Downturns have a habit of ending before you know it

It appears that in the Dubai real estate sector since 2016, there have been only two major topics discussed — falling prices and the phenomena of payment plans. Despite being dissected ad nauseam, the clamour for further insight seems almost insatiable.

However, it bears repeating that even as real estate and equity prices have had a strong start to the year despite the scepticism. It is important to note that while the index methodology and commentary may have some impact on decision-making, it is wealth generation that ultimately dominates the discourse.

It is clear that whatever the prevailing zeitgeist, those that are building up their wealth will benefit from lower asset prices, as I have repeatedly argued. A fall in house prices hurts those that are “long” real estate, especially by more than an amount than they will need over their lifetime.

These landlords might suffer in the present tense, but it allows them, as well as tenants to move to larger spaces, thereby moving up the real estate curve. If the population is predisposed to be net long real estate, then to paraphrase Warren Buffett, those who cheer when prices go up is like a commuter who rejoices after the price of gas increases, simply because his tank contains a week’s worth of supply.

Of course, lower asset prices help affect sentiment; there is the “negative wealth effect” that causes people to hold off on spending both capital as well as consumer goods. Many times, these have nothing to do with economic sluggishness, but may reflect growing fears about geopolitical and exogenous factors such as growing protectionism, the impact of Brexit, and the like.

At some point — it remains unclear to economists as to how and why this inflection point is ultimately reached — the changing of sentiment manifests itself in the form of prices rising. This itself becomes a self-fulfilling prophecy, as higher prices cause more people to jump on the bandwagon.

the so called “herd mentality” heuristic that propels asset prices higher till the point that euphoria kicks in and we go through the same cycle again.

It is critical to note that long-term investors will always seek to extract the highest risk premium for their assets, which implies that purchasing should accelerate at the bottom end of the cycle. We have started to see this behaviour pattern emerging in the last quarter, and even though we have had similar signals earlier, asset prices seem to be showing signs of life from a more diversified investor base.

In Dubai, the concerns about “if you build it they will come” has also been repeated in the media. Despite Dubai’s historical success with this model, along with continued liberalisation that fuels the demand, there are undoubtedly reasons to exercise caution.

After all, during times of excessive optimism, there is always wasteful spending, and real estate projects sometimes lose sight of their core viability. Internationally, we have seen this with the phenomenon of “ghost towns” in Spain, Greece and parts of America. In Dubai, these fears have been repeatedly expressed, and whilst there is no guarantee that this will not occur, all that is needed is a grass roots analysis of what has transpired in the city over the past three to four years.

What is clear is that in Dubai, there has not been anything close to resembling euphoric sentiments during this time frame. Despite economic sluggishness, construction has continued, which has subdued returns.

These poor returns that have been realised, almost by definition imply better returns in the future and vice versa. Of course we have the measurement problem that is now permeating through to the indices, where because of the “cost of money” embedded in the prices has resulted in higher selling prices.

And caused individual investors to offer the same in the secondary market, implying that as prices reflect the “term premium” of payment plans, they will rise across the board. This may or may not be relevant in decision-making for long term investors.

There appears to be buying patterns that are also emerging where investors are capitalising on the liquidity discount available in secondary markets.

But in the broader sense, long-term investors know already what analysts and the media tend to keep forgetting: Recessions and economic sluggishness are part of all economic cycles. While they may seem interminable at the time, eventually they end.

Sameer Lakhani is Managing Director at Global Capital Partners.