The Persian Gulf October 8, 2009, 1:20PM EST

Dubai: Is the Worst Over?

The emirate may look prosperous, but it was hit hard by the recession. Real estate may be slow to recover and debts loom large

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On the surface, Dubai doesn't seem as hard hit by the global recession as one might think. At 11 o'clock on a recent evening, the emirate's gigantic airport was crowded with travelers facing 15-minute waits at passport controls. Restaurants and nightclubs are filled with a cosmopolitan mix of visitors and locals.

And Dubai hasn't completely lost its old pizzazz. On a recent evening, Mohamed Alabbar, the tireless chairman of Emaar Properties, the emirate's largest real estate developer, proudly walked with visitors on the newly opened promenade around the spectacular artificial lake that lies at the foot of the nearly completed Burj Dubai, the world's tallest building. As the voice of Andrea Bocelli sang Time to Say Goodbye, colored sprays of water danced high in the air like a fireworks display. Alabbar said the fountains, which are meant to outclass a similar waterworks at Las Vegas' Bellagio hotel and casino, had cost more than $250 million. "If it makes people happy, it's O.K.," he said.

But scratch a little deeper, and there are signs of malaise. Real estate prices are down by as much as 50%, and, because the authorities are pressuring developers to finish projects they have begun, empty space is piling up. According to a recently released survey from London real estate consultancy Knight Frank, over the past year Dubai has suffered by far the steepest drop in residential property prices among 32 developed economies surveyed worldwide, down 47.3% on average. (The second-worst market, Singapore, saw prices fall 27.7% over the same period, from June 30, 2008, to June 30, 2009.)

Staff Cutbacks

Dubai's two biggest local real estate developers, Emaar and Nakheel, initially chose not to have stands at the annual Cityscape real estate exhibition that began on Oct. 5 in the emirate, but eventually relented. And with deal flow slowing to a trickle, Western investment banks have cut back on their Dubai personnel, reverting to their former practice of flying in professionals from London.

Dubai will clearly take some time to recover from the hit it has taken. At heart a real estate play, the emirate now needs to contend with a substantial overhang of both residential and commercial property. If there is a bright spot, it's that rents and prices that had become astronomical have come down. Khaled Al-Muhairy, chief executive of fund manager Evolvence Capital, says that while the owners of the towers that have gone up all over Dubai in recent years may be hurting, the companies that rent space in these buildings are getting much better deals—and there are far more of them.

But credit remains tight, and bankers say Dubai is going to have a tough time returning to the markets until it shows a clear strategy for paying off its estimated $85 billion in debt. There is also a lot of worry about a $3.5 billion Islamic bond, or Sukuk, for Nakheel that comes due near the end of the year. (Bankers think it will be rolled over.) Of more concern, they say, is the $50 billion or so that "Dubai Inc." needs to pay back or refinance over the next three years. Regional investment bank EFG-Hermes estimates Dubai's payment schedule at $13.1 billion in 2010, $19.5 billion in 2011, and $15.7 billion in 2012.