Dubai woes muddy waters for 2010 frontier debt

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Dubai's proposed restructuring of the debts of its flagship companies may hinder plans by other borrowers from "frontier" economies to tap an already heavily supplied Eurobond market next year.

The likely continuation of near-zero interest rates in the developed world next year has stoked demand for high-yielding bonds and encouraged sovereign borrowers from Pakistan to Kenya to Belarus to talk of new international bonds in 2010.

But after Dubai said last week that it asked creditors for a "standstill" on the debt of Dubai World and Nakheel, investors are expected to become more cautious about such markets, looking more critically at the size and country of origin of new debt issues and driving up costs for some borrowers.

"People are starting to differentiate between countries -- they can be very different even when they have the same (credit) ratings," said Gintaras Shlizhyus, fixed income strategist at Raiffeisen in Vienna.

Frontier markets include some of the lesser developed economies of eastern Europe, Africa and Asia but also encompass all financial markets with restricted access, low capitalisation and patchy liquidity -- such as those in the Middle East.

A subset of emerging markets, frontier markets are tracked by investors using indices compiled by the likes of MSCI Barra ( www.mscibarra.com ) and FTSE ( www.ftse.com ).

This has been a record year for new issuance from emerging markets at over USD 190 billion so far, according to Commerzbank emerging markets debt strategist Luis Costa. Middle Eastern borrowers, sovereign, quasi-sovereign and corporate have made up an increasing part of that total, he said.

"The Middle East used to be between 5-10%, now it's up to 25-30% of the flow," said Costa, adding this has filled a gap this year in debt issuance left by the absence of heavily-indebted Russian corporates.

However, one Middle Eastern borrower, Gulf International Bank, has already postponed plans to issue a Eurobond last week.

"Dubai names were going to come to the market; this is definitely going to stall until this situation is resolved," said Edwin Gutierrez, fund manager at Aberdeen Asset Management.

Taking your pick

If the Dubai restructuring troubles continue to haunt markets, there will be few opportunities for United Arab Emirates borrowers to enter markets, analysts say.

Investors will start to differentiate more between Middle Eastern borrowers, with borrowers such as Qatar, which issued a jumbo and oversubscribed USD 7 billion bond earlier this month, more likely to be favoured.

However, such borrowers may choose not to risk having to pay higher coupons to attract investors.

"Some of these countries can afford to be out of the financing markets," said Stuart Culverhouse, chief economist at frontier markets brokerage Exotix.

Commerzbank expected USD 50 billion in new issuance in both of the first two quarters of next year, at least before the Dubai news broke.

The risk of oversupply is there, even if global markets continue on the recovery course they have trodden for much of the past eight months, particularly with developed markets and more sophisticated emerging markets like Russia also planning borrowing sprees.

Oil producer Angola, which does not yet have a credit rating, is looking at a USD 4 billion debut bond next year with the first leg of the two-tranche bond likely to launch within the first quarter.

"The Angola issue seems pretty large for a country that has never issued and does not have a credit rating," said Gutierrez.

Borrowers seeking favourable terms will need to spread out their issues across the year, with for example not too many African borrowers coming at once, analysts say.

They should concentrate borrowing at the short- to medium-term end of the curve -- five to 10 years -- because there is little appetite for longer-dated paper.

And they should issue at least USD 500 million, because "benchmark" deals of USD 500 million and more enter a JPMorgan bond index closely tracked by fixed income investors.

However, the climate is still broadly supportive.

Emerging sovereign debt spreads have narrowed nearly three-fold over U.S. Treasuries from eye-watering levels reached following the collapse of Lehman Brothers last year.

Emerging market bond funds have been on a roll, earlier this month posting their second-biggest weekly inflow since global fund tracker EPFR started recording flows.

And Middle Eastern borrower Lebanon issued a USD 500 million Eurobond this week, despite Dubai's troubles.

"There was a pipeline of deals before year end," said Richard Segal, analyst at Knight Capital.

"What's happened in the last few days may delay that, but there is no reason for frontier markets to be shut out altogether."