Recent housing data out of China showing house prices fell 6.3 per cent on a year-on-year basis (and 23.1 per cent from its peak) set alarm bells ringing as it indicated the steepest drop ever since the government starting releasing data in 2011.
Despite a raft of incentives, there seems to be no signs of the painful slump losing steam. Given the country’s dependence on the real estate sector, tongues started wagging about whether the same could lie in store again for the UAE. Such comparisons are for the most part spurious.
While there are a confluence of factors that explain the funk in China’s (and to a lesser extent Hong Kong’s) real estate sector, at base the problem was and always has been the lack of capitalization that large-scale developers had to ride out any cyclical downturn (exacerbated by the Covid pandemic).
Rising interest rates then added further pressure, triggering defaults as the affordability ratio spiraled higher for individual investors, even as prices continued to fall. Curiously, it wasn’t that long ago that China had taken measures to cool down a runaway property market by restricting purchases, showing that controlling boom-bust cycles become increasingly hard to manage when debt levels at both ends of the spectrum (from developers as well as investors) surge higher.
Lessons learnt from boom-bust phases
Investors in the local real estate markets are not alien to this phenomenology, having gone through two boom-bust cycles that were magnified by speculative forces fueled by debt. The first sparked a wave of defaults and restructuring.
The second was a slower wave but led to restructuring issues in companies like Union Properties, Amlak and Drake & Scull. Here is where the parallels between the two markets start to diverge.
Fast forward six years later and Dubai has seen the successful recapitalizations of these companies, and has continued its laser-like focus on capitalizing balance-sheets through a combination of privatization (companies like Tecom), mergers (Emaar’s takeover of Dubai Creek Harbor ) and most recently the consolidation of Nakheel and Meydan under Dubai Holding.
While real estate agents will wax eloquent as to the astounding opportunities that this will create, there is no doubt that the focus remains on:
- Paying down debt levels;
- Creating spin-off opportunities through further capital market divestitures;
- An aggressive implementation of the Urban 2040 plan; and
- Expand into international markets, without a repeat of debt and debt servicing levels becoming unsustainable.
None of this can be achieved without having balance-sheets that are sufficiently robust to withstand cyclical downturns that are inevitable as part of the maturation of the market. Whilst the latest announcement will be fleshed out over the next few months, the behemoth that is being created will undoubtedly create opportunities for investors and give comfort to a populace that has historically always seen real estate as a natural place to invest. (This is now changing with the ongoing capital markets privatization program, which in itself will be bolstered by the latest move).
It’s all in the balance-sheet
A decline in home prices has always had a big impact on consumer confidence and the negative wealth effect that has accrued is something that has to be minimized. Dubai’s proactive measures have repeatedly ensured that deleterious effects of any downturn will be mitigated by the strong balance-sheets that are now being put into place.
Surveys taken by various agencies indicate that the average expat household has a savings rate of more than 20 per cent (much of which has historically been repatriated). A structural change in the money flows that allows for this to be channelized into domestic markets has long been underway.
The latest move further bolsters confidence, and even as any investor knows that no one can be shielded from price cycles, there is enough robustness in the system to withstand the deleterious effects of high debt levels and high servicing costs.
The merger of Meydan and Nakheel into Dubai Holding will spark a flood of commentary in months to come, especially as newer opportunities are unveiled by the combined entity - domestically and abroad - in real estate as well as capital markets. There will be the usual naysayers and skeptics.
In the final analysis, no one can deny that in the age where interest rates will no longer approach zero, highly capitalized companies will succeed. And Dubai has taken the lead over its larger rivals once again.
