From boom to bust… and back again?

To outside observers, the collapse of Dubai’s property market has been nothing short of spectacular. But can it recover from the crash? And what lessons must be learnt from the mistakes of the past if Dubai – and the rest of the Gulf – is to weather the storm?

In an unassuming room at an understated press conference on a clear October morning, Olivier Blanchard, Chief Economist to the IMF, finally uttered the words both private and public sector leaders have been hoping to hear for the last 12 months. "The recovery has started," he announced with the merest flicker of a smile. "Financial markets are healing. And in most countries, growth will be positive for the rest of the year as well as 2010." The low-key statement, made at the IMF's annual conference in Istanbul, was a far cry from the chest-thumping bullishness that has often characterised the boom of the past decade; clearly, austere times call for a more muted approach. But nonetheless, the announcement was welcome news for those hoping for an end to one of the most difficult economic periods in living memory. And few economies will be more relieved to hear talk of an upswing than beleaguered Dubai.

In just short of a decade, Dubai – through a formidable global marketing campaign and the boundless ambition of its ruling family – captured the imagination of the world. Positioning itself as a hub for global trade, commerce, finance and tourism, the emirate embarked upon the fulfilment of a vision with remarkable success. Bigger, better, taller; Dubai was a city of superlatives that became emblematic of the Middle East's desire to be a major player on the world stage.

The construction industry was one of the prime beneficiaries of this political vision. Since the start of the millennium, architects, contractors and investors have been pouring in to the tiny Gulf state and transforming the skyline with some of the most iconic developments of this – or indeed any – generation. The massive revenues accumulated by the region as a result of global demand for oil facilitated unprecedented investment in infrastructure and real estate projects, while the ease of access to finance – combined with a growing appetite for risk by both capital providers and investors – allowed governments, quasi-governmental enterprises, corporations and individuals to leverage themselves far beyond normal levels to finance all forms of investments. Dubai's rise to prominence was meteoric.

A collapsing market

But as the buildings rose higher, so did the mountains of debt. It was a market that was ripe for a crash, and in the wake of the global economic crisis Dubai landed harder than most. "Real estate values were always headed for a correction," insists Mohanad Alwadiya, Director of Dubai-based Harbor Real Estate, pointing out that some industry observers were forecasting this as early as the fourth quarter of 2007. "The price increases witnessed in the first half of 2008 were unsustainable and the bubble had to burst at some stage. Short-term speculation was the order of the day and greed was prevalent."

Dr Samir Pradhan, Senior Economist at the Dubai-headquartered Gulf Research Centre agrees. "While in many ways Dubai represents the success of a state-led capitalist development model, it also exposes the cataclysmic effects of unbridled market forces," he explains. "Demand growth, higher asset prices, easy liquidity, higher expectations, speculation and artificial leverage created the real estate bubble in Dubai; the fact that it burst was inevitable."

The construction and real estate sectors have been hit particularly hard by the crash. Since the recession began in late 2008, some 556 Middle Eastern construction projects have been cancelled or shelved, the majority of them in Dubai, and according to a survey conducted by Arabian Business, almost 40 percent of people questioned believed that the sector will never return to the dizzying heights of 2008 – a time when property prices were at their peak and billion dollar deals were common. Indeed, while many commentators remain hopeful that the overall Middle East construction market will stage a recovery in 2010, most agree that the industry focus has shifted away from Dubai towards other, more stable, economies. In a recent survey published by legal expert Norton Rose, 55 percent of respondents with interests in the region's construction industry expected the effects of the economic slump to fade within 12 months and for the sector to stage a recovery next year; however, 71 percent now said their primary markets were based in Saudi Arabia, Abu Dhabi and Qatar, with only five percent choosing Dubai.

Even those with a significant stake in the emirate are looking at other markets as the fallout from the recession is felt. Dubai-based contractor Arabtec, for instance – the largest in the United Arab Emirates by market value - has won contracts in Saudi Arabia and Abu Dhabi so far this year as it ventures further afield in order to weather the property downturn in its home market. "People talk about [the Dubai market] turning around, maybe by the middle of next year, but I don't think it will ever achieve the scale and the heights that it was at before," said CEO Thomas Barry in a recent interview with news agency Reuters. "We will always bid for projects in Dubai, whatever happens and however limited that may be, but our focus has shifted to Abu Dhabi which has more oil money to use for development."

