When Abu Dhabi sold $1.25bn of 10-year dollar bonds last week at a yield of 4.27 per cent — just 25 basis points over US Treasuries — it was widely seen as the end of an era.
Not in an ‘innocent last days of peace’ sense, even though war over Iran was imminent and the emirate was, just like its neighbours, about to come under unprecedented missile and drone attack.
It was because it was the last big bond sale by a member of the United Arab Emirates as an emerging market. At least in debt index terms. JPMorgan is due to add the UAE to its developed-market benchmarks this month as the country is now too rich for the emerging version. The US bank did the same for Qatar and Kuwait last year.
In spread terms, the UAE was already well past hanging out in the same index as Argentina and Senegal. Abu Dhabi sold 10-year debt at just 18 bps last year, a record for an EM sovereign at that maturity.
But war, as a threat to flows of oil, gas, and cash, must now mean much more risk for even the most creditworthy of sovereigns, right?
That depends.
At the end of a worst-case scenario for regional security this week, with the Strait of Hormuz on fire, the new Abu Dhabi bond has repriced to a yield of around 4.5 per cent, or a spread of about 33 bps.
Is that a lot? Relative to super-low issuance spreads, every basis point counts, of course. But in absolute terms, you could see panic in the Gulf everywhere but its bond markets this week.
That may say something about the war’s uncertain impact, but also about how flows of debt capital to emerging (and not quite so emerging) markets have changed in recent years.
Like Abu Dhabi, spreads on the dollar bonds of other Gulf governments went up slightly this week, but are still well below the levels they reached in last year’s ‘liberation day’ sell-off over US tariffs and a global growth scare.
The 2047 bonds of Saudi Arabia — nowadays one of the biggest issuers in emerging markets as its deficits have grown — are at 5.8 per cent, or a spread of roughly 110 bps, versus 6.5 per cent or 160 bps back then.
Debts of the region’s state oil and gas companies — the front line of looming export disruption — have also sold off a bit, but the moves are still small in the grand scheme. Qatar Energy’s longest dated bonds yield 5.5 per cent, up from just below 5.4 per cent prewar.
The really striking one? Bahrain, one of the world’s most leveraged states, owes debt close to 150 per cent of GDP and has a history of needing bailouts from its neighbours. Manama has run budget deficits worth more than ten per cent of GDP per annum over the past decade, and has no way to reroute oil shipments beyond the Strait.
Despite this, the country’s 2028 bonds are still trading above par, at about 5.8 per cent, versus 6.6 per cent post-liberation day. Bahrain’s long-dated bonds yield about 7.6 per cent, but that’s not unknown territory for its credit.
So . . . what gives?
On one level, there’s a view that these countries mostly have enormous foreign assets, and assuming the war doesn’t go on long enough to obliterate exports, higher oil prices will also mean more fiscal revenue. So it’s daft to short them. Contrast, say, the credit of indebted oil importers in emerging Asia this week, with yields on Pakistan’s 2031 bond leaping a percentage point to 8 per cent.
Looking at the impact of closure of the Strait of Hormuz on Gulf sovereigns on Thursday, Fitch Ratings said it “believes all of them can absorb it within their current rating levels, based on our expected duration for the war” (weeks not months):
Kuwait and Qatar have significant sovereign balance-sheet buffers, with very large foreign assets (estimated at 606 per cent of GDP and 223 per cent of GDP, respectively, end-2025) and low (Kuwait) or moderate (Qatar) debt. These will enable their sovereign ratings to comfortably weather a disruption to oil exports consistent with our baseline scenario.
Bahrain and Iraq do not have similar buffers, captured in their much lower ratings, but have mitigants. For Bahrain, we expect other GCC sovereigns to provide financing and potential other support, with the propensity to support potentially heightened given the nature of the shock . . .
. . . We estimate each week of Hormuz’s closure would reduce Abu Dhabi’s hydrocarbon export proceeds by about 0.15% of GDP. The impact on Abu Dhabi’s public finances would be small, in the context of an expected large budget surplus.
