Dubai debt default fears hit bank shares

Published on Thursday 26 November 2009 20:54

MARKETS across Europe tumbled yesterday on fears of a new debt crisis emerging in the Middle East.

Traders fretted at the prospect of a major sovereign default, after Dubai World, a government-owned investment group with liabilities of $59 billion (35.8bn), asked lenders for a six-month freeze on repayments.

The group, which has massive property investments in the city state, warned that it might otherwise have to default on a $3.5bn repayment, due next week.

Shares in financial companies plunged on uncertainty about exposure to loans from Dubai World, and fears that the problems might be part of a wider crisis brewing in the Middle East.

The focus once again fell on the banking sector, in particular banks that have syndicated loans for Dubai World, including RBS, Lloyds and HSBC.

Analysts at Credit Suisse estimated that European banks were exposed to about half of Dubai's $80bn borrowings.

RBS declined to comment on its exposure, although it would have been forced to issue a statement if it was deemed to be "material". Barclays, London's biggest faller yesterday, also declined to comment, although a source played down the fears, saying it would not affect its forecast for bad loan impairments in 2009.

In London, the FTSE 100 index dropped 170.7 points – 3.2 per cent – to 5,194.1, wiping 44bn off the value of Britain's biggest companies. The main indexes in Germany and France also fell by more than 3 per cent. Wall Street was closed for Thanksgiving. RBS finished down 7.7 per cent, Barclays was down 8 per cent and HSBC shed 4.8 per cent.

Shares in the London Stock Exchange dropped 7.4 per cent on fears that Dubai Borse, which owns more than 20 per cent of LSE shares, could be a forced seller. The exchange was also hit by technical difficulties, which halted trading for more than three hours.

Yesterday's fall followed a major rally in UK shares, with the FTSE 100 hitting the highest level in a year this month.

City traders said the Dubai trouble should not be as serious as the collapse of Lehman Brothers, because the exposure to loans appeared to be contained.

But it was a major reality check. Howard Wheeldon, senior strategist at BGC Partners said: "It's another reminder that this recovery isn't going to be nearly as quick as equity markets have been suggesting."

Michael Hewson, an analyst at CMC Markets, said the market had seemed to assume that there were no further balance sheet problems in the financial sector. "To a certain extent, people have been ignoring the elephant in the room in the last few months, hoping that if the stock market goes up enough, that bad debt will just go away," he said.

One banking source warned that the problems of Dubai World could be part of a wider systemic failure in the Middle East. "What we don't know is whether this is just a blip, or is this part of a bubble?" he said.

Dubai World will need approval from its lenders if it is to delay payments until next May.

Sources said there may be some brinkmanship in the talks, with bankers assuming that the government would not allow the company to default on its loans.

"This could be a test case," said one.