Europe Bank Stocks Sink on Dubai Debt Exposure

In recent years, few economic stories have been as compelling as the growth in Dubai. Dubai, a prominent Middle East city-state had enjoyed significant expansion in GDP and employment, bucking the trends exhibited in the US and Europe. However, what seemed too good to be true just might be.

The Dubai government had raised funds to finance it’s expansion through issuing bonds. Now, many fear that the Dubai World investment vehicle is on the brink of defaulting on it’s massive foreign debt. These fears prompted a sell-off on stock markets around the world as investors worried about the health of the once-booming emirate. This has also prompted banks to scour their portfolios to determine potential exposure.

The total debt of Dubai is estimated at $59 Billion, which is approximately twice the size of the gross domestic product. On Wednesday, the Dubai government requested permission to delay payment on part of the debt, sending lenders frantically searching for a better understanding of the situation.

The worst possible case would be a cascading effect, where banks across the globe buckle from losses, similar to how Lehman Brothers collapsed the system in 2008. Counterparty risk remains a delicate topic in the financial services industry, and this week’s news surprised many.

Banks in Europe may have as much as $40 billion of exposure to Dubai, as they helped arrange a string of bonds and loans.

This news set the financial markets into a tailspin on Thursday, sinking stocks across Asia and Europe. This raised the cost of funds on government bonds, and created significant demand for the US Dollar, which strengthened as a result. Dubai said that it would restructure Dubai World, during a planned six-month standstill on repayments of the conglomerate’s debt.

Among the European banks that frequently acted as bookrunners or participants in bond and loan deals were Barclays (UK:BARC), Deutsche Bank (DE:DBK), Royal Bank of Scotland (UK:RBS), BNP Paribas (FR:BNP) , ING Group (NL:INGA) and Lloyds Banking Group (UK:LLOY). Standard Chartered (UK:STAN) and HSBC (UK:HSBA) also have significant loan books in the Middle East.

Credit Suisse, in an effort to get out in front of the news sent a memo to clients, stating that it is unlikely to be more than 1% to 2% of the bank’s total exposure, with Dubai being a small part of that.
As a result of the news, shares in the European banking sector were down across the board, with ING — down 7.1% — and RBS — down 8.6% — among the biggest fallers.