GCC real estate eyes return to form

It’s fair to say that the past year may have been one to forget for many involved in the Gulf region’s real estate market.

Austerity measures, redundancies and reduced economic sentiment linked to the falling oil price saw demand in many markets diminish over the last 12 months with much of the pain reflected in declining sale prices and rental rates.

“Across the Gulf, and across most real estate segments, activity and performance over the past year have either slowed down in growth, stagnated, or decreased,” notes Bruno Wehbe, principal with PwC unit Strategy&.

The impact can be seen across the Gulf’s key property markets. In Saudi Arabia – the region’s largest market – “the picture is one of general decline”, Wehbe notes.

“With the exception of the Eastern Province and hospitality in Jeddah, prices and rents have declined year-on-year, by double digits in some instances,” he says.

Among the impacted areas has been prime office rents in Riyadh, which continue to suffer from an oversupply despite demand from professional services firms keen to take part in the kingdom’s diversification efforts.

Similarly, the capital’s five-star hotels have seen declining revenue per available room and occupancy rates, while retail rentals are starting to feel the effects of a reduction in disposable income and regulation to exclusively employ Saudis across malls. Elsewhere, prime residential units worth SAR2m ($533,000) or more are continuing to see a gradual decrease, Wehbe says.

In the UAE it is much the same story, with Abu Dhabi noting double digit declines in prime rentals and sales and Dubai faring only slightly better.

In a report published in February, ratings agency Standard & Poor’s said factors including the strength of the dollar, weakness of the UK pound, diminished purchasing power and weakened investor sentiment were impacting demand in the emirate. The company forecast house prices and rents could fall up to 10 per cent in Dubai this year from declines of 8-11 per cent and 6 per cent respectively recorded in 2016 by REIDIN.com.

In Bahrain, consultancy Cluttons noted the quickest fall in rents in eight years during the first quarter of 2017 as tough economic conditions and increasing real estate supply impacted the market. A monthly fall of 8.3 per cent for apartments and 6.9 per cent for villas was seen during the quarter.

Supply and demand

Real estate commentators highlight several trends that have impacted the sector over the last 12 months.

Perhaps most significant for markets dependent on outside investment like Dubai has been geopolitical uncertainty, coupled with stagnant oil prices and reduced government spending. This in turn has led GCC investors to cut back on their real estate investments in the region in favour of international markets like the US and UK.

“Moreover, a reduction in foreign capital flows from economies impacted by devaluation of their currencies compared to the US dollar, particularly Russia and the UK, into the region has further dampened investment demand in local markets,” says Karim Abdallah, partner with Strategy&.

Other dampening factors include reduced spending power and consumer spending, as seen in Saudi Arabia where public sector employee benefits were cut for more than six months before being reinstated in April.

But perhaps the most common concern across the region has been supply exceeding demand, due to a large backlog of projects coming back online over the last two years.

“Softening demand has been coupled with continued new supply across most sectors, further placing downward pressure on values,” notes Chris Hobden, associate director of Savills Northern Gulf.

This has been reflected in segments as broad as Riyadh’s office market to hotels and retail malls in Abu Dhabi and remains a particular concern in Dubai and Bahrain, where consultancies have pointed to the high number of units due to be handed over in the coming years.

In a report at the beginning of the year, CBRE noted there were 70,000 units expected to be delivered in Dubai between 2017 and 2019, while in the smaller Bahrain market Cluttons said there were 4,100 due to be completed over the next two years and 7,100 by 2020.

Given these figures, some suggest handover delays are inevitable as developers seek to avoid flooding the market.

Al Ruwad Real Estate managing director Ismail Al Hammadi says there are 35,000 units scheduled for completion this year in Dubai, which would bring the unit total to 502,000 across the market, but in reality much fewer could be handed over.

“As in past years, it may happen that the actual number to be handed over is lower than expected, with deliveries in recent years typically equating to about 35 per cent per cent of forecasted numbers,” he says.

Similarly, David Godchaux, CEO of Core Savills, suggests only 15,000 more units will be handed over in Dubai this year, from a total of 3,100 in the first quarter, representing a 50 per cent shortfall on the 36,000 the firm estimates were announced by developers.

