DUBAI: Healthy demand for Dubai’s first sovereign bond issue in nearly a year shows how pleased investors are by the emirate’s strategy of scrupulously honoring its public debt obligations while playing hardball in restructuring bank loans.
Dubbed “burn the banks, bail out the bond holders” by investment bank Exotix, the strategy seems to involve doing what it takes to ensure bond maturities of government-related enterprises are repaid on time. In February a unit of Dubai Holding, owned by the emirate’s ruler, said it was using internal cash flow to fully repay a maturing $500 million sukuk.
At the same time Dubai is becoming increasingly forceful in pressing banks to restructure syndicated loans. This month Dubai Drydocks World began using a special tribunal, created under a decree by Dubai’s ruler, to force creditors to sign up to its $2.2 billion debt plan.
Making loan holders bear most of the pain of bringing Dubai’s $76 billion GRE debt pile under control is good news for bond holders, and it aided the emirate’s sale of $1.25 billion of sovereign sukuk this week.
The $600 million five-year tranche, yielding 4.9 percent, was priced largely in line with Dubai’s existing paper, suggesting little or no new-issue premium.
The $650 million 10-year tranche, yielding 6.45 percent, did carry a premium, of about 35 basis points over Dubai’s existing sovereign bond maturing in 2020. But that is not a large premium given the fact that Dubai still does not have a sovereign credit rating, adding to its risk.
Dubai’s Department of Finance said over 260 investors placed orders for both tranches combined of over $4.5 billion. That compares with bids of $1.8 billion for Dubai’s issue last year of a $500 million, 10-year conventional bond, which included a five-year put option; this year’s 10-year tranche had no put option.
“We have been able to reduce our cost of funding by 0.7 percent in the five years and 1.30 percent in the 10-year maturity compared to our previous issuances for similar tenors,” the Department of Finance said.
The large size of the 10-year tranche in this week’s issue illustrates Dubai’s drive, since its corporate debt crisis hit in 2009, to reduce the risks of another crisis by extending its maturity profile.
“It is evident that part of Dubai Inc.’s broader financing strategy is to extend the maturity profile of the debt, which helps the emirate achieve a better match between its assets and liabilities in terms of tenor,” said Chavan Bhogaita, head of the markets strategy unit at National Bank of Abu Dhabi.
The Department of Finance said: “We continue to examine ways to optimize our funding strategy by diversifying our funding options and extending maturities.”
Proceeds of this week’s issue will be used to cover the budget deficit and refinance debt.
Part of the success of the issue is due to strong demand for sukuk by Islamic investors in the Gulf, encouraged by the good secondary market performance of sukuk relative to conventional bonds during the global financial crisis.
If Dubai had chosen a conventional bond format, it might not have been able to attract such large orders, and pricing might have been slightly more expensive for it.
Dubai’s choice of a sukuk format “is to allow for wider distribution. There is a large pool of Shariah-compliant investors – both within the region and outside – that is looking for yield and is relatively starved of alternatives,” said Biswajit Dasgupta, head of treasury and trading at Invest AD in Abu Dhabi.
The Gulf Arab region has issued nearly $10 billion of bonds so far this year, with just under half of total issuance in the form of sukuk. The United Arab Emirates has been the biggest issuer of international Islamic bonds this year, accounting for over 70 percent of the total.
About 70 percent of Dubai’s five-year tranche was distributed to accounts in the Middle East, and 60-65 percent of the 10-year tranche, according to IFR, a Thomson Reuters service.
Asia took only about 7-9 percent of each tranche, apparently because of the lack of a rating.
A low level of concern about Dubai debt maturities is likely to persist for several years. The International Monetary Fund estimates debt maturities for Dubai and its GREs in 2012 at about $15 billion; this week’s bond prospectus says the Dubai government faces the maturity of 6.5 billion dirhams ($1.8 billion) of “direct public notes” in 2013.
A more daunting refinancing hump lies in 2014, when over 7 billion dirhams of direct public notes will come due and $20 billion in emergency money borrowed by the government from Abu Dhabi during the 2009 crisis will also mature.
Standard and Poor’s announced Wednesday a negative review of DIFC Investments, a major Dubai GRE, citing refinancing risk in its $1.25 billion sukuk maturity this June.
Nevertheless, investor confidence in Dubai is clearly on the uptrend.
The emirate appears to be taking action to rationalize its finances; the government said this week that its 2011 budget deficit narrowed sharply to 3.7 billion dirhams.
Even more importantly, economic growth has been solid amid signs that the emirate is to some extent weaning its economy off dependence on the weak real estate market.
Dubai “has a strong first mover advantage as a trading, tourism and financial hub that competitors in the region will be hard pressed to catch up on,” said Raza Agha, a senior economist for the region.
The emirate’s five-year credit default swaps, used to insure against a sovereign default, have narrowed more than 70 bps since the start of this year, to around 365 bps.