Dubai’s despotic leader Sheikh Mohammed bin Rashid Al-Maktoum may have succeeded in building a haven of comparative tolerance and liberalism in a largely fundamentalist region. But as a businessman his credibility is in tatters.

Sheikh Mo clearly must have thought that using billions of dollars of borrowed money to fund a hubristic construction frenzy in the desert on the back of near slave labour and to support an ill-timed overseas acquisition spree stacked up economically. He could not have been more wrong.

Here’s how Norval Loftus, head of Islamic debt at Matrix Group in London, put it. “Dubai took on huge debt at the worst possible moment. It’s a pretty toxic combination of over-expansion and bad timing.”

There are parallels with the hubristic follies of bank leaders such as RBS’s Sir Fred Goodwin and HBOS’s Andy Hornby. The difference is these two were able to rely on the UK government to step in and rescue their banks. There’s no certainty Abu Dhabi will ride to the rescue of its profligate brother down the road.  At the weekend, a senior Abu Dhabi official made it plain. The oil rich emirate “pick and choose” which of Dubai’s entities to help.

Having lived through a crisis in the corporate and structured debt markets, it seems we could be entering the era of sovereign defaults. As John Waples put it in the Sunday Times: “If over-borrowed Dubai can flirt with bankruptcy, then why not overborrowed Ireland, Greece, Iceland — and Britain?”

Here’s a selection of the “red flags” I raised about Dubai’s crazy adventurism, unsustainable model and worsening financial position over the past 14 months.

“Nakheel, the Dubai-based developer, has $3.5bn of debts to refinance. I expect it is going to find this a struggle.”

(from ‘Dubai’s economic miracle built on sand’ – published October 6th, 2008.)

“Alarm bells are already ringing about the state of Dubai’s finances, with the emirate’s dependence on international capital markets likely to prove its Achilles heel.”

(from ‘Dubai a disaster waiting to happen’ – published October 11th, 2008.)

“Nakheel has entered crisis refinancing talks with its consortium of banks. Some sources suggest that, unless it is bailed out by Abu Dhabi, Nakheel and by extension its owners, Dubai Inc, are destined for bankruptcy.”

(from ‘Universe scrapped as world faces crippling financial issues’ – published January 9th, 2009.)

“Dubai World’s Nakheel subsidiary is in deep financial trouble. It needs to find $3.52 billion in order to refinance an Islamic bond by December and another worth Dhirams 3.6 billion ($980m) in May 2010. In the current financial climate, this is likely to prove punitively expensive and might even be impossible.”

(from ‘Dubai property crash only in its early stages’ – published April 25th, 2009.)

• To read Christopher M. Davidson’s ‘The property bonanza that just wasn’t built to last’ in the Observer click here
• To read john Arlidge’s ‘Dubai: Just deserts’ piece in the Sunday Times click here

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