Dubai's sovereign bonds rallied this week, benefiting from good liquidity in the market as well as a rise of investor confidence in the high-flying emirate's ability to repay debts and sustain growth.

Traders cited a general improvement in investor sentiment towards Dubai over the last several months, thanks to its progress in restructuring corporate debt and its image as a safe haven amid regional instability.

Dubai's most recent sovereign issue, a two-tranche, $1.25 billion Islamic bond, or sukuk, has tightened substantially since its launch at the start of May.

The 4.9 per cent, five-year, $600 million portion was yielding just over 4.00 per cent on Thursday, about 10 basis points tighter since the beginning of this week.

The yield on the 10-year, $650 million tranche has tightened about 20 bps since June 18, and over 70 bps since issue.

'All three major debt milestones for Dubai Inc this year, Dubai Holding, Jebel Ali Free Zone and DIFC Investments, have been firmly ticked off the list,' said Chavan Bhogaita, head of markets strategy unit at National Bank of Abu Dhabi.

'I expect investor appetite for Dubai credits to remain strong in the near to medium term as the fundamentals recover and international investors find opportunities giving them yield and a low correlation to the challenging situation in Europe.'

Government-owned Jebel Ali Free Zone (Jafza), an industrial park, and DIFC Investments, owned by the emirate's sovereign wealth fund, have both arranged repayment of their 2012 maturities, and without the need for direct state support.

The two Islamic bond redemptions, Jafza's $2 billion-equivalent deal and DIFCI's $1.25 billion sukuk, were considered a major test of Dubai's global credibility after its 2009 corporate debt crisis shocked markets.

Along with a $550 million sukuk repayment earlier this month by Emirates airline, the debt repayments have created a liquidity boost in the secondary bond market.

'With the DIFC and Wings (Emirates) sukuk maturing, there is plenty of sukuk money looking for a home; in the current market the liquidity in the region has proved to be the biggest driving factor for asset prices,' Invest AD said in a June 17 note.

Dubai's 7.75 per cent, $750 million, 10-year bond maturing in 2020 was bid at 111.6 cents on the dollar on Thursday to yield 5.95 per cent, a compression of 23.2 per cent since issue.

The yields hit a low of 5.8 per cent on May 3 this year, and has tightened about 100 bps year-to-date.

The cost of insuring Dubai's debt against default has also declined sharply. Its sovereign five-year credit default swaps were bid at 355 bps on Thursday, down nearly 18 per cent since the beginning of the year. – Reuters