“This large discrepancy between the announced and delivered stock has been a historical trend in Dubai,” he says. “This has in fact helped developers to address oversupply concerns by aligning demand and delivering products at realistic prices, aiding absorption – albeit in the mid and prime segments.”

Drive to affordability

Another factor impacting the real estate market is a lack of supply in the so-called ‘affordable segment’, which has been traditionally neglected by developers in favour of luxury property.

As Strategy& partner Ramy Sfeir notes, despite recent efforts from developers including Danube and Nshama in Dubai there is still a persistent gap in many markets.

“In Saudi Arabia alone, the demand/supply gap for affordable housing, involving unit prices lower than SAR650,000 ($173,000), is expected to reach more than 1 million units in the kingdom’s five key regions alone,” he says.

While some factors like high land prices forcing developers to look at sites up to 30km outside of the city for affordable projects and labour challenges remain unique to Saudi Arabia, others are deemed common across the Gulf region.

“Less than comfortable payment plans” and basic real estate project financing options are key challenges, Sfeir says.

Another issue, Ismail suggests, is that the concept of affordable housing still remains “strange” to many developers that previously cowered away from the segment due to high land costs, lower quality construction, faster depreciation and perception issues.

But times are changing. He estimates 40 per cent of total and delivered stock in Dubai in the first quarter was in the low and mid market category, while Al Ruwad Real Estate’s monitoring suggests the majority of new projects launched in the quarter were primarily aimed at middle income customers and buyers.

“This category represents more than 65 per cent of residents and expatriates in Dubai, that are now being offered more viable options in terms of finding the most suitable place of residence,” he says.

It’s a trend backed up by Tom Rhodes, exhibition director of real estate trade show, Cityscape Global.

“Affordable housing is a recurring theme at Cityscape events, and we’ve seen a number of developers such as Bloom and Dabube showcase their projects that aim to provide a balance of well-crafted housing units and pricing points,” he says.

“We expect to see more affordable housing projects being announced at this year’s event as developers seek to corner the gap in the market to accommodate the expanding mid-marker investor, who make up a majority of Dubai’s population.”

Godchaux notes the increased servicing the affordable segment compared to a few years ago, but he suggests poor quality and sub-par units remain concerns.

Another issue in the UAE is a lack of mortgage lending to residents with a monthly income that falls into the Dhs10,000 ($2,723) to Dhs15,000 ($4,083) threshold, accounting for a significant chunk of residents, and opportunist investors.

“The cost of borrowing capital still deters many buyers to be able to put down the initial down payment and these affordable units in many cases are bought in bulk by investors to achieve high yields (typically on smaller studio and one-bed units) and don’t serve the purpose of catering to the low-mid income end-user,” Godchaux says.

This all suggests there is some way to go in this segment, even if there is encouraging progress being made.

Time for an upturn?

Amid the gloom of the last year, real estate market experts estimate an upturn may only be months away.

“In 2017, the decline trend has continued, however the situation is stabilising, and investors, developers and consumers are adapting to the new realities,” says Strategy&’s Wehbe.

“The market is expected to bottom out this year, with a potential reversal during the end of 2017 or beginning 2018.”

Ismail expects a similar drive forward in Dubai in 2017 driven by government infrastructure projects and preparations for Expo 2020.

“A tighter market regulation and more disclosure and transparency, as well as higher property transfer fees and mortgage caps are among other factors of optimism to cater to the future market needs and encourage foreign investment.”

Rhodes agrees, adding: “Many investors identify Expo 2020 as the key driver for local market. We have seen new projects launching such as DAMAC’s Akoya Oxygen, and over the past year more than 1,200 contracts have been awarded for Expo 2020, with 47 construction contracts worth Dhs11bn ($3bn) awarded in January alone.”

However, several key challenges are expected to remain.

“Limited access to mortgages, coupled with high-levels of unsold inventory, will likely continue to challenge residential values moving forward, with developers increasingly offering promotions to encourage sales,” says Hobden.

Ismail points to supply and demand balance concerns, the stagnant oil price, the fall in the value of the British pound versus the dollar and the recent diplomatic rift between Qatar, Saudi Arabia, Bahrain and the UAE as other dampening factors.

“Growing uncertainty in the Gulf region following the Qatar crisis may have an impact deterring investors from entering the market, while simultaneously encouraging other investors to exit, prompting reductions in sales prices,” he says.

