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Dubai: UAE property - is it or isn't it a good investment? Will it continue to rise after the summer solstice? And the answer is - I don't know. Not knowing the answer is a massive blow to the credibility of portfolio planners.
Especially when you consider the numbers of "mid-wealth" individuals who have (at least in paper terms) achieved dollar millionaire status (multi-millionaire for others) from starting positions that, in normal circumstances, would have taken them a lifetime to achieve. A situation that encourages risk-taking; lifetime ambitions achieved in months.
Being from the "not knowing" school is therefore a pain. Can we make more millions in months, or not? Luckily, I joined the "We had to live somewhere" and the "Why pay a landlord" school of thought, at a time when, (after accepting a deposit risk), mortgage repayments could be lower than rents. I got lucky, and rents rose. Today' angst: Should we now sell and take the gain?
Standard Bank's recent report suggesting that Dubai property could be "over heating" causes concern. Although their main attack was on the "off plan" speculator area. Their suggestion of a Capital Gains Tax on short term sales makes sense to me. Why is "the herd" paying for people simply queuing up to get the first deposit; making money on the basis that there are enough "greater fools" who can't queue up and must pay the premium (sometimes ridiculous).
For an insight on UAE property, I approached Gordian Gaeta a professor of all sorts, author on risk management, and renowned lecturer on financial services issues. First up: Why is my property going "through the roof? For Gaeta, there is an element of "moral hazard" about the UAE market. "The market is dominated by developers and agents all of whom benefit from rising prices" says Gaeta.
The moral hazard issue suggests that there is not much to lose by taking risk, in this instance the developers and agents benefit by nudging prices higher. "There is not enough interest in the market downside," says Gaeta pointing out that, eventually, the market itself will decide when prices will fall.
Economic play
So, is there any justification for the current prices of housing in the UAE? Surprisingly, Gaeta gave me a yes, "but it's not because of property per se". Intriguingly, Gaeta explains, "UAE property can be seen as an economic play on the rapid development of the UAE, with the benefit of three hedges: an inflationary hedge; a currency hedge; and a liquidity hedge". This needs a bit of breaking down. Four "bricks" might help us with Gaeta's fair price model.
Brick one: The normal issues and costs of buying a property. These would include: land costs; building costs; developers profit. Then throw in the "luxury premiums" like the swimming pool; the outside 'majlis', the jetty, the stables. dream on. All dreams are priced.
Brick two: The "net present value" of rent. This is close to my "Why pay the landlord" school of thought, but explained by an economist. "Most rent is paid in advance," Gaeta correctly points out. So these costs can be quite reasonably be added into the price of property. Taking an example of a Dh5 million villa, this might require, say, a 15 per cent deposit (Dh750,000). The rent for the 5 million pad might be half of that deposit. Gaeta's "fair price" thinking works on the basis that you add-in the first years rent as half of the deposit. Then by year two, whilst you have already paid "the rent" (second half of the deposit) you are better off because rent prices have risen. This "works" in the current rental market.
Brick three: The "inflationary and currency hedge" plays. Currently, there are no UAE government bonds - the typical "mature market" inflationary hedge. So Gaeta feels it is quite appropriate to add-back inflation into the price. Similarly, for US dollar thinkers the fact is that the dirham will not weaken against the dollar providing a significant currency hedge. So, for individuals seeking to reside in the UAE there is limited currency risk for those collecting assets in US dollars and living off them.
Brick four: An "option on the future of the UAE". Most cynically described as "an option on the oil price and continued development of tourism". As the oil price (particularly) rises, a liquidity glut ensues. Liquidity needs to be mopped up by assets and where there is plenty of liquidity, premium prices can be assured. The richest man on the street will pay more for the best house on the street. He will be the guy that gets richer by turning cash into a valuable asset.
- The writer is Chairman of Mondial Financial Partners.
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