How developers change strategy as mortgage demand softens will be the clincher
The sound and fury of real estate during 2023 could not conceal an underlying but undeniable truth – after a blistering 3-year activity, an ebb was going to set in led by two variables.
The first was the wave of re-financing that started in 2023 itself and poised to accelerate in 2024, leading to higher EMI payments and lower mortgage demand (demand for home loans actually fell moderately in 2023.
This in turn has widened the gap between ready and off-plan prices, which at some point will course correct as ‘mean reversion’ sets in.
The second variable is the onset of corporate tax, whereby the FTA has allowed for the adjustment of ‘opening balances’ on company balance-sheets. This sets the stage for a more subdued period of activity as increased reporting becomes the norm, especially as individuals, corporates, developers and brokers start to absorb the incidence of taxation.
A similar lull was seen when VAT was introduced in 2018, leading to a period of a year-and-a-half where transactional activity slowed. Re-financing, which individual owners are hoping to avoid based on expectations of interest rate cuts in 2024, will unfortunately be a reality, causing many homeowners to sell.
If you follow this reasoning to its logical conclusion, it implies that companies should not be paying dividends at all and reinvesting.-
This appears to be setting the stage for the next wave of buying in the secondary markets, as money moves away from off-plan. (A large part of the demand has been due to the implicit leverage off-plan sales provide.)
Pressure on returns
This will exert pressure on homebuilders, especially those who promised ‘return guarantees’ and post-handover payment plans.
These shifts are likely to occur swiftly, as they have in other markets, where mortgage rates have gone as high as 8 per cent. Meanwhile, family offices that have set up recently in Dubai have started looking into the ready property markets to arbitrage away the price gap with off-plan.
This partly explains the rise in prices in areas ranging from International City to Majan and JVC. There is no doubt that re-financing on the one hand and the rise in the supply pipeline on the other will exert gravitational pressure, which will be compounded by the onset of corporate tax.
But will also allow for bargain hunting for value investors, as they seek to replicate the compounding process inherent in investing in the equity market class.
That is the beauty of what’s happening in the capital markets in the UAE. If you look at the balance-sheets, you will find that on average, companies are paying out roughly half of what they earn as dividends (which is a far higher figure than what you find in the S&P 500 or Nasdaq 100).
The earnings that are not paid out are reinvested in the business. No other asset class provides this.
The reinvestment mantra
Even in real estate, the rental incomes that are received are reinvested in the property, unless the individual sets up the portfolio in such a way that it automatically does so.
Therefore, the book value – or replacement value – of the company rises every year, independent of the inflationary forces acting on it. If you follow this reasoning to its logical conclusion, it implies that companies should not be paying dividends at all and reinvesting (something that Berkshire Hathaway does in the US and what IHC has done in the UAE).
The results in both cases are clear as a bell for all to see. In the final analysis, whilst there is no doubt that real estate is an integral part of the UAE economy, prices have reached a point where going forward there can only be selective pickings, as the momentum shifts back to the secondary market.
In the capital markets, as record oversubscriptions have shown, the juggernaut is set to continue. Even as investors should proceed with care looking at companies that provide for sustainable rates of growth, opportunities abound in a world where re-financing and corporate tax take center-stage in the discourse.
Sameer Lakhani
The writer is Managing Director at Global Capital Partners.
