A while ago, Yusuf al-Qaradawi said that the world should switch to an Islamic finance system, as its divine ordinances would prevent speculation, boom and bust. It seems Standard & Poor's, the rating agency, partially agrees.

Islamic Financial Institutions (IFIs) "didn't invest in the structured products that have hampered many conventional banks' financial profiles and performance," said Standard & Poor's credit analyst Mohamed Damak in a report, titled Rated Gulf Islamic Financial Institutions And Takaful Companies Have Shown Resilience To Global Market Dislocation, But They Are Not Risk Immune. "And most IFIs should be equipped to weather the financial downturn and keep the effects on their financial profiles at manageable levels."

However, the agency does warn that IFIs are exposed to the liquidity crunch as well. It is particularly acute for IFIs as there are less short-term instruments with which to manage liquidity. I'd add that an absence of long-term instruments is also a problem. Virtually all sukuk, or Islamic bonds, have been short or medium term, and the banks could really do with some 10-20 year issuance.

S&P's does mention the real estate risks, but this is where I feel the nascent industry could well face some very, very serious problems. Islamic finance is, at its core, asset-backed finance, and while most IFIs are conservative, they have all piled into real estate, and have lent a lot to contractors, developers and homeowners, all of which are struggling right now. Watch this space...

But $10 billion just isnt enough

This from Barclays Capital. Interestingly, they too seem to think that $10 billion will be enough to tide Dubai over, even though they are calling for further measures "to strengthen financial stability" in the UAE. This would presumably mean an expansion of the capital injections into the Abu Dhabi banks to include all UAE banks. 

But this is the problem. Dubai needs more money. $10 billion wont even cover its repayments this year, let alone the billions that the parastatals owe to contractors. Profits will be scarce if not non-existent this year, especially for companies such as Nakheel and Emaar, so they are dependent on the government to step up to the plate. The cost of bailing out the non-bond debt of Dubai Inc could even match the $80 billion of foreign credit exposure.

Again, $10 billion isn't nearly enough. Presumably the brighter sparks in government realise this, so why the ambiguity on the second $10 billion tranche? The first underwriting tranche may well signal that Abu Dhabi stands behind Dubai, but will they still do so when the cost of the bail-out soars? Will Abu Dhabi put its good money into bad firms like Nakheel, Emaar, or Dubai Holding's various satellites?

BarCap: This week’s announcement by the Dubai Government of a $20bn bond issuance cleared much of the uncertainty surrounding Dubai’s debt refinancing in 2009. The UAE central bank’s subscription to the first USD10bn tranche should help repay much of the nonbank sovereign and quasi-sovereign foreign currency debt maturing over the next 12 months. (which we estimate at USD 11.5bn)

It also confirms in our view the indisputable support to Dubai and its government-owned institutions by the federal level, backed by Abu Dhabi. This prevents possible default scenarios, in spite of the sharp slowdown in growth witnessed there. While the timing of the second tranche and its expected investor base remain unclear, we expect this move to drive credit spreads tighter and help ease the pressure on some of Dubai’s major banks, whose exposure to Dubai Inc entities is significant.

We also look out for further measures by the authorities in the next few weeks aimed at bolstering liquidity in the financial sector, by having the federal Ministry of Finance release and possibly expand the size of the third and final facility tranche. Following Dubai’s debt placement with UAE’s central bank the authorities may follow up with measures to strengthen financial stability.

What decoupling?

The Investment Bank Formerly Known as Merrill Lynch (or Banc of America Securities - Merrill Lynch, for now) predicts that economic growth in the Gulf will fall from 6% in 2008 to nothing this year, with real economic contractions in Saudi Arabia (-0.2%), the United Arab Emirates (-0.6%), and Kuwait (-1.8%). Growth will rebound to staid 2.5% in 2010.

Now, a lot of the economic contraction in Kuwait and Saudi Arabia (and partially the UAE) will be due to OPECs production costs, but thats still going to feel very painful after the growth rates of recent years.

By the by, ML analysts estimate that every 100,000 oil barrel a day OPEC production cut will reduce GDP growth by about 0.3 percentage point in Saudi, 1.5 percentage points in Kuwait, and 1 percentage point in the UAE.

