Does past UK experience help us with the Dubai property crash?
Posted on 17 October 2009 with no comments from readers
Are there any lessons we can learn from previous UK housing crashes that are relevant to understanding the Dubai house price crash of the past year?
This website received considerable feedback from a previous article comparing the Dubai real estate outlook with Hong Kong post-1997 crash. Such historical parallels are interesting and useful. But there is never entirely a re-run of a previous scenario. However, as Mark Twain noted history might not repeat itself but it does rhyme.
The jury is still out on UK house prices since the market started to fall in late summer 2007. There has been a rebound in prices over the past few months that some herald as a recovery, and others think a blink on the way down.
Early 90s
So for a previous certified UK housing crash you need to turn the pages of history back to late 1990, almost two decades ago. Then the tax advantages for couples buying property together expired and with it the 1980s property boom of Mrs. Thatcher’s era crashed.
The initial downturn was considerably worsened by the John Major government’s decision to keep the value of sterling up with high interest rates. The pound was following the deutschemark within the European Exchange Rate Mechanism and this took mortgage rates from seven per cent to 10 per cent and finally a climactic 15 per cent in the late autumn of 1992.
After that the pound abandoned the ERM and interest rates fell back. And with a time lag of a few months property prices finally began to revive, albeit from levels 30-40 per cent below the peak prices of 1990.
If we look back to Dubai last September we can see that the global credit crunch was the immediate cause of the crash, and with prices down 50 per cent before a very modest recovery over the summer there should be no argument now about calling this a crash.
As we have seen in the case of the UK in 1990-3 it was also a squeeze on credit that brought the boom to a sudden end. For in a boom credit terms gradually get easier, interest rates decline, banks pay less attention to due diligence, and loan-to-value ratios increase. It is a self-fulfilling cycle as rising house prices make banks more and more comfortable with lending.
In the case of the recent Dubai boom the big borrowers were the developers, dominated by those owned or controlled by the government, and to a lesser extent private individuals buying and developing property. It was somewhat different in the late 1980s’ UK boom with more private developers, and more lending to individuals for secondary property deals.
But these private developers also got themselves deep into debt, and subsequently many went bankrupt and banks ended up with huge bad debts. Yet arguably it was the homebuyers who suffered most from high mortgage payments, and many lost their homes in bank repossessions.
Different or not?
Because the Dubai property crash is barely a year old it is hard to say if it will follow the three-year down phase pattern seen in the UK in the early 1990s. There are clearly some marked differences between a developed property market like the UK then and an emerging newly established property market like Dubai today.
For one thing almost the whole of the Dubai inventory was sold off-plan and therefore the secondary market is nothing like as important. The UK in the early 1990s had pockets of oversupply such as the London Docklands but very few sites actually stopped work.
In Dubai the way real estate was sold off-plan for a large number of developments all at the same time, with only a small deposit required, has left a legacy of perhaps a hundred or more abandoned construction sites. The money ran out and so did the builders.
In the best case scenario investors have been offered alternative apartments or offices in completed or nearly completed projects. In the worst cases they appear to have very little chance of getting their money back.
Does this make the recovery prospects for Dubai real estate better or worse than in the UK in the early 90s? On the one hand, the potential oversupply of property in Dubai has been reduced by the sudden abandonment of projects. On the other, this does little to instill investor confidence and there is still the worry about the supply of property that is actually being completed.
Then again all crises have their darkest hour. In 1991 this writer was unfortunate enough to be the business editor of the leading publication in the UK construction sector and to say that the business outlook was very bleak is a considerable understatement.
But things did get better in the end. Not all the business people I had known in the boom survived with their business interests intact, and a few companies vanished altogether. Shareholders and the banks also took a beating. Yet the market did recover.
In March 1993 I bought a house in London Docklands. Several colleagues declared me insane, and it became something of an office joke. That house was of course my best ever investment.
Sweet spot
So if there is a lesson to draw from the UK housing crash of the early 1990s it is that there is a dawn after the darkest hour. Will it take another one or two years for property values to bottom out in Dubai as it did in the UK then? It is impossible to tell.
But whatever the supply and demand position there will be a market bottom. There always is one. After that market forces reverse direction: demand starts to improve and supply is constrained by the effects of the crash.
This happens in both developed and emerging markets, although emerging market cycles will always tend to be more exaggerated due to their immaturity. The laws of economics cannot be repealed or amended. They are what they are.
Therefore from the UK experience of its housing crash in the early 1990s it is fair to conclude that market forces will produce an excellent entry point to buy in Dubai at very advantageous prices, but that this point could still be a couple of years away, even if the worst of the house price falls is behind us.