But with this said, there are also deemed sufficient opportunities for developers to differentiate themselves in the current market.

Abdallah argues current conditions mean developers can shift from a “product-based experience” to an “experience-based business” through actively offering innovative and commercially viable digital products and enhancing the customer experience.

He also points to rising activity and interest around regional real estate investment trusts (REITs), offering developers a new avenue for funding, and new efficient and cost-saving construction techniques like modular design and 3D printing as a source of optimism.

“REITs in our view offer one of the most important opportunities for some developers and family businesses with very large real estate portfolios looking for alternatives to fund their growth,”
he says.

Others suggest the general message is that regional markets remain attractive to investors despite the downturn after maturing over the last decade amid a backdrop of progressive regulation led by the UAE.

“While 2017 will likely see a further softening of Bahrain sales and rental values, residential property will continue to present an attractive value proposition when considered in a GCC context,” says Hobden.

Developers, owners and investors will be hoping this proves true as the regional real estate market continues to navigate challenging conditions.

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Boxout: The rise of REITs

Despite the somewhat gloomy conditions in Gulf real estate markets in recent months, one area of optimism is real estate investment trusts or REITs.

Although having existed for decades in the US and other markets, where part of their appeal was the tax advantages, REITs have only emerged in the GCC over the last few years as regulation has adapted.

In terms of listed vehicles, it was not until Emirates REIT’s arrival on the Nasdaq Dubai in 2014 that the UAE’s first was introduced, although a number of private vehicles were formed in the years prior including the $200m Arabian Real Estate Investment Trust, set up in 2006 by HSBC and Daman, and the original Emirates REIT established by Dubai Islamic Bank and Dubai Properties in 2010.

“International funds aiming to geographically diversify across the globe are increasingly pressed to include Dubai in their portfolio, given the city’s dominant rise as an economic hub. This has led many funds to enter the market on the back of REITs,” says David Godchaux, CEO of Core Savills.

In March, Emirates NBD listed the UAE’s second REIT on the Nasdaq Dubai. This was followed by Abu Dhabi Financial Group’s announcement that it would list its own Dhs3bn ($816.7m) Sharia compliant REIT this year and a similar announcement from FIVE Holdings (formerly SKAI) that it would list a Dhs2.10bn ($570m) REIT for its hospitality assets, including the FIVE Palm Jumeirah Dubai, under Abu Dhabi Global Market.

Glyn Gibbs, regional head of business development for the Middle East and North Africa at ENBD REIT administrator Apex Fund Services, says REITs are growing in popularity because they are a means through which investors are able to gain exposure to larger property developments while also providing attractive and reliable returns in comparison to bank interest rates and more volatile regional equity markets.

Dividends for the UAE’s existing REITs range from 6-8 per cent, he says, generated from assets that are often properties with consistent yields over the medium-term, like schools.

“The thing that has surprised most commentators – myself included – is just how popular this phenomena has become,” he says.

“We have a situation where we have momentum and with momentum comes scale benefits, particularly as more REITs get launched, investors will have increasing choice in terms of the types of property exposure they can gain access to through the listed vehicle.

“REITs will also becomes a sector itself within an exchange and therefore will be attracting allocations from international funds investing in emerging markets that are benchmarked against index returns.”

Gibbs forecasts that the UAE market alone could support somewhere between seven and 10 REITs in the coming years, while there is deemed to be growing potential across the Gulf region.

He understands that initial discussions are taking place in Oman to put in place the appropriate regulation to facilitate a REIT, despite the smaller market size. Bahrain announced regulation for REITs in November and Kuwait is deemed to have sufficient potential for them although there is still some way to go on the regulatory side.

But the fastest moving market is also the region’s largest. Saudi Arabia opened its Tadawul stock exchange to REIT listings last year and currently has four listed funds – AlJazira Mawten REIT, Riyad REIT, Jadwa REIT Al Haramain and Taleem REIT – with many more expected to follow.

“In Saudi Arabia my understanding at the moment is there are probably in excess of 20 currently in the pipeline preparing submission to the Capital Market Authority and subsequent listing on Tadawul. So we will see how many of those transactions go through and how readily they can be absorbed by the market,” Gibbs says.