Dubai a hangover, not a new crisis

By Mark Noble | November 27, 2009 | Last updated on November 27, 2009
4 min read

Have your clients been calling about Dubai World, asking whether everything’s going to come crashing down again? Observers say it’s nothing to fret over, as Dubai’s problems are just part of the long unwinding of the global credit crisis.

Stock markets were hammered yesterday by news that Dubai World, a government sponsored investment fund, was asking for a standstill on repayments for nearly $60 billion in debt, which had largely been used to fuel the rapid real estate development of the tiny emirate.

The announcement was a surprise, and scared some investors who had viewed the developing regions like Dubai as being largely insulated from the worst of the global credit crisis, which was spillover from U.S. credit problems.

Market analysts say that the problems in Dubai are neither as serious as last year’s near collapse of a number of large Wall Street institutions, nor is it a reflection on the ability of emerging markets to lead a global economic recovery.

It should be noted that Dubai World has not defaulted, although if creditors don’t agree to the standstill, it could. Secondly, the wealth of this particular fund was largely tied up in elaborate commercial real estate projects started during the height of the markets earlier this decade.

“Most investors won’t have any direct exposure to Dubai and the Emirates. This is a reminder that the worst is not over on corporate bond defaults; there is still some ugly credit out there,” Avery Shenfeld, chief economist with CIBC told “The hangover from a severe global recession has left lots of debts in a troubled state. There was, up until now, a lull in news on that front. The Dubai story was a bit of wake-up call [that things are still working themselves out]. There may be funds that come to the rescue on this particular project. There are areas where there is a lot of wealth that can still have troubled debts.”

Shenfeld says investors shouldn’t a link what is happening in Dubai as having a spillover effect on the rest of the emerging markets, where the recovery continues to outpace that of the developed markets.

“It may have a big impact on the markets for one day, but I don’t think you can draw a line from Dubai to Thailand and say what we see in one emerging market is necessarily so elsewhere. I think it’s more of a part of the broader story we’ve seen of bad credits that emerged over the last couple of years,” he says. “We’re certainly seeing some fairly brisk recoveries in places like China and South Korea. Some of that is also motivated by government stimulus, not much different than what we have in the Americas. We still see that region of the world as likely to outpace the developed economies.”

With crisis comes opportunity

Paul Vaillancourt, senior vice-president and director of portfolio strategy for Franklin Templeton Managed Investment Solutions, says Dubai is a reminder there is still a lot of risk in the global credit markets, but it’s still a lingering part of the global credit crisis.

“To put this in perspective, this is nowhere near the same magnitude or scope as the massive cascading effect we had when the credit market seized and Lehman Brothers went under last fall. This is not even in the same category,” he says. “This is a reminder: the first wave of financial instability that hit last year, was exactly that — the first wave. We had an investment strategy meeting a couple of days ago we talked about the fact that the health of the U.S., U.K., and European banking sector could further deteriorate due to exposure to defaults in commercial and residential real estate and credit card loans.”

Vaillancourt says Dubai may be one of a number of smaller crises that pop up over the near term.

“We’re going to see some more pain. The International Monetary Fund has said so and the OECD is saying the same thing. This is just evidence that, while the credit market is functioning properly, there are still some individual companies that are in difficulty. There will be some banks that will have exposure, which will further require them to write down some losses.”

He says ultimately this event may create an inflection point for selling, then buying. Vaillancourt says investors who have been in the market for the run-up, will probably look at this as a moment to take some profits. Investors who have been out of the market may want to look at it as a moment to buy.

“This uncertainty is essentially a round of profit-taking, because investors are cautious. When we do the math a [potential] $60 billion default is a big, big number, but it’s not in the same category as what could have happened if all the Wall Street banks had collapsed last fall. That was unbelievable,” he says. “We’re keeping an eye on this. We’re looking at it this as a possible opportunity to invest in the MENA (Middle East/North Africa) region. It’s better to buy it cheaper than more expensive.”


Mark Noble