Developers of large projects in the UAE face increasing borrowing costs, an HSBC chief has warned, as international banks cut back on spending and local lenders find themselves unable to compensate on the shortfall.
Jonathan Robinson, the head of project finance for the Middle East and North Africa (Mena) at HSBC, said a limited supply of funds was being outpaced by demand arising from increased infrastructure spending in the Gulf in particular. He said international banks, which have already scaled back their lending, remain reluctant to release funding because of the sovereign debt crisis and regulation that demands higher capital reserves.
Developers have turned to local banks, and local currencies, for financing, but the UAE is among the countries that do not have enough capital in banks to prevent a rise in borrowing costs, Mr Robinson said.
"In markets in which there is less indigenous liquidity, borrowers will pay more," he said. "I think 2012 will be more challenging than 2011."
Banking sectors in Saudi Arabia, Qatar and Kuwait are sufficiently flush with cash to offer funding for large-scale projects in local currency, according to HSBC. Developers in these countries have made the switch from US dollar-denominated loans to local currency finance.
Ventures that receive their revenue in dollars, such as oil and gas projects or petrochemical plants, are left exposed to foreign exchange risk when borrowing in local currency. Risks can be hedged, but the tenure of project finance loans typically outstrips the length of hedging arrangements, leaving borrowers exposed as loans near maturity.
Developers that stick to the dollar or euro-denominated loans will have cast a wide net and tap lenders that demand higher returns.
"It will be a question of cost: will developers be willing to pay additional cost to bring that marginal dollar in?" Mr Robinson said.
The regional funding squeeze could be alleviated by a growing use of the debt market for project financing, and the increasing activity of Asian banks in the region.
"We are optimistic that the capital markets can play a bigger role in funding projects in the region, but that will take some time," Mr Robinson said.
A mismatch in tenure lengths complicates the use of Islamic debt for project financing, as sukuk issued today mature within 10 years, and project finance arrangements can last for 15 to 25 years.
Chinese and Japanese banks have the capital to invest in the Mena project sector. While China's financial institutions face regulatory hurdles in investing abroad, their Japanese counterparts are starting to enlarge their footprints in the region, according to Mr Robinson.