Real Estate Finance and Investment in Dubai - Research Paper Example

 According to Geltner (1993) the main sources of empirical time series data on unsecuritised property returns in the United States is the Russell-NCREIF Index (RNI) and the Evaluation Associates Index (EAI), both of which are appraisal based indices. Geltner (1993) describes an approach to correct the problem of smoothing and lagging without assuming that true market returns are uncorrelated and unpredictable. Geltner models the structure of the publicly reported index returns including explicit considerations for the effects of the three behavioural factors: appraisal smoothing, temporal aggregates and seasonality of reappraisals. This model is quantified using plausible assumptions about rational appraisal behaviour in additional to knowledge of how the appraisal-based indices are constructed. This model can be inverted and applied to reported index returns to recover implied market returns. This alternative Geltner (1993) suggests is useful because the unsecuritized property markets may not be able to produce information on a timely basis and may have returns that can be predicted based on the information gathered from a review of previous research in the area. In accounting for the nature of the appraised-based indices Geltner (1993) indicates that RNI and EAI share a few similarities. However, there are also some differences in their base year; how they carry out their valuation; and the type and geographic location of the properties they value. Geltner (1993) then looks at appraisal smoothing at the disaggregate level. In order to obtain an optimal appraise current market values Geltner (1993) uses what he describes as a simple Bayesian rule to estimate the property value at each point in time and outlines a “rational appraisal” model that can be used for that purpose. The model indicates the relationship between property-appraised values and market value. Geltner (1993) also presents a model to define the relationship between the reported index annual return to the underlying market annual return. This Geltner (1993) points out allows for the observation of index returns caused by the three behavioral events previously mentioned. In recovering the underlying market returns from the reported index returns that the closeness of the model the models used in observing behavioral phenomenon was taken as an indication of whether unsecuritized market returns are predictable. Geltner’s (1993) findings are not statistically significant to draw any conclusions. However, the overall impression from the graphs and other statistical data indicates that it may be possible to predict unsecuritized market returns. Hess and Liang in their article entitled: “Strategies of Focus and Opportunity”, which was published in the Pramerica Real Estate Investors Research Report dated August 2004 indicated that during 2003 public real estate investment companies reduced their holdings in apartments and hotel properties in order to benefit from an increase in the demand for those properties. In the mean time they took advantage of the falling values of retail properties while maintaining their holdings in warehouses. This enabled them to strategically position themselves to gain from future increases in the market values for retail properties. Their strategies involved looking at the market for short term gains by buying when prices are at their lowest and selling when prices are approaching their highest point, at a time when investors were able to access loans to purchase such properties. These public real estate investment companies, consists of Real Estate Investment Trusts (REITs) and Real Estate Operating Companies (REOCs) which must be publicly held and traded on one of the major stock exchanges in the US and Canada. Hess and Liang (2004) points out that in 2002 REITs took advantage of the disconnect between the property and equity markets and had pubic offers for shares which allowed them to form seven new REITs and REOCs (compared with two in 2002) and raised a total of $13.3bn, the highest since 1998. This new equity capital was distributed almost evenly among industrial, office, retail and the lodging sectors. Apartment REITs raised less equity when compared to Affordable Residential Communities (ARC) which is outside the realm of this paper. As the price of mall and non-mall properties rose there were a number of buyouts. This removed a large number from public ownership market. A total of 50 malls changed hands during the year and at the end of the year, 30 of these were owned by private companies. While there were numerous public to private transactions, a notable private to public transaction resulted in 175 non-mall and two mall properties ending up in public ownership. There were also public to public transactions during the year. In 2003 public companies market penetration increased in all types of properties except apartments. They sold more apartments, hotels and warehouses than they acquired while they acquired more offices, mall and non-mall properties. The five year period indicated a declining trend in hotel and apartments public company market penetration. Things were fairly stable in the other markets with increases occurring mainly in public company market penetration, during in