The anatomy of past property crashes, what can we learn?

A recent study from the International Monetary Fund noted that equity and real estate downturns showed marked differences in emerging markets. The typical length of time from top to bottom in equities was some 18 months while real estate downturns only bottomed after around four years.

This is partly a function of the liquidity of asset markets. Equities can be sold instantly, or should be saleable instantly in the stock exchange. Real estate can take much longer to sell with bank lenders also reluctant to foreclose on their clients.

There is also a period of the suspension of belief in real estate markets which can last for sometime. In short, home owners can pretend to themselves that nothing is wrong unless they are under immediate pressure from lenders. This slows the unwinding of real estate markets.

Remember inflation

Inflation therefore has time to cushion the blow to real estate in a way that it does not for equities. For in a period of high general inflation, such as that prevailing in the UAE today, then loan burdens will become lessened over time in real terms while debts will become less in real terms.

Thus there is a far greater likelihood of a 'soft landing' for real estate investors than holders of equities in a crash. However, that is not to say that the shock for certain individuals will not be great, and potentially fatal to their financial position.

The most exposed in a property crash will be those with expensively acquired property in sub-prime locations bought with maximum levels of debt. Developers will also find themselves with large inventories of unsold property, and those without recourse to adequate funding will be in serious trouble. So if you are buying from a developer take care to choose a well financed concern.

In a property crash economic fundamentals are uppermost, and market forces at their most merciless. There is a reassessment of location, and a shift away from both very expensive property and sub-prime locations.

Repent at leisure

This can also be a moment of opportunity for investors, unless they are too quick to act and forget about the length of property cycles. For in a falling market today's great deal can soon become a liability.

However, far too many people in Dubai are expecting a property crash and waiting for an opportunity to buy for this particular scenario to happen as they might hope. For most people ignore the impact of very high levels of general inflation on the investment outlook which could still prove the guardian of current investors.

For if debt taken out today devalues in real terms due to very high inflation and rent payments are turned into mortgages, then even a falling property market might prove to be a good investment - provided individuals are not too overstretched in their personal finances.

Those who choose to wait may find that nominal prices remain high while they waste money on rental payments which are still on an upward track. High inflation favors property through producing negative real interest rates, i.e. nominal rates minus the inflation rate.

But few investors seem to understand this factor and its impact on a long-term investment like property. It is actually the secret of success for many real estate millionaires, although they may not actually appreciate it!