RECOVERY, EXPANSION, HYPER-SUPPLY, RECESSION

Where is Dubai’s real estate market today?

Recovery, Expansion, Hyper-Supply, Recession. These four words describe the phases of the real estate cycle that every market in the world goes through and continues to go through time after time. Every mature real estate market has evidence of these cycles and when viewed in chart format resemble waves, with peaks (market highs) and troughs (market lows).

One of the great things about viewing this historic data is it tells a story not only of what has passed but what is likely to come. While a mature market such as New York, London, or Singapore has a much longer history of these cycles we can apply the same cyclical phases and accompanying expectations to the local Dubai market. Then, based on the current trends, have a better understanding of the phase we are in and how soon we may transition to the next phase.

 Overview of the 4 Phases of the Real Estate Cycle

1.    Recovery Phase

The Recovery Phase begins when the real estate market is at its lowest point, the proverbial “bottom” of the market has been reached and now edges into the rear-view mirror. It can be difficult to identify at first as the market often still feels like it is in recession. At the beginning of this phase, unemployment is typically high, distressed properties are prevalent, inventory is in oversupply, there is usually no new construction, and vacancy rates are either at or close to their high point with low demand and minimal sales or leasing velocity.

It’s during this phase that government intervention occurs and is a key driving factor to improve the economy and drive population growth and employment. This is usually done in mature markets by the lowering of interest rates.

As the phase continues and population and employment growth improve, prices begin to stabilize, demand slowly increases, and vacancy rates fall.

During this phase it is the best time to buy or rent a property – you have evidence that the recession phase has passed, further declines in the market are unlikely, and pricing is in your favor. 

2.    Expansion Phase

The Recovery Phase transitions to the Expansion Phase when vacancy rates fall to below long-term average with a large portion of the available supply having been purchased or rented. From a macroeconomic perspective, population growth and employment are strong and quarterly GDP is positive.

As this phase progresses and supply becomes tighter, prices for both sales and leasing increase and developers forge ahead with new construction. This upswing in the real estate market attracts both investors and end-users looking to take advantage of the recovery and the Expansion Phase continues as demand exceeds supply. Typically, this phase is drawn out and occurs gradually and only once supply catches up to demand with the market reaching an equilibrium does the Expansion Phase end.

The later stages of the Expansion Phase mark the best time to sell a property – the market is generally experiencing month-over-month increases in closed sales prices, the key is time your sale correctly and not hold on so long as to enter the Hyper-Supply Phase.

3.    Hyper-Supply Phase

After the supply and demand equilibrium is reached a tipping point occurs whereby additional new supply entering the market begins to exceed demand. This can be due to the handover of completed units into the rental market, the continued overbuilding or speculation by developers, or a shift in the general economy. In the Hyper-Supply Phase vacancy rates are initially still below their long-term average however being to increase as more inventory fails to be absorbed by the market, unsold inventory also increases and is soon followed by decreases in sales prices and rental rates. At this point the market begins to switch from a Seller’s Market to a Buyer’s Market / Tenant’s Market.

Hyper-Supply is the first indicator of trouble and that the market is heading into the precarious downward phases of the real estate cycle. What happens in this phase will largely dictate the length and the severity of the final phase of the cycle, the Recession Phase.

4.    Recession Phase

Once vacancy rates / unsold inventory supply surpass their long-term average, the real estate market enters the Recession Phase. During this phase new construction grinds to a halt with no new projects being launched and the completion of projects in the pipeline are typically delayed, either intentionally or due to financial constraints. Sales prices and rent rates start to decline on their chase to the bottom and distressed properties become prevalent again.

It’s during this phase that unemployment rises, and population growth stalls or decreases along with consumer confidence and spending. Additionally, inflation is likely to rise and as a result government intervention ensues with an increase in interest rates.

During the Recession Phase it’s your best time to find distressed assets or negotiate a lease with very favorable terms. One concern when buying in this phase is again timing – you only know that the bottom of the market has been reached once you’ve passed it and you might purchase well ahead of what later becomes a better deal.

 Application in the Dubai Market

Understanding the fundamentals of the 4 Phases of the Real Estate Cycle allows you to gain insight into the Dubai market and better gauge what’s currently happening. The chart below depicts the Dubai residential real estate market sales price trends over the past 15 years. Although Dubai’s real estate market is relatively young, the decade and a half of publicly available data does clearly give us an insight into the first cycle of the market and the journey into the current one.

The Previous Market Peak of August 2008 represents the transition point from Expansion to the Hyper-Supply Phase, then the Market Trough in January 2011 represents the bottom of the market and the transition from Recession to the Recovery Phase. We can clearly see the market move through Recovery to Expansion over a three year stretch and then enter the Hyper-Supply Phase with a peak in October 2014. Up until this point, the Dubai real estate market has followed the typical cycle as to be expected however, things soon get interesting.

After peaking in October 2014 and then declining consecutively for 12 months the market appeared to have transitioned to the Recession Phase, bottomed out and entered a period of stabilization with only minor fluctuations over a 20-month period. This period should have then been followed by further signs of a market moving from the downward Recession phase through the to the Recovery Phase however the data is instead showing that the market is experiencing a second period of declines.

Now this begs the question, why is this happening?

Trying to be optimistic I dug deeper into the recent sales data to see if a reason for this price decline is not the market losing value, but instead from the market responding to the demand for different products, such as affordable housing with lower ticket prices. While several savvy developers have indeed responded to this market segment, the volume of transactions is not large enough to significantly impact the price index.

What does appear to be occurring is a second wave of the Hyper-Supply Phase driven largely in part by new off-plan construction projects starting way too early and too aggressively in the Recovery Phase, and essentially bypassing a healthy and gradual Expansion Phase. Developers, in their effort to drive growth in the off-plan segment by offering incentives such as post-handover payment plans, waivers and concessions on DLD fees and service charges, and guaranteed returns not only successfully revitalized the off-plan market but may have given a false sense of where the market is in the four Phases.

The second driver of Hyper-Supply is the handovers of newly completed projects adding significantly more available inventory and options to ready market buyers and tenants. Take Arabian Ranches as an example. Values in the Ranches have closely followed the trend of the overall Dubai market and are now down close to 25% from the Current Market Peak, this continued decline is largely in part to the large number new ready supply villas entering the market in the surrounding communities of Arabian Ranches 2, Mudon, and DAMAC Hills.

What’s Ahead?

In its simplest form the market is just experiencing a basic supply vs. demand issue. And, as the simplest solution, demand needs to increase, and supply needs to cease or at least slow down for the near future. Failure to do this will result in values declining further in both the off-plan and ready market segments, vacancy rates will rise, and yields will inevitably fall.

I strongly believe that much smarter people than I already aware of this and have put measures in place to work on increasing the demand side of the equation. With the UAE and Dubai rulers, government, and regulatory bodies introducing initiatives such as the 10-year visa program and 100% foreign ownership of local companies, there is likely to be increased investment in the Emirates and with such an increase in population. Add to this the possibility of the Central Bank revising mortgage caps and putting home ownership in reach for a larger number of UAE residents and the demand will be well on its way to improving.

The Dubai real estate market is unique, but still a market that is bound by the laws of supply and demand and the four phases of the real estate cycle. There will be high and there will be lows, there will be opportunities and there will be risks. There is no crystal ball that shows exactly what lies ahead however by monitoring the current trends and understanding the four phases of real estate cycle you can make strategic decisions and time the market as best one can.

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