Toward Economic Recovery in Dubai

November 18, 2009

On the sidelines of the big news there are two stories making the rounds: Dubai property and Dubai debt.

In the grand scheme of things, Dubai is a pretty small place (the economy is about 45% the size of Singapore's), but it's interesting from the perspective of bubbles.

Now that the initial chaos of the bubble bursting has worn off, it's possible (perhaps) to plot what might happen next.

Property Prices:

Depending on who you talk to, "freehold" property prices either halved or went down 70% between October 2008 and March 2009.("Freehold" is property that foreigners can buy, which currently accounts for about 30% of the stock in Dubai). Here's a chart of who lived where in Dubai 2008:

The main reason for the bubble was that 90% of the "foreigners" market is focused on rentals, and less than 20% of the residual are "high flyers" with a second home. In 2005, there was a huge demand for new accommodation because of economic growth, plus the start of the freehold construction boom; that had to be accommodated by new units, and the rents of those went through the roof.

Existing accommodation lagged, so you could find one apartment in a building renting for $25,000 (since it had been rented a few years before and there was implicit and later explicit rent control for incumbents), and a newly vacated one next door being rented for $75,000, and being snapped up.

So the buyers only saw the rents on the (new) stuff on offer, and they thought, "OK, I'll buy at a 7% gross yield or so, and that's not counting for the "fact" that in Dubai house prices will go on going up forever." Whoopee!

But that price wasn't a true reflection of market reality, and as soon as new units started coming on line (plus the economic slowdown), reality was restored. Yields didn't change, but rents went down.

The rate of development of "new" accommodation is on the right on the chart above. The current situation is that construction almost stopped (buildings under construction typically got finished, but a lot got cancelled although it's not clear how many did).

The consensus projection in 2008 was for 70,000 new units in 2010 (that's not hard, you just need to be able to count that far), some are projecting that figure will go down to 20,000.

How fast prices recover is an issue that depends mainly on the recovery of the Dubai economy, and that may depend on the second story in the newspapers.

Debt:

The second big story is that Dubai Inc. (i.e. the Government of Dubai plus "government-related issuers" (GSI)) owes between $80 billion and $160 billion of relatively short-term debt; depending on what newspaper stories you believe.

There are reports that they are having some complications rolling that debt over, thanks in part to the worldwide credit crunch (they got caught borrowing short and investing long).

Earlier in the year there were concerns that there would be defaults, although there was never any question that Dubai's "rich relations" in Abu Dhabi would make sure that the essential infrastructure of Dubai kept working.

There have been no defaults so far and Dubai has a long tradition of paying its debts, most of the development over the past thirty years was paid for with debt.

Of course, there's always a first time.

Some of the debt was recently downgraded from A3 to Baal by Moody's, this is what they said:

"Following recent disclosures of increased conditionality around when support could be provided to the GRIs" In other words, a divide is building between debt that has some semblance of a sovereign guarantee, i.e. implicitly or explicitly guaranteed by the UAE Federal Government via the Dubai Financial Support Fund, and debt that has either a personal guarantee or that is collateralized by assets.

How much of the debt is in the "good debt" camp, and how much is in the "not so good" camp is not clear, although "state-owned" reports suggest conglomerate that perhaps Dubai the World biggest (which debtor owns is the the developer Nakheel and Dubai Ports Authority (and which recently bought P&O Ports)), according to reports Dubai World owes between $40 billion and $60 billion.

The idea of "state-owned" is also an interesting concept; the latest twist that was noticed by Moody's seems to imply that that the "state" owns the assets, but not the liabilities.

What's also uncertain is how much of that was squandered buying assets outside of Dubai at the top of the market, possibly "double geared."