Or, what happens when an autocratic put and bad debts collide?
In which FT Alphaville wonders if one of 2011′s greatest stunts in defying credit gravity (charts via Exotix)…
…is on the verge of running into trouble. Dubai – ‘Switzerland of the East’ in these days of Arab instability – abruptly announced its first ever bank failure on Monday (via Bloomberg):
Dubai Bank PJSC, an Islamic lender owned by Dubai Holding LLC and Emaar Properties PJSC (EMAAR), was rescued by Dubai’s government after loan losses increased. “The intervention is designed to ensure that Dubai Bank’s business continues uninterrupted,” the Dubai government’s Media Office said in an e-mailed statement today. “Options for the bank’s future, whether to be run on a stand-alone basis or be potentially merged with another bank in which the government has ownership, are being assessed.”
The fairly small, Islamic finance specialist has finally succumbed to restructuring by its debtors, and Dubai has executed its first overt banking rescue in style. It’s a 100 per cent capital injection burning out the property empires that were the bank’s major shareholders, and to a great extent, its destroyers.
Quite a milestone, this.
Abrupt… mysterious… but an assurance that things will be OK — FT Alphaville is also getting a few memories of Dubai World’s November 2009 blow-up here, which is appropriate.
Readers will remember that DW’s shock plea for a debt standstill eventually involved a huge ($20bn) UAE bailout. However, it also triggered a vast restructuring of debt run up by government-related enterprises during the property boom, including the ex-owner of Dubai Bank, Dubai Holding.
However, it was the nature of Dubai’s great restructuring that was especially striking, but which has conversely blown up Dubai Bank. From an Exotix note in April:
Restructurings have favoured bondholders over bankers – since the Dubai World (DW) standstill announcement in November 2009, all ensuing debt restructurings have involved rescheduling the bank debt, while the bonds have all remained performing (and in the case of DW, the Nakheel’s sukuks were all paid off in full and on time). We believe this theme of “restructure the bank debt, payoff the public bonds” will remain the case for Dubai’s GREs… Bondholders are typically a more vocal group, with the potential to threaten a storm of litigation and the desire for seizure of assets (as we witnessed during the DW standstill). Bank debt holders, on the other hand, place a high priority on maintaining amicable relations with the local government and its entities in order to foster an ongoing regional presence. Further, the majority of the bank loans to Dubai’s GREs were provided by local banks. In our opinion, these banks were likely pressured by the government into cooperating and restructuring their facilities to GREs. Not only does the government own large stakes in most local banks, but government authorities are often represented on the board of directors of these institutions.
It’s like a reverse Greece. Domestic banks were exactly the ones who would take losses for foreign bondholder capital to be saved.
Around $10bn of Dubai World’s $22bn debt was held by regional banks, for instance. The restructuring has mostly involved the extension (often doubling) of maturities, hence banks would have taken haircuts to net present value if not principal.
Moreover, banks are doubly exposed via the property market that Dubai Holding et al. abandoned from 2009 to 2010. Property prices have halved in the emirate since 2008. Whereas non-performing loan ratios have been considerably lower than price declines would suggest (on the order of 11-12 per cent versus 16 per cent), that in itself indicates an unhealthy degree of kicking the can down the road in Dubai’s banking system.
Of course, Dubai Bank was especially exposed through Dubai Holding throughout the restructuring and property collapse. Plus, the will to take banks over in itself suggests that the government remains minded to protect bondholders and thus its reputation, whatever the cost.
However — the question is this: How much further can you push restructuring onto banks over bondholders, without banks going under themselves?
There’s been a lot of faith in the autocratic put option Dubai and UAE rulers effectively placed underneath the emirate’s bonds, since Dubai World imploded. After all, the faith paid off in 2011.
What’s perhaps been less clear is that it was, at the time, a cheap put benefiting from banks’ willingness to be subordinated. But when they can’t support losses any more — well, we wonder what happens.
Related links:
Emaar’s smaller future - FT Tilt
Dubai seen as a refuge amid turbulence – FT
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