July 2015: Where are we?
For the past six months, headlines have been making many and varied references to a real estate correction in Dubai. This is not surprising as indeed Dubai’s real estate industry is in the midst of one. Many view the term correction with suspicion and trepidation, particularly those with a more tactical and less strategic short-term point of view.
Those who take a long-term perspective look at a correction with anticipation as it refers to the elimination of systemic issues and making the necessary adjustments to deal with impacts of external issues on the efficient operation of the real estate market.
There is no doubt that a correction was overdue. The year 2013 will be remembered as Dubai’s comeback year as the total value of real estate transactions reached Dh234 billion, a 52 per cent increase on 2012, which was clearly unsustainable as witnessed when the correction began last year when Dh218 billion worth of real estate assets were sold, a reduction of over Dh16 billion on the previous year. At the time of writing, just over Dh63 billion worth of transactions has taken place this year, indicating that the market is well and truly entered its correctional phase.
Changing cash flows
The market definitely benefited from high levels of liquidity during 2012 and 2013. Capital inflows seeking safe haven from regional conflicts were strong. However, they were sure to weaken and have. Geopolitical events such as the Ukraine conflict and subsequent economic sanctions imposed on Russia by the West sent the rouble rapidly declining in value, making investing in Dubai an increasingly expensive proposition for Russians, who historically have been prevalent in the investing community.
In addition, changes to mortgage laws also dampened the availability of capital for investors wishing to use leverage to capitalise on attractive property valuations and the promise of high and sustainable rental yields.
Vying for investment
A slew of new projects being launched as a result of renewed developer optimism also placed pressure on liquidity levels and, eventually, prices market wide. Initially, launches were made with prices for off plan units consistent and supportive to prices for completed units.
However, with each additional launch, competition for the investor money intensified, leading to a gradual reduction in prices for off plan units and making the risk reward equation more palatable for off plan units versus completed units.
In addition, the shift of developer focus in response to the call for more affordable housing also meant that investors gravitated towards this – perhaps the most important structural correction in the market to date.
The number of new launches has been impressive, leaving many to question whether over – exuberance on behalf of developers will result in a significant oversupply. Calculating optimal supply levels, especially when emerging from a recessionary period, is particularly challenging. It depends on an accurate estimation of demand for real estate assets that will emanate from Dubai’s population growth, which will be largely driven by overall economic growth. In addition, supply needs to factor in a lag effect from the time that conditions conducive to development are identified by developers and when properties are completed and are released on to the market.
We at Harbor take a minimum five year view when looking at equilibrium or imbalances in the market. When taking into account the nature of its resurgence, the strong growth in fundamental economic drivers such as tourism and trade, the levels of investment into infrastructure and initiatives and stakeholder commitment to sustainable growth, we believe that while inventory levels may spike in the interim, they will not be excessive at the end of our five year forecast period.
Steady supply
There will be about 11,000 villas, 7,500 town houses and 35,000 apartments delivered between now and 2020. While this may seem a lot, remember that we are entering a period where demand for property – particularly those that are affordable is expected to rise significantly and given average occupation rates are currently about 80-85 per cent, there is not much margin for error in terms of satisfying expected demand.
Put simply, Dubai needs people to support an economy that is expected to grow at an estimated 5 per cent annually for the remainder of the decade and to deliver initiatives such as the World Expo 2020. The expo alone is expected to generate an additional 270,000 jobs and drive demand for housing and commercial facilities that don’t exist.
Much of the city’s planning estimates the number of people living in the emir ate to grow to 3.4 million by 2020 – a 7 per cent annual increase from today’s population of 2.25 million.
Expo led growth
There is no doubt that a stabilised real estate market will provide a much better launch pad for what will be a period of significant economic and commercial activity over the next five to seven years. The structural shift towards more affordable housing will not only accommodate the expected rapid population growth associated with the Expo 2020, but is also an important factor in the development of Dubai’s economy. Every emerging market needs to develop a strong middle class, whose expansion is critical to growing a sustainable economy and developing resilience in the face of external financial and economic shocks.
In addition, for Dubai to compete effectively in the region and globally, it needs to ensure that the cost of doing business in the emirate does not position it as an outlier when entrepreneurs or corporations are considering alternative locations for their operations.
When taking this perspective, the correction could not have come at a better time.