If anyone has ice water running through their veins, the former investment bank recommends Qatar and Saudi as their "top macro picks".

Addendum: JPMorgan has a rosier take on the GCC. It forecasts regional growth at 1.8% this year.

Godlike management?

Someone seems to be doing something right. Arkan Building Materials is currently trading at 60 times its earnings, and is at the time of writing the fifth largest company in the UAE by market capitalisation, only beaten by Etisalat, Mashreqbank, National Bank of Abu Dhabi and Emirates NBD.

Even given its relatively small freefloat of 30 per cent or so of its shares, making it a bulky, illiquid stock, that is pretty odd. Far be it for me to proffer suggestions as to what is behind its sterling performance.

Hedge fund capital in MEA $1.5b last year

This just in. Hedge funds had $1.5 billion invested in the Middle East and Africa last year, according to Hedge Fund Research.

MIDDLE EAST/AFRICA: Despite losses in 2008, hedge fund capital invested in the Middle East and Africa has grown from less than one half of a percent of Emerging Markets hedge fund capital in 2002 to over two percent, or nearly $1.5 billion of invested assets. More than 20 funds have an exclusive, dedicated focus on investing in the region, and are located in these markets while also attracting investors globally. These funds have an average asset size of nearly $75 million, second in average size only to Russia among Emerging Markets hedge funds.

I wonder how much of that $1.5 billion was shorting Gulf companies such as Sorouh, Industries Qatar and Sabic? Still, $75 million doesnt exactly make them big hitters, and with leverage probably negligible, perhaps the negative effect on regional stock markets was exaggerated.

WAM hit the African & Eastern

WAM, the official UAE news agency, is as usual succinct and incisive in its analysis of the federal bail-out of Dubai. (Highlights highlighted)

WAM Dubai, Feb. 23, 2009 (WAM) -- Business and economic personalities believe that the launching of US$20 billion long term bond programme by Dubai Government, reflects the UAE economy's high-level of credibility and refutes the allegations surrounding the government's ability to live up to its financial commitments.

They said Dubai is highly dynamic to a level that it is capable of surmounting any economic crisis. They lauded the UAE Central Bank for taking the step to fully subscribe half of the total bond. They said by taking such a step the Central Bank wanted to issue a clear message to all doubting Thomasses that the protection of the UAE national economy is uniform and never discriminate against any emirate. Some of them believe that local governments and local and foreign banks would subscribe for the remaining half to make the whole initiative a great success.

They said the fixed interest rate on each paper is close to the one fixed on US government bond and this shows that that the risk rate of Dubai's bonds is comparatively lower. They therefore expect this move to reflect positively on local bourses and banks in the shortest possible time.
Government of Dubai Sunday launched a $20 billion bond programme to meet its financial obligations and press ahead with development projects. The first issuance of US$10 billion was fully subscribed by the UAE Central Bank. The bond is an unsecured fixed rate paper yielding 4 per cent per annum and has a five year maturity.

This issuance will provide Dubai Government with the necessary liquidity to substitute the liquidity that has dried up globally in the last 12 months or so and accordingly meet all upcoming financial obligations that are needed by the administration.

Major UAE Arabic dailies, which run reports on the issuance of the bond, all agreed that the Dubai government move was timely and a step in the right direction as it reflects the strength of the emirate's economy and its ability to continue to honour all its obligations and commitments.

So, why the bail-out, if Dubai is so "dynamic" it can surmount any economic challenge? And does anyone want to trade my US government bond for "comparatively lower" risk Dubai Inc debt?

This will certainly erase refinancing doubts over Dubai, but anyone who thinks Dubai is out of the woods yet is mad. Bankruptcy may have been averted, but a grim recession is still on the cards.

The interesting part is this:

Commenting on the move, the Secretary General of the Dubai Economic Council (DEC) said the long-term bond programme is a best international practices particularly in the light of the current global meltdown stemming from the global financial crisis, adding that the programme will deepen the UAE bond market which, for a long time now, is being advocated by a number of reputable economic experts and personalities.

Lets hope so. Who knows, maybe this could still prove a long-term boon if the regional debt markets are developed further. Sovereign issuance would surely help by setting a benchmark, but you would then need private investors taking part, not just the UAE central bank dictating the yield.