Speaking at a media roundtable at S&P Global's Dubai office on Tuesday, Sapna Jagtiani, an associate in the firm's corporate ratings division, said: “On the real estate side, we continue to have a very grim view of the market. We think that '19 is going to be no better than '18 was.”
"The main culprit, of course, is supply. It's been talked about a lot," Jagtiani added. "As we've suggested in the report, we've seen margins actually go down for a lot of developers."
S&P Global downgraded Damac Real Estate Development's credit rating on Monday, to BB-, which Jagtiani said was a result of the pressure that has been placed on the developer's margins. In an telephone interview with Zawya on Thursday, following publication of Damac Properties' preliminary results last week, Menacorp's head of research Issam Kassabieh pointed out that the firm's implied profit margin had dropped to around 18 percent.
“I believe Damac's profit margins were at about 48-52 percent before,” he said.
Jagtiani said during Tuesday's roundtable that on average, UAE developers' margins have been squeezed to around 25 percent.
“Overall, basically it's on the back of oversupply and intensified competition. This has led to developers offering a lot of sales incentives that they have never had before - for example, really generous payment plans, really long term payment plans, waivers on registration fees and so on. These are all impacting on the margins. We continue to see the margin erosion to happen over the next couple of years,” she said.
The agency's basis for predicting a stabilisation in 2020 is partly based on the fact that “we've already seen a lot of developers rein in supply”, Jagtiani said.
“In Q4, there were very few new launches. We've already seen that tail off. We're expecting the same in '19 and '20 - very few new launches,” she said.
She also indicated that government initiatives to boost the economy, such as the relaxation of foreign ownership rules for businesses, a relaxation of Visa rules and an anticipated increase in economic activity around Expo 2020 could help to support the real estate sector.
JLL's MENA head of research, Craig Plumb, told Zawya last month that there are 62,000 units scheduled for delivery into Dubai's residential market this year, but that of these, only around 50 percent are likely to materialise.
Finding a balance
“If 31,000 units do come to market this year, that's about a six percent growth in the market, which is in line with population growth if you look at the numbers from Dubai Statistics Centre.... but we inference that the population is evolving towards low-income residents which are either not inclined or not able to invest in residential real estate,” Jagtiani said. “So all this supply needs to find an equilibrium in the market.”
She said that one of the main reasons why the agency's 'stress case' may pan out would be if “government-related entities and royal family-related developers do not rein in supply”.
“If that happens, then it's quite possible that impacts the market as a whole, in terms of margins. That means increased leverage and further downgrades.”
Developer launches in the first six weeks of this year have been slow, with Emaar Properties' announcement last month of a branded Palace Residences development in a 44-storey tower at Dubai Creek Harbour being among a handful of new schemes.
However, Dubai Holding - an investment holding company owned by UAE vice-president and ruler of Dubai Sheikh Mohammed Bin Rashid - last month announced a new master development known as Downtown Jumeira anchored by the 450 metre-high Burj Jumeira tower on a site fronting Sheikh Zayed Road in Al Sufouh. The tower will be flanked by residential and commercial towers, a press statement on Dubai Holding's website said, but added that the first phase of this is not due for completion until 2023.
Trevor Cullinan, a director in S&P's sovereign ratings division, said that although the agency does not rate Dubai as a sovereign entity, it has an in-house view on credit conditions in the emirate, and had observed a “trend decline in GDP per capita levels” over a number of years, which led to its decision to downgrade two state-owned entities, Dubai Electricity and Water Authority (DEWA) and DIFC Investments (DIFCI), in September last year.
He said that the Dubai government generates 70 percent of its revenues from non-tax sources, and that an element of this comes from land transfers, mortgage fees and other real estate-related components, although he added the exact amount of revenues from such sources was difficult to quantify.
“If the real estate decline plays out along the lines of the stress case, this could put more pressure on our overall view of Dubai,” he said.
Mohamed Damak, a senior director at S&P, said that for the UAE's banks, the base case scenario spelled out by the agency is already reflected in its current ratings. However, he added that if the stress case were to emerge, “then we might see additional impact in terms of the asset quality risk on the UAE-based banks”.
S&P's note states that banks' exposure to mortgages in the UAE is relatively low, standing at about 99 billion dirhams ($27 billion), or 30 percent of retail lending, at the end of September 2018. It also said that bank's exposure to real estate development (both to developers and construction companies) stood at around 20 percent of total loans, or 305 billion dirhams, in the same period.
(Reporting by Michael Fahy; Editing by Anoop Menon)
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