How do real estate markets recover from crises

How do real estate markets recover from crises?

Julian Roche Chief Economist

Innovative. Exceptional. Trusted.

Innovative. Exceptional. Trusted.

A route map to understanding If we are to avoid the kind of unresolved debate over this question seen in academic literature, we first require unanimous agreement on three definitions. First, what is our understanding of a crisis?

Second, what counts as recovery? And finally, what do we mean by real estate markets, and has the way they work changed? Only then can we put all three together.

There is another reason to move on from the debates of the past.

As it turns out, the right way to connect all three today turns out to be different now. In particular, the link between crises in the wider economy and the performance of real estate markets has been changed, perhaps forever. What do we know?

The nature of a crisis Few would doubt that COVID-19 has been characterised as a crisis for the global economy. But what is a ‘crisis’? Even the most recent discussions on the global real estate economy go no further than ‘widespread effects’1. We are left no wiser as to what is and is not to be counted among the Black Swans. So, let me propose a blunt working definition. If an indicator, whether they be annualised gross domestic product (GDP), employment, asset prices or any other key contributor to GDP, moves more than 10% in a month in a negative direction, we can call a crisis. US GDP fell 31.4% on an annualised basis in the first quarter of 20202, so just within my definition. Once a market returns to its pre-crisis levels, we can equally call a recovery. Monthly statistics from the US, for example on business formations, are certainly suggesting a sharp recovery, but it is too early to tell whether globally the hoped-for V-shaped macroeconomic recovery is really with us.

By its very nature, a crisis is short-lived. The expectation is always that it will be overcome; crises are inextricably linked to a reciprocal

1

What drives real estate markets?

Demand and supply for residential property, resultant liquidity, prices, housing construction, land investment, and the panoply of existing commercial property and its development—these are the raw materials of real estate markets.

But there is an important distinction to make between flows, which are well measured by economic indicators, and stocks, notably of wealth, which are not. Real estate prices are a flow measure largely based on transactions, whereas the total value of housing is a stock measure based on valuations.

The distinction is important because although we have always been taught that reliance on real estate markets as part of GDP is a mistake, especially in Dubai but more widely across the Gulf, this argument always relied on highly correