By Matein Khalid: Chief Investment Officer and Partner at Asas Capital
The latest bear market in Dubai real estate is now five years old and prices of villas and apartments even in prime communities have fallen a cumulative 25 – 30%. Even though this fall was no surprise to me as my macro/liquidity cycle and supply-demand analysis flashed a sell signal in mid-2014. I find it hilarious that corporate media, brokers, local developers and bankers all cited Expo 2020 as the catalyst to buying in 2015, 2016, 2017, 2018 and even now in 2019.
I remember a childhood axiom. Wise men learn from other’s mistakes, average men learn from their own mistakes, fools never learn. The share prices of every UAE property developer I know is a testament to this wisdom. DAMAC, for instance, is down 70% from its highs amid colossal operating losses and at least $1.5 billion in bank loans and bond market debt.
The smart money consensus in Dubai property is for another 10 – 15% decline in prices amid a crash in rents, spikes in vacancy ratios and an accelerating pipeline of oversupply. The catalyst for a sustainable bottom in 2020 or even 2021 simply does not appear apparent, given the banking credit crunch, rising jobless rate for high-end expats, glut of inventory and plunge in offshore inward capital flows from traditional feeder markets like the UK, India, Russia, Saudi Arabia, Pakistan and Africa.
I see the liquidity cycle as negative for real estate in 2019 and 2020. After all, financial institutions have approximately $80 billion in loans to the real estate sector and $28 billion in mortgages for homeowners, one-third of their loan books. This means six-month EIBOR will go even higher even though the Federal Reserve has called time out on Jay Powell’s monetary tightening projections. Moreover, home mortgages in the UAE are among the most expensive in the world and homeowner equity will continue to be gutted, as it was in the 2008-12 bear market when prices fell 60%. Once again, banks, developers and homeowners will learn the hard way that leveraged real estate is among the most dangerous investments in the global financial constellation.
The rising credit spreads and accelerating share price falls of UAE property developers convinced me that financing will become a sword of Damocles for even the largest real estate developers and investors. With 50% vacancy ratings in say, Business Bay, it is also evident that handful of commercial banks who financed speculative office building developments, let alone half empty warehouses, labour camps and horror of horrors, suburban shopping malls, will find non-performing loans continue to rise. The cost of borrowing/access to borrowing and the collateral value of lenders' asset books will continue to stay stressed for the next three years. This is not the macro zeitgeist for a new bull market in Dubai property.
I often hear investor friends who are long real estate argue that prices will bottom at 2009 – 2010 levels, not far below current levels. Poppycock – absolutely wrong. There is nothing sacred about a prior bottom in real estate. As a student of von Hayek’s Austrian School of economics and investment cycles, I have seen real estate bear markets bottom at 30 – 35% of replacement cost in Florida, Spain and even UK since the 1990s. This means a 25 – 30% downside price risk in the prime areas where I could be most interested in bottom fishing. New builds? Off-plan Ponzi schemes? Make no sense when there are tens of thousands of empty units and a delivery pipeline that is unquantifiable. I am an investor, not a masochist and off-plan in a glutted market with balance sheet angst is a license to be skinned alive in this crazy life, the vida loca to my Argentine friends in Buenos Aires. Yet what is an Argentine hombre? An Italian who speaks Spanish and wishes he was an English milord, O lord of the pampas. Hola amigos!
Expect developer margins to continue to fall. Expect leverage ratios to rise and asset quality to deteriorate in bank loan books. Expect the EMI-rental gap to devastate buy-to-let investors, even as service charges continue to rise. This makes a bottom in prices unthinkable until the credit cycle stabilizes. Will it in 2019 or even in 2020? Absolutely not.
I am not alone in my financial calculus. Standard & Poors, no broker or ad-dependent newspaper, expects a cumulative decline of 20% in Dubai property prices in 2019 – 2020. This is not the time to catch a falling knife!