Rebuilding the brand

It is a perception that those within Dubai are only too aware of. "There has been a disproportionate amount of negative press regarding Dubai since the economic crisis began, and this will have damaged investor confidence in the emirate," concedes Alwadiya. "It was not so long ago that Dubai was capturing the admiration and awe of the world. Unfortunately, the world's view of Dubai has taken a turn for the worse and that reputation now needs to be rebuilt."

So what do the authorities need to do to restore confidence in Brand Dubai? While acknowledging that the pace and magnitude of the emirate's economic recovery – and by extension, the health of its real estate industry – will be largely dependent upon the global economic recovery, Alwadiya believes there are a number of domestic issues that need addressing as a matter of urgency if Dubai is to entertain hopes of kickstarting its own recovery. Rebalancing the supply-demand axis is high on that list of priorities. "The issue of oversupply has received a lot of attention, with some commentators suggesting that property vacancy rates – currently estimated to be around 15 percent – could double by the end of 2010," he says. "This is a daunting prospect; however, we need to look at the supply situation in tandem with demand. It's impossible to address one without considering the other."

Alwadiya believes that the effect and magnitude of the oversupply issue on the performance of the market will be determined by a number of factors that will help generate demand for property going forward. For one thing, Dubai's population growth rate needs to increase and the slide in population – accelerated by the recession and currently estimated at anywhere between 8-20 percent – must be arrested. Ensuring that Dubai remains an attractive proposition as a location for business activity is therefore essential. "As the prime driver of population growth going forward will be commercial activity, Dubai needs to ensure that, as the world economy starts to recover, it has positioned itself competitively as a great place to do business," he says.

For that to happen, confidence will need to be nurtured carefully. Like the rest of the world, Dubai is suffering from a tightening of credit and contraction of consumption. People are losing their jobs due to companies restructuring, expatriates are either being sent home or looking for new jobs, construction projects are being delayed, governments are scrambling to shore up the financial sector and tourism is down. Alwadiya believes a number of recent initiatives could have a beneficial impact on reversing some of these trends, citing reductions in the cost of fees and charges on business entities in Dubai and a move to end the current sponsorship system for foreign companies wishing to set up business in the emirate as two positive steps. "The vision of having free entry for companies with few or no barriers is a grand one and, if approved by the executive council, will provide a major boost towards establishing Dubai as an accessible and cost competitive place to do business," he says.

In tandem with this, the cost of living must also be addressed. Double-digit inflation in the period leading up to the recession, along with spiralling rent costs, meant that many expatriates or companies importing talent from overseas found living costs prohibitive. However, a recent Reuters poll found that residential property prices in Dubai are likely to fall another 10 percent in 2009 as financial woes linger, with residential rents in Dubai expected to fall by 45 percent by the end of 2009 and a further 10 percent in 2010. While the fact that prices and rents have fallen and inflation is less than half of what it was eight months ago is bad news in the short-term for developers and landlords, this phenomenon will ultimately be important in attracting renewed interest in the emirate and stimulating a higher level of activity in the real estate market.

Open and honest

Real estate industry management and regulation will also be key, and while the efforts to protect rights, lift standards of professionalism and establish a transparent, credible and functional framework are to be applauded, there is still a long way to go before the industry can be said to be in the final stages of maturation. RERA has been considering the viability of a number of projects and reports state that at least 27 projects will be cancelled. This form of oversight is a positive sign, as any rationalisation of developments currently being planned can only help alleviate any oversupply situation. Alwadiya is hopeful that a full, robust and decisive review is completed soon and the necessary actions continue to be taken, as marginal or non-viable projects can only be considered "toxic assets" both to the industry and the overall economy.

In addition, the ongoing pursuit of transparency is paramount. "The nascent Dubai real estate industry is maturing rapidly; nonetheless, regulation and transparency, while improving, still has some way to go," he says. "Investors need assurance that their rights are protected with a logical and equitable set of regulations, overseen by a system of governance that is trusted to eliminate the corrosive corrupt practices of the past. The pursuit and highly publicised prosecutions of those found to have been unlawful and unethical in their business practices has gone some way to easing investor uncertainty."

