Dubai is shaking investor confidence across the Persian Gulf after it sought a six-month reprieve on debt payments that risked triggering the biggest sovereign default since Argentina in 200121:20 GMT. Global stock markets endured heavy selling on Thursday as investors were spooked by the spectre of a default by Dubai and after a febrile foreign exchange market saw the yen surge to a 14-year high against the dollar.
The move caused a drop on world markets on Thursday and raised questions about Dubai's reputation as a magnet for international investment.
In Europe, the FTSE 100, Germany's DAX and the CAC-40 in France opened sharply lower. Earlier in Asia, the Shanghai index sank 119 points, or 3.6%, in the biggest one-day fall since August 31. Hong Kong's Hang Seng shed 1.8%. Wall Street was closed for the Thanksgiving holiday and most markets in the Middle East were silent because of a major Islamic feast.
Stocks, bonds and currencies fell across developing countries. The MSCI Emerging Markets Index of stocks dropped 1.1%, led by declines in China and Russia.
The fallout came swiftly after Wednesday's statement that Dubai's main development engine, Dubai World, would ask creditors for a standstill on paying back its $60 billion debt until at least May. The company's real estate arm, Nakheel -- whose projects include the palm-shaped island in the Gulf -- shoulders the bulk of money due to banks, investment houses and outside development contractors.
In total, the state-backed networks nicknamed Dubai Inc are $80 billion in the red and the emirate needed a bailout earlier this year from its oil-rich neighbour Abu Dhabi, the capital of the United Arab Emirates.
``Nakheel is now standing on the brink of failure given the astonishing amount of cash Dubai would have to inject into it in order to see the enterprise survive,'' said Luis Costa, emerging-market debt strategist at Commerzbank AG in London. ``Events like this are a perfect storm.''
``Dubai's standstill announcement ... was vague and it remains difficult to discern whether the call for a standstill will be voluntary,'' said a statement from the Eurasia Group, a Washington-based research group that assesses political and financial risk for foreign investors interested in Dubai. ``If it is not, Dubai World will be going into default and that will have more serious negative repercussions for Dubai's sovereign debt, Dubai World and market confidence in the UAE in general,'' the statement added.
``There is nothing investors dislike more than this kind of event,'' said Norval Loftus, the head of convertible bonds and Islamic debt at Matrix Group Ltd. in London, which manages $2.5 billion of assets including Dubai credits. ``The worst-case scenario will of course be involuntary restructuring on the Nakheel security that brings into question the entire nature of the sovereign support for various borrowers in the region.''
Moodys Investors Service and Standard & Poor's cut the ratings on state companies yesterday, saying they may consider state-controlled Dubai World's plan to delay debt payments a default. The sheikhdom, ruled by Sheikh Mohammed Bin Rashid Al Maktoum, borrowed $80 billion in a four-year construction boom that reduced its reliance on falling oil supplies and created the region's tourism and financial hub.
``Dubai is the most indicative of the huge global liquidity boom and now in the aftermath there will be further defaults to come in emerging markets and globally,'' said Nick Chamie, head of emerging-market research at Toronto-based RBC Capital Markets.
``It's very important to resolve this in a way that will minimize contagion across the region,'' Matrix Groups Loftus said. The moot question is whether that will be possible.
The turmoil caused a flight to less risky assets. Gold, which had challenged $1,200 in Asian trading, fell back from its highs and money flowed into havens such as German government bonds.
US markets were closed for the Thanksgiving holiday, but electronic trading of the benchmark S&P 500 equity futures contract had shown a potential drop on Wall Street of 2.2 per cent.
In Europe, the FTSE 100 lost 3.2 per cent at 5,194.1, its worst day since March, while the FTSE Eurofirst 300 fell 3.3 per cent to 988.1.
Initial weakness was blamed on a sell-off in Asia that appeared to be prompted by the yen’s sudden rise. But as the European trading day progressed, it became clear it was Dubai World’s difficulties that had hit a particular nerve, reminding investors of the lingering damage wrought by the financial crisis
Banking stocks tumbled on concern about their potential exposure to Dubai. Indeed, the cost of insuring against default by the emirate jumped, with Reuters reporting the Dubai five-year credit default swap being quoted as high as 500-550 basis points. This means it would cost about $500,000 a year to insure $10m of Dubai’s debt. On Tuesday it would have cost about $360,000.
Greek and Irish government five-year credit default swaps also moved higher as nations with supposedly precarious fiscal positions were punished. In contrast, investors sought out comparative haven assets, pushing the yield on the German Bund down by 8 basis points to 3.16 per cent.
Earlier in the trading day the focus had been on a volatile period in the foreign exchange markets.
The Nikkei 225 fell to a fresh four-month low, off 0.6 per cent to 9,383.2, as exporters wilted in response to a sudden bounce by the yen. The Japanese unit – considered by many to be the haven currency of choice – suddenly burst through Y87 to the dollar at 03:20 GMT.
After breaching this level, the buying accelerated, taking the yen to Y86.30, a fresh 14-year high versus the greenback. It also made headway against the euro.
Comments from Hirohisa Fujii, Japan’s finance minister, that he was watching forex market moves very closely and that the country could take appropriate steps if moves were ”abnormal”, initially helped pare some of the yen’s gains.
But as the European session advanced, investors started to move with ever greater force into the so-called haven currencies, boosting the yen and dollar, most notably at the expense of the euro.
Later the yen was up 1.8 per cent against the euro at $129.79, and had gained 1 per cent against the otherwise stronger dollar at Y86.45.
The dollar, after dipping in Asia to a fresh 15-month low on a trade-weighted basis, later revelled in traders’ reduced risk appetite, bouncing 0.8 per cent versus the euro to $1.5013. Against a basket of currencies it recovered from 74.17 to later trade 0.7 per cent higher but was still just under the crucial 75.0 mark.
Gold took advantage of the early frantic forex action to hit another high of $1,194.90 an ounce. But it was later down 0.3 per cent at $1,188.38 as the dollar found its footing.
Equity investors across Asia had appeared concerned about the implications of such a sharp rise in haven currencies.
Mainland China’s benchmark, the Shanghai Composite, slid 3.6 per cent to 3,170.9, also on continuing worries regarding the banking sector, while Hong Kong’s Hang Seng fell 1.8 per cent to 22,216.3 as a share debut by China Minsheng Bank disappointed. In Australia, the S&P/ASX 200 lost 0.3 per cent to 4,708.6.
By late afternoon in New York, Asian futures were down, pointing to another difficult day for global markets.
Oil dipped 2.2 per cent to $76.23 in electronic trading, though pits and Wall Street were closed on Thursday for the Thanksgiving holiday.
Overnight, US equities had managed to just finish at a new high for the year.
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