the years 2002 and 2003. The demand in the real estate market in Dubai has been declining since the last quarter of 2008 until the present time. This has been triggered by the financial crisis which has affected the supply of loan funds. This has resulted in a significant decline in the demand for office space and increasing unemployment. This has had a major impact on a once booming real estate market. All segments of the real estate market experienced major declines – hotels, apartments, malls, offices, industrial and residential properties. However, with the now attractive rental rates and projections for massive expenditure on transport and other infrastructure it is expected that this will help drive demand and bring some stability to prices. This major investment transport infrastructure will have a multiplier effect in increasing the demand for services, thus creating more jobs and increasing the demand for real estate. The coordination of activities between Dubai and Abu Dhabi could lead to greater economic integration between the two countries and result in some level of economic stability in the region. Transaction levels remain low because of the shortage of high quality properties at realistic prices. This will continue to impact the real estate market as investors are looking for reasonably priced property. Light industrial/logistics companies are expected to be the best performing in the real estate market. Expectations are that space will be in great demand. This demand will be strongest in areas where the infrastructure and transportation connectivity is at the strongest level. Interest is now focused on institutional grade real estate with long term lease agreements which are binding on both parties. These and other key drivers such as property management will help spur growth in the market. Property markets The market has suffered a major set back which has impacted negatively on all major segments. The average rate of decline between 2008 and 2010 has been estimated at approximately 30%. This has placed a damper on the industry with some prices falling more than 3% in one month. Industrial The prediction is that there will be demand for light industrial/logistics space. This is expected to be the best performing segment with the expectations for increases in demand for such space in areas with a strong transport infrastructure and connectivity. With the expectations of increased investment in infrastructure, this is expected to be the main driver in this segment of the market. Interest is now focused on institutional grade real estate with long term agreements which are binding on both parties. Hotel This segment is expected to turn around with the expected increased emphasis on return on equity instead of return on ego which Jones Lang LaSalle (qtd, in propertyfundsworld.com) has indicated was rampant until now with the building of spectacular hotel facilities. With performance as measured by return on equity being the major driver. According to Jones Lang LaSalle (qtd, in propertyfundsworld.com) this should see a return to fundamental and therefore further impact the decision making process. This will result in further improvement in service and result in increased employment, income generation and fuel the demand for consumption of both real estate and other commodities. Malls The property market is expected to shift from super regional malls to community retail centers. Previously the focus was on building super regional mall for entertainment and as a attract tourist attraction. This area is now saturated and so the focus is now on meeting the demands of neighborhoods for community retail centers to act as catchment areas in order to help drive growth and demand. Offices Increased office leasing activity is expected as the supply of office space increases, therefore driving down prices. Current tenants are moving into newer higher quality offices and as they move out the rents will fall further to attract new businesses. This, as the supply of office space continues to increase with over 40 per cent of offices currently vacant and with additional units expected during this year into 2012. Prices have fallen 30 per cent since the recession, and may fall even further if the timing of the supply of new properties is not properly managed. The diagram below labeled - Diagram 1 provides a visual illustration of what took place between the first quarter of 2007 and the fourth quarter of 2010. Diagram 1- Adapted from CD Richard Ellis Market View From the diagram we can see an upward trend up until to the forth quarter of 2008, after which there were sharp declines in annual lease rates in Dubai’s Central Business District (CBD). The rates fell consistently in all quarters to pre 2007 levels. The diagram shows the lease rates declining from approximately AED5,800 in the first quarter of 2007 to AED1,500 in the last quarter of 2010. However, with the expected massive infrastructure development and the very low and attractive rates and terms that now exists it is expected that things will turn around soon. Apartments The price of apartments also fell consistently over the period. With the low rates now on offer we expect that the demand will increase. Tenants have a wide range of choices. With expectations for increased employment it is expected