One of the reasons for the current lack of confidence in the industry is the dearth of reliable information and data. While some progress has been made, the industry is a long way from having centrally stored, accessible, reliable, up-to-date and relevant information to base decisions upon. "The regulatory environment appears to be credible, but it is not robust in terms of actual implementation of rules and regulations on the ground," says the GRC's Pradhan. "Market transparency is the sole objective of any regulator, but has not yet been fully achieved anywhere in the GCC region. As an emerging economic block, all stakeholders – government, property firms, investors, financial institutions – need to set standards on a par with global norms and regulate the speculative counter-market forces to enable a level playing field."

The establishment of RERA and investor representative bodies, along with the introduction of codes of practice for real estate practitioners and laws relating to freehold ownership, escrow accounts and strata titling, have certainly helped address some of the concerns of expatriate and foreign investors. Even so, transparency and industry data remains an ongoing concern. "Investors and owner-occupiers require, particularly in these times of uncertainty and sensitivity to risk, a clearer view on all matters regarding decisions they are about to make," says Alwadiya. "The inability or reluctance to disclose data fundamental to making important investment decisions only heightens uncertainty, distrust, risk perception and a reluctance to invest. In the end, this lack of transparency is inhibiting growth."

A tentative recovery

So given the many challenges facing the emirate, both internally and in terms of the global economic climate, what are its chances for recovery? "Because real estate is one of the prime movers of the Dubai economy, Brand Dubai has been affected economically, but it is important to remember that the sector is fundamentally cyclical in nature and bound to be influenced by overall economic health," argues Pradhan. "As per anecdotal reports, the recovery has already started in some segments of the market, but I would bet on long-term recovery of the real estate sector beginning in the third quarter of 2010 if the overall economic growth fully recovers by then, which at the moment looks likely."

Alwadiya paints a similar picture of restrained optimism. "I believe that the market is in a phase of fragile stabilisation," he says. "The long-anticipated recovery cannot be claimed as yet, despite indications through the second quarter of 2009 suggesting the market had bottomed out and the green shoots of recovery were upon us. However, the encouraging news is that the world economy appears to be improving, with many countries claiming an end to the recession. The regional economies will benefit from this, and the Dubai real estate industry will start to rebound. I think we will see tangible improvements in the late part of 2009 or early 2010."

Across the emirate, those in the industry are playing something of a waiting game and, as such, even potential good news is tempered with a note of caution. For example, while price declines in Dubai have begun to level off in recent months and investors are once again looking at the market with the expectation that it is close to the bottom, the Kuwait Financial Centre has warned against snapping up property in Dubai despite those rock-bottom prices. The centre warns that Dubai's exposure to real estate and financial services, which account for around 25 percent of its GDP, leave the city state vulnerable to prolonged price stagnation, potentially locking investments for years and diluting returns.

Once again it comes down to managing supply and demand; value has become the new watchword, and in the future Dubai developers will need to spend more effort considering what buyers truly want rather than what will make them the quickest buck if they wish to be sustainable over the long-term. "The biggest challenge today is customer appetite," agrees Khalid al Malik, Group Chief Executive Officer of Dubai Properties Group, the newly created property division of Dubai Holding. "Before, that appetite was driven by speculators. Now it's a different beast. You have to be careful with the product design. This is reshaping the way companies operate in Dubai."

The recent Cityscape conference at the Dubai International Convention and Exhibition Centre was a prime example of the new, more subdued mood in the emirate - but participants remained upbeat that the recent reality check would prove constructive over the longer term. "There was an element of one-upmanship before, but I think we are starting to see people come back with a sense of reality as to what you should and shouldn't do," said Donald Trump Jr, son of the famed tycoon, in his keynote address. "Has Dubai changed? Of course it has. But it has been unfairly and harshly criticised by the world media. Based on them, you would think Dubai is a dust bowl with no lights turned on."

The reality, of course, is very different. Dubai remains a vibrant urban environment and an exciting place in which to both work and live, with some of the most exciting developments on the planet still very much underway. Contrary to the widespread belief that all construction has stopped, there are still considerable projects in the pipeline across the Middle East, worth a total value of $3.1 trillion, and the UAE leads the project market, accounting for 42 percent of total project value.

