Capital intelligence affirms UAE’s outlook for ratings as stable

Capital Intelligence Ratings (CI Ratings) has announced that it has affirmed the Long-Term Foreign Currency Rating (LT FCR) and Long-Term Local Currency Rating (LT LCR) of the UAE at ‘AA-‘. The sovereign’s Short-Term Foreign Currency Rating (ST FCR) and Short-Term Local Currency Rating (ST LCR) have been affirmed at ‘A1+’. The Outlook for the ratings remains Stable.

Capital Intelligence Ratings Ltd has been providing credit analysis and ratings since 1982, and now rates over 300 banks, corporates and financial instruments (bonds & sukuk) in 26 countries. A specialist in emerging markets, CI Ratings geographical coverage includes the Middle East, the wider Mediterranean region, Central and Eastern Europe, South Asia, South-East Asia, the Far East, and North Africa.

The ratings reflect the strength of the UAE’s consolidated fiscal and external positions and CI’s expectation that they will remain strong throughout the forecast period, as well as our view that the oil rich emirate of Abu Dhabi would be willing to support federal institutions in the unlikely event of financial distress.

The stable domestic political environment, the country’s high GDP per capita, and the government’s continued efforts to diversify the economy and improve the consolidated budget structure also support the ratings.

Strong External Accounts

The UAE’s external accounts remain strong, supported by the main emirates, especially Abu Dhabi. The current account is expected to remain in a very high surplus of 18.5% of GDP in 2022 and 14.7% in 2023, compared to 11.7% in 2021.

This is mainly attributable to the sharp increase in global hydrocarbon prices and the recovery in tourism revenues following the gradual lifting of COVID-related travel restrictions. Official foreign exchange assets increased significantly to $131.1 billion in December 2021, from $106.7 billion in 2020, and are expected to exceed $170 billion in 2022.

Foreign exchange reserves continue to fully cover short-term external debt on a remaining maturity basis. Although there is limited disclosure on the assets of sovereign wealth funds, it is estimated that the Abu Dhabi Investment Authority (ADIA), the largest of the UAE DWFs, has around $650 billion under its management.

This is two times the size of the country’s total external debt (as estimated by the IMF), and equivalent to around 129.7% of 2022 GDP. While the net creditor position of the country cannot be taken as a solvency risk indicator for individual emirates, CI expects that Abu Dhabi – being the wealthiest emirate – would provide financial assistance to the federal government, including the UAE central bank, in the event of need.

The public finances have continued to strengthen, largely fuelled by higher hydrocarbon revenues. The consolidated budget position (which is dominated by Abu Dhabi and Dubai) is very strong, with an expected budget surplus of 8.1% of GDP in 2022, compared to 0.3% in 2021.

Assuming an average oil price of $85 per barrel in 2023-24, the consolidated budget surplus is expected to average 6.4% of GDP. Reflecting very large primary surpluses, the consolidated government debt stock is forecast to decline to 31.7% of GDP in 2022, compared to 38.3% in 2021.

Low Risks

At present, the consolidated government refinancing risks are deemed low in view of the budget surpluses. Access to international markets remains strong, with Abu Dhabi tapping the markets twice in 2020 and 2021, issuing a total of $17 billion of euro bonds at favourable terms and with long maturities.

Moreover, the UAE federal government has recently raised $3 billion from the capital markets through its second euro bond issue, attracting over $15 billion in orders. Nonetheless, tighter local and international monetary policies could trigger an increase in refinancing costs.

In this context, Dubai’s government related entities (GREs) would be the most exposed to refinancing risks given their relatively higher debt stock and sizeable debt repayment schedule in the coming years.

According to the IMF, the maturing debt of the government of Dubai and its GREs is expected to reach 8.5% of Dubai’s GDP in 2022 and 16.3% in 2023, the CI Ratings said.

Economic performance is expected to remain upbeat in the short to medium term, fuelled by a recovery in both the hydrocarbon and non-hydrocarbon sectors. Real GDP is expected to increase by 4.1% in 2022, compared to 2.3% in 2021.

This is due to a 3.6% growth in the hydrocarbon sector following the expected increase in production to partially cover oil supply shortages in the international markets and a 6.4% growth in non-hydrocarbon sectors.

Notwithstanding the favourable growth outlook, risks could stem from uncertainties related to the spill overs of the war in Ukraine and the evolution of the pandemic on global demand for hydrocarbons.

CI Ratings also noted that the implementation of reforms based on UAE Strategy for the Future is a positive step that will ensure healthy growth in the medium to long term. These reforms aim to strengthen the private sector, diversify the economy and reduce labour market segmentation.

The UAE’s sovereign ratings are mainly constrained by the relative dependence on hydrocarbon revenues, budget rigidities and high geopolitical risk factors. Oil and gas still account for around 40% of consolidated government revenues and for over 30% of GDP. Both the federal and consolidated budget structures are weakened by high expenditure rigidities.

The quality of economic data is relatively weak. Fiscal accounts are not comprehensive but fiscal data disclosure at the consolidated level has started to improve; accounts are now compiled more in line with international standards. However, information on government external financial assets is not disclosed, hindering assessments of balance sheet strength and flexibility.

Rating Outlook

The Stable Outlook indicates that the ratings are likely to remain unchanged over the next 12 months. The outlook balances the UAE’s strong net external asset position against the increasing financing risks of Dubai’s GREs and high geopolitical risk factors.

Rating Dynamics: Upside Scenario

The ratings could be upgraded if the authorities continue to implement structural reforms which achieve a sustainable reduction in the reliance on oil exports, as well as improve the institutional framework and data disclosures. The ratings could also be upgraded should geopolitical tensions witness a large and sustainable decline.

Downside Scenario

The ratings could be lowered if geopolitical tensions escalate to a level that disrupts hydrocarbon flow in the region and/or global oil prices witness an unexpected sharp and prolonged decline that would translate into significantly weaker public and external finances and higher refinancing risks, CI Ratings added.