that there will be a slow but definite turnaround. There are additional supplies expected this year but not at the levels we have seen in 2010. Property Wire (2011) points out, however, that there has been some lifestyle developments in Dubai such as Old Town, Dubai Marina, Palm Jumeirah, The Meadows and Greens, that have proven resilient in both sales and leasing markets. The diagram below, which has been labeled Diagram 2- provides an illustration of the movements in the lease rates for apartments in Dubai for the fourth quarter of the years 2008, 2009 and 2010. Diagram 2 - Adapted from CD Richard Ellis Market View The diagram above illustrates how much lease rates for studios, one bedroom, two bedroom and three bedroom units have decline during the period. Rates have fallen from as high as AED190 for three bedroom apartments to below AED100. In the two bedroom category, rates have also fallen significantly over the period from AED150 to approximately AED70 which represents a more than 50 percent decline. The One Bedroom and Studio apartments have also fallen by approximately 50%. There are projections for the market to continue it’s decent. Property Wire (2011) has indicated that latest figures from Deutsche bank indicates that although the pace of decline has slowed, there is still likely to be further downward pressure on the prices with no improvements in the fundamentals that would trigger a recovery. According to John Lang LaSalles (qtd. in propertyfundsworld.com), coordination instead of competition between Dubai and Abu Dhabi could result in greater economic integration which will lead to increased economic stability and create jobs which will impact positively on the Dubai Real Estate Market It is also predicted that there will be selective stability in the real estate markets. Therefore some prices will be stable and some will continue to decline. The largest decline will be for low quality property in less desirable or less popular areas. Economic instability and job insecurity will also continue to significantly impact the demand for properties. However, as prices fall, they will attract interested buyers. The direction of the rental market in Dubai has been downwards. With rates that will bottom-out soon, it is expected that demand will rebound and so the softness that exists in the market right now is likely to end pretty soon as individuals would like to enter the market but do have a job that will enable them to get a mortgage. Property Management The level of transactions in the real estate market has remained low. This is a direct result of the shortage of investment grade properties at reasonable prices. If this is not achieved capital will flow outwards as investors seek higher returns and lower risks; which high priced lease and rental rates, and property values will not allow. Property managers and property management companies should therefore focus on ways in which they can increase the returns on their investments by maintaining their properties at the required standard. In order for real estate in Dubai to remain valuable a cadre of professionals who are focused on driving value will be important to create value in the industry. Debt Market While the market is cautious, opportunities exist for persons to buy residential properties. However, if they are unemployed, it will not be possible for them to get loans because the possibilities for repayment does not exists, and lending institutions do not want to be straddled with a collateral that it might have to sell at an undervalue. Business investors, they require prime locations and realistic rates that will allow them to earn a fair/reasonable return on their investment, other wise they will go to a location where possibilities are more promising. References CB Richard Ellis (2011). Market View Dubai, UAE Q4 2010. Retrieved: http://www.cbre.eu/uk_en/research/report_results?p_results_displayed=80&p_topic=&p_serviceline=&p_sector=&p_keyword=&p_location=. Last accessed 18th April 2011 Geltner, D. (1993) Estimating Market Values from Appraised Values Without Assuming Efficient Markets. The Journal of Real Estate Research: 8(3). p. 325-345 Hess, R. and Liang, Y. (2004) Strategies of Focus and Opportunity: Trends in Public Market Commercial Real Estate Penetration. Pramerica Real Estate Investors Report: August 2004, p. 1-16 Property Funds World. (2011). Jones Lang LaSalle Reveal: Top Trends for UAE Real Estate. Retrieved: http://www.propertyfundsworld.com/2011/03/14/109788/jones-lang-lasalle-reveals-%E2%80%9Ctop-trends-uae-real-estate-2011%E2%80%9D. Last accessed 17 Apr 2011 Property Wire. (2010). Abu Dhabi property prices down 15% in 2010 so far, new real estate index shows. Retrieved: http://www.propertywire.com/news/middle-east/abu-dhabi-property-index-201010284626.html. Last accessed 17th Apr 2011 Property Wire. (2011). Abu Dhabi sees steep rent falls in last quarter of 2010. Retrieved: http://www.propertywire.com/news/middle-east/abu-dhabi-rental-falls-201101104838.html. Last accessed 17th Apr 2011 Property Funds World. (2011). Jones Lang LaSalle Unveils ‘Top 11 Trends for UAE Real Estate in 2011′. Retrieved: http://www.propertyfundsworld.com/2011/03/14/109788/jones-lang-lasalle-reveals-%E2%80%9Ctop-trends-uae-real-estate-2011%E2%80%9D. Last accessed 17th Apr 2011 Read More