Even so, whether the current correction comes to be viewed as just a bump in the road or the beginning of the end will depend to a large extent on how the emirate responds to the lessons of the last 12 months – not least those pertaining to the dangers inherent in aiming for short-term gains over long-term results. "There are many lessons to be learned from this recession and they can all be traced to addressing the fundamentals of economic management," concludes Alwidaya. "Regardless of what sector of the economy you are in, the fundamentals that have proven important throughout history – such as long-term planning, sustainability, sufficiency, balancing supply and demand, limiting exposure to world events and adhering to contingency and risk planning – cannot be ignored. Rapid growth is as dangerous as it is exciting. With careful planning and controls, it will be sustainable; without such checks, it will be destructive."

Tourist trap

A large part of Dubai's success has been driven by an incredibly successful tourism sector, and the influx of tourists is vital to the overall health of the economy, introducing the emirate to potential investors and entrepreneurs as well as sun-seekers. For travellers paying in US dollars, Dubai became an even more attractive destination in the first half of 2009 as hotel rates in the city fell 26% from the year before. Rates in nearby Abu-Dhabi also dropped for those buying rooms with US dollars, falling by 9% year-on-year. For UK visitors paying for hotel rooms in sterling, room rates in Dubai dropped a more modest 4% year on year, while rates for UK travellers actually rose by 15% in Abu Dhabi. As a result, fewer British and Russian travellers visited Dubai in the first half of 2009 and more visitors from the US and Italy took their place.

Bright spot

"Saudi Arabia appears to have escaped the worst of the recession and looks to have a bright and healthy future," asserts real estate agent Mohanad Alwadiya. "The country has a unique demographic profile, with an estimated 50 percent of its population under the age of 25, and has $160 billion slated for project investment in the next five years. The Saudi government is committed to massive infrastructural spending, utilising revenues accumulated during the oil boom of the past five years. Housing demand remains high, and developers are taking advantage of construction and material costs, which have virtually halved since the height of the regional construction boom. New consumer finance laws will also increase the number of first-time home buyers (less than half the population own their homes) while selling prices are still surprisingly low and above average rental yields can be realised."

Tall storeys

It's not all doom and gloom in Dubai. The exterior of the Burj Dubai, the world's tallest tower and one of the emirate's flagship projects, is complete and the building will open before the end of the year, according to developer Emaar. "The final height of the tower will be revealed when it opens later this year," the company said in a statement. The Burj Dubai will feature offices, residences, retail and the world's first Armani Hotel and Armani Residences, in line with Dubai's yen for luxury brands. Work on the interior of the building is currently being completed, Emaar said.

Barriers to entry

The visa issue, which has placed a lot of pressure on recently retrenched expatriates trying to find alternative employment or heading back home, is another area that needs addressing urgently.

Employees who lose work in the UAE automatically have their visa rescinded, generally giving them 30 days to leave; with defaulting on debt or bouncing a cheque punishable by jail, most expatriates in financial difficulty know the safest bet is to take the next outbound flight. At the airport, hundreds of cars have been abandoned in recent months; keys are left in the ignition, with maxed-out credit cards and apology letters in the glove compartment.

Predictably, the recent slew of layoffs has left many disillusioned with the Dubai dream. "This will not be forgotten quickly, and will certainly be a consideration for those who might consider making Dubai their long-term home," says Alwadiya.

At the recent Cityscape exhibition, many others felt the same. The system of cancelling visas for people who were laid off was "ostracising the same people who took the leap to come here," Donald Trump Jr told reporters. "You should be welcoming these people. If you throw them out, they are not likely to come back in six months when you need them."

From an investor point of view, the Department of Naturalisation and Residency has recently implemented a law that will grant a six-month renewable visa to those who invest in freehold property in the UAE. While this is a positive move to instil confidence in potential investors, the six-month period is considered too limited in duration to be meaningful to many investors. Some commentators believe the Federal law should match the Dubai law, whereby investors were eligible for a three-year residency visa provided they visited the emirate at least once every six months. This approach would appear to be far more appealing and enticing.