Notably, Fitch already cut Bahrain’s rating by a notch from ‘B+’ to ‘B’ last month.
Just to underline just how much an expectation of GCC support already stops that credit rating from going even lower, Fitch noted that the Central Bank of Bahrain’s reserves covered only just over a single month of imports at the end of last year, versus a B-rated sovereign median of four and a half months. (“Regular swap operations with banks significantly contribute to the CBB’s foreign assets,” Fitch added.)
That brings up another issue — how far the Gulf’s sovereign bond market depends on holdings by the region’s banks, and to what extent they’ll have to sell if they are hit by deposits or other funding being pulled in a longer war.
S&P Global looked at this on Thursday, using a stress test that modelled much higher risk premia for the region (anything from 100 to 500 bps) in a more intense conflict, and banks taking 20 per cent haircuts on the value of investment assets they had to liquidate quickly. Emphasis ours:
Bahraini retail banks appear more vulnerable due to recent increases in external debt, which expose them to a shortfall of up to $1.9bn, as of Dec. 31, 2025 — equivalent to 8 per cent of external assets after assumed haircuts. This risk is partially mitigated by the fact that a significant portion of Bahraini retail banks’ external debt is held by regional creditors and their likely interest in maintaining stability to avoid broader regional contagion.
Qatari banks face potential shortfalls in the case of sudden outflows, though this risk is declining as they now rely more on funding from head offices, affiliates, and capital markets rather than non-resident deposits and interbank deposits. Qatari banks’ shortfall at year-end 2025 was $4.4bn, which appears manageable and is equivalent to about 10 per cent of government and related entity support during the 2017 boycott. In contrast, banks in the UAE, Kuwait, and Oman have strong net external asset positions and are well positioned to cope with outflows, as are Saudi banks despite their rapidly increasing external debt . . .
. . . To quantify the potential stress under the high credit impact scenario, we assume private sector local deposits outflows of 20 per cent, based on historical data from the 1990-1991 Gulf war. We do not assume outflows of government or other public sector deposits as we expect governments and related entities to increase deposits, when possible, to support banks.
Our hypothetical stress test indicates domestic deposit outflows could reach $307bn (based on year-end 2025 reported numbers), concentrated in the UAE and Saudi Arabia. Banks hold about $312bn in cash or at central banks to meet these outflows and may need to liquidate some investments or park them at central banks against liquidity. Overall, the risk appears manageable; after liquidating investment portfolios (and accounting for our 20 per cent haircut), banks will still have about $630bn to deploy.
There is one more perspective on the Gulf’s stubbornly tight sovereign spreads, meanwhile — which is that emerging market dollar debt spreads as a whole have become extremely tight in recent months, in line with other global credit markets.
Even as the UAE is headed out of the JPMorgan Emerging Market Bond Index, the benchmark’s overall spread has fallen to about 250 bps, or 100 bps for its investment-grade countries, the lowest in close to 20 years.
You can see that as madly complacent or a structurally sound view of fundamentals, but it also reflects the influence of the ‘crossover’ bid in emerging markets. These investors buy the bonds of the highest-rated countries as they offer a little yield pick-up, or diversification, versus US corporate credit or other classic homes for their capital. The ‘should I buy Mexico or should I buy Coca-Cola’ trade, as one debt manager put it recently.
This isn’t a new phenomenon, but it may have become more ‘EM to EM’ in recent years with the advent of investors from Asian nations with big dollar surpluses to put to work — Taiwanese life insurers or Chinese banks for instance. As the likes of the UAE and Saudi Arabia have sold more bonds to diversify their economies, the Gulf hasn’t been an exception.
As Barclays analysts wrote in January: “The demand from Chinese (and other Asian) investors for GCC Eurobonds has already been an important anchor for this market over the past few years, in our view, against a backdrop of heavy and recurrent supply from sovereigns, quasi-sovereigns and corporates.”
Or as they put it in chart form, in terms of where the Gulf sat in more $500bn of Chinese holdings of global credit as of the middle of last year:
What are these investors thinking as the war drags on?
We’re not sure, but for now — watch those spreads.