The yield on Nakheel’s Islamic bonds declined the most among bonds in the Arabian Gulf as the state-controlled developer that restructured $ 16bn of debt benefits from a rebound in Dubai’s property market.

The yield on the 10% sukuk due August 2016 has tumbled 820 basis points, or 8.2 percentage points, this year to 10.1% on Wednesday. The yield fell to 9.5% on August 2, the lowest since the notes began trading in September. That is more than seven times the 105 basis-point drop in the average yield on Gulf Islamic bonds, according to the HSBC/Nasdaq Dubai GCC US Dollar Sukuk Index. The yield drop in Nakheel, which isn’t in the index, was bigger than that of any of the 37 government and corporate notes that make up the gauge.

Nakheel, which issued the Shariah-compliant notes as part of its debt restructuring plan, posted a 37% increase in first-half profit to 767mn dirhams ($ 209mn). Dubai’s real-estate prices are starting to recover from one of the world’s biggest slumps three years ago and fourth-quarter home sales jumped 67%, the Land Department said. Economic growth in the emirate, the second-largest in the UAE, will quicken to as much as 5% in 2012, the government said in February.

There is a “general improvement in Dubai real state and the sense that Dubai real estate prices have bottomed,” Yaser Abushaban, director of asset management at Emirates Investment Bank in Dubai, said by email on August 13. “This has fed the second factor, which is an improvement of Nakheel’s operating results and a return to profitability, which means that Nakheel is better able to meet its obligations.”

The average price for luxury villas rose 17% in July from a year earlier, while high-end apartment prices in Dubai climbed 11%, according to real-estate prices and lease rates from Cluttons in Dubai. Dubai’s home prices had plunged 64% since the 2008 global credit crisis from their peak that year, according Deutsche Bank AG estimates.

“We have seen a very healthy demand in the first half of 2012, and this looks set to continue for the year,” the company said in an emailed statement on August 12.

Nakheel’s revenue more than doubled to 3.1bn dirhams in the first half as sales increased and the company reduced costs, it said on July 30. The builder of palm-shaped islands of Dubai’s coast said on August 12 it sold a plot of land on Palm Jumeirah for 400mn dirhams. It also said it handed buyers the keys to 3,500 homes and paid 8.6bn dirhams to its trade creditors since the restructuring.

“There are a lot of positive trends in the real estate market in Dubai and this will feed into the Nakheel story,” Ahmad Alanani, the Dubai-based director for the Middle East at investment bank Exotix Ltd, said by phone on August 13. “A lot of foreign buyers are coming to the market, which paints the picture that Dubai is acting as safe haven in the context of this region.”

Nakheel wrote down its real estate by $ 21.4bn from 2008 to mid-2010 and received an $ 8.6bn bailout from Dubai’s government, helping it avoid default. The company got state funds to settle a $ 750mn sukuk in January 2011. The former unit of Dubai World issued the Islamic bonds in August to trade creditors after it was unable to pay them.

Nakheel’s bond rally may be capped as Dubai’s real estate market remains vulnerable to downward swings in property values and the sukuk are susceptible to selling pressure from trade creditors, according to Abushaban.

“A reversal in Dubai real estate can be very harmful for Nakheel,” he said. “There are limits to how much this could go on.” At current prices “I can see many trade creditors who are owed money by Nakheel and were given these sukuk as part of settling their claims, coming in and selling their paper.”

Dubai, which teetered on the brink of default in 2009, incurred about $ 113bn of debt to transform itself into a tourism and financial hub, according to the International Monetary Fund. Nakheel’s and Dubai’s debt aren’t rated.

Still, Nakheel’s bonds have benefited from appetite for higher-yielding securities in the Gulf amid Europe’s debt crisis and low global interest rates, according to Emirates Investment Bank and Gulfmena Investments in Dubai.

Nakheel’s bonds are yielding 683 basis points more than the government’s 6.396% Islamic bonds due November 2014. The yield on Dubai’s sukuk has fallen 229 basis points this year to 3.29% on Wednesday, narrowing the spread over Malaysia’s investment-grade 3.928% notes maturing in June 2015 to 159 basis points. The average yield on GCC bonds was at 3.25% on Aug. 14.

The “eurozone crisis has made all regional paper very interesting especially to Arab money reallocating from European banks to regional banks and paper,” Haissam Arabi, chief executive officer of Gulfmena Investments, said by email on August 13. “The only desire investors had was flight to safety and a drive toward yields. Naturally, Nakheel was most interesting in terms of yield as with other regional and even local paper the yields had tightened drastically.”

The Dubai-based developer expects revenue from malls and hotels to reach 2bn dirhams by the end of 2014 as several retail projects are completed, Al Bayan newspaper reported last month, citing chairman Ali Rashed Lootah.

Nakheel announced several retail and entertainment projects such as the Dragon Mall extension and the so-called The Point Walk at the tip of the artificial Palm Jumeirah island.
“The fortunes of Nakeel are closely tied to the fortunes of Dubai real estate,” Abushaban said. “As long as the recovery in Dubai real estate sustains and Nakheel is able to sell plots and deliver units to end-users, the company will continue to experience an improving outlook.”