Morgan Stanley’s report on Dubai property predicting a 10-per cent slide in values by 2010 has worried some investors and resulted in a sell-off of property stocks, admittedly in a thin August bourse spooked by lower oil prices and the war in Georgia. But let us have a look at the fundamentals underpinning the UAE property market.
Dubai real estate may well be another asset class bubble to be created by inappropriate interest rate levels set by the US, alongside Hong Kong property due to the currency peg. However, there are many good reasons to believe the present realty boom will continue for rather longer than many outside observers think. The UK housing boom lasted 14 years while the Dubai market is only six years old.
First, while Dubai price rises have been constant and considerable, there has not been anything resembling a mania, or universal optimism. There are still a few skeptics at any dinner party. It is only when they fall quiet that you should worry about the future of any market, for that is the moment of maximum optimism and greatest danger.
Oil prices drive Middle East economies and Dubai is no exception as its trading hub. In 1999 when oil prices fell below $10, Dubai realty took a hit with rents softening slightly. However, with oil trading above $115 a barrel in mid-August and the war in Georgia just the latest, and very unexpected, geopolitical event to remind us that high oil prices are likely to persist, then the UAE economy is hardly about to slowdown anytime soon. Gazprom has forecast $250 oil for 2009, and perhaps that is where the Russian invasion of Georgia is taking us next.
Then consider Dubai mortgage rates at around eight per cent that have yet to adjust to the recent US interest rate cuts, which they have to do because of the dollar peg to the dirham. Just a couple of years ago local mortgage rates of seven per cent were available. Downward pressure on the cost of home finance is coming, and if the local mortgage market follows Hong Kong and becomes more competitive then interest rates could go much lower, making it cheaper to buy than rent. Real interest rates are strongly negative due to 15-20 per cent inflation. Rental yields in the Dubai market of five to eight per cent are abnormally high by global standards. Rents are unlikely to fall in a booming market. It is more likely that rising capital values will pressure yields down towards global levels. There is no reason why rental yields should be higher in a booming city like Dubai than in London where the economic outlook is much poorer.
It is also a fact that far less supply is coming on stream than promised by overenthusiastic developers due partly to limited supplies of manpower and materials. Dubai Properties is one of the biggest and has said it will deliver 5,000 units to the freehold market in 2008, which is not nearly enough to meet surging demand. Abu Dhabi will not deliver a single new unit this year, and deliveries will only start late in 2009, and that creates additional demand in Dubai.
Then again, Dubai house prices are still low when compared to other global cities with similar salary levels. The HSBC survey of house prices in comparison to per capita GDP put Dubai and Abu Dhabi near the bottom. This is a historic anomaly that will be eliminated by price rises. Six years ago when Dubai freehold began it was a market without any formal legislation and regulatory infrastructure. Now it has world-class laws, a state-of-the-art land registry and a strongly-led regulatory agency embarking on a campaign to clean-up the sector.
Consider too that when the Dubai Financial Market crashed in 2006 it pushed local investors into property as an alternative. The DFM recovered in late 2007 but is now again trending downwards with global stocks, and has become highly volatile, shifting almost three per cent on Sunday.
Indeed, the absence of major investment alternatives is a major theme for 2008. Global stock markets had their worst January in history and a poor first quarter. Recent US rate cuts leave deposits paying under two per cent. This makes Dubai realty look attractive as an alternative.
In the same way that the local stock market crash attracted foreign bargain hunters to invest in 2007, foreign investors in search of yield are also increasingly investing in Dubai realty. The UK housing market correction might be dissuading some buyers but large numbers of oil-rich Russians, for example, are now buying in Dubai perhaps instead of London.
Moreover, Dubai still has some undeveloped market niches in real estate, such as holiday lets and fractional ownership, which are big and even dominant market phenomena in many beach resorts around the world. This source of higher rental yield on property has, therefore, yet to be fully tapped.
And finally let us not forget that Dubai Government has been the most proactive developer in the emirate and its recent legislation and regulatory initiatives suggest this support is not only likely to continue but will respond appropriately to any adverse market developments.