Bonds of Dubai's Ports, Customs & Free Zone Corp (PCFC), which are convertible into shares in any DP World IPO, are rallying on growing interest in owning stock of the world's third-largest container terminal handler.

The two-year Islamic bonds, which PCFC sold in January last year, had dropped about 100 basis points, or 1 percentage point, to below $115 in the middle of September, at a time when investor appetite for emerging market equities was low due to the global credit crisis.

The bonds, of which 30 percent are convertible into DP World shares, are now trading at about $116.25. That compares with a redemption price of $114.25 at maturity on Jan. 23 and $115.75 on Monday.

"PCFC is still rallying on the back of a bullish sentiment prevailing in both local equity markets and credit markets," said Mazen Farah, senior fixed income trader at HSBC Holdings Plc in Dubai.

"There are very few people out there pricing in that DP World or any of its subsidiaries will not go through an IPO," Farah said.

State-owned DP World was planning to sell about a 20 percent stake to raise as much as $4.2 billion in an initial public offering before the end of the year, a person familiar with the plan told Reuters on Sept. 11.

"Back then, people were still in risk-reduction mode on Middle Eastern names as a result of the liquidity crises," Farah said. "Even though PCFC held up well in the environment, the speculation of an IPO lead to a drop in price due to a low value attached to the embedded option."

Since then, and a 50 basis-point cut in US interest rates, investor appetite for equities and global markets, including Middle East indexes, has recovered.

If DP World does not sell shares in an IPO before January 23, bondholders will be entitled to an additional payment of 3 percentage points for each year, pricing the bonds at $120.25.

If DP World does sell shares, bondholders will be able to redeem 30 percent of the value of the bonds for stock. Bondholders have the same rights during the year after January 23, but will have to repay the difference between the IPO yield and the maturity yield.

"Since the end of September, higher quality Middle Eastern credits have undergone a significant recovery," Farah said.

"This, coupled with the general equity rally, lead to a greater value being attached to the option and hence the price premium," Farah said of the PCFC bonds.

DP World chairman Sultan bin Sulayem told Reuters last week the company still had to decide whether to proceed with an IPO or to finance expansion through loans, bonds or existing resources.

DP World, which last year bought British port operator P&O for $6.8 billion, would list on the Dubai International Financial Exchange (DIFX), the person familiar with the situation, who did not want to be identified, said on Sept. 11.

The company is worth about $22 billion, that person said, adding the plan needed approval from the Dubai government.

A second person familiar with the IPO plan said last week DP World was planning to sell a stake of around of 20 percent, but could not give the value of the deal.

Dubai Islamic Bank, Deutsche Bank, Merrill Lynch & Co Inc and Dubai-based Shuaa Capital are advising DP World on the possible IPO. - Reuters