Any investor aware of the 50% collapse in top stallion stud fees this year (and Gulf royal families like the Maktoums in Dubai have dominated top-end horseracing in recent years) would have been forewarned of the cashflow crisis gripping local finances. When the Sheikhs can't afford to have their prize mares sired, bond investors have no chance. I last wrote on Dubai almost exactly a year ago, I concluded that: '...when the international jet-set lie on the private beaches of their man-made (and sinking) islands made in the shape of miniature countries and gaze at the world's tallest skyscraper rising on the horizon, perhaps they won't notice the untreated sewage lapping at their feet. They gold-plate most things in Dubai, but not the turds.'  And Dubai World bond investors were left holding a few of those yesterday. On a visit to the city few weeks back, I was amazed to see cranes still working on a forest of unfinished skyscrapers, despite 50% occupancy rates on recently finished projects. Despite the fact that developers were selling space at a 33-40% loss on build costs (if they could sell it at all), the investment brakes had still not been applied.

Now, the clearly unsustainable debt burden ($80bn or over 100% of GDP), much of which is of short duration, is finally creating a default panic, with CDS spreads have soared to over 500bps in the last two days. That makes Dubai a worse credit risk than Iceland (which at least has fish and geothermal power to fall back on). Dubai World, the corporate arm of the government, (which includes the property developer Nakheel, whose bonds have now crashed back to February levels), has built some of the most ludicrous local projects, such as the artificial island shaped like a palm tree decorated with D list celebrities and a series of (unfinished) islands shaped to represent a map of the earth.

This is the local equivalent of the US government reneging on Fannie and Freddie GSE debt last year. The conglomerate is shouldering about $60bn in debt and had $4bn falling due next month, with the ability to repay the bond seen as a key test of the state's financial health. Now, the group is asking lenders to extend maturities until at least 30 May. The Dubai government said it had raised $5bn, as part of a $20bn bond programme launched this year, from two Abu Dhabi-controlled banks. The first $5bn tranche in February was bought by the federal government of the United Arab Emirates, in what was effectively a bailout by the adjoining emirate. Today, Moody's (which like most investors had assumed an implicit sovereign guarantee) has downgraded the ratings of all six government-related issuers (GRI’s) in Dubai and left them on review for possible downgrade. In a country reknowned for its opaque business relationships and finances, it's hard to have much sympathy with analysts or investors 'shocked' at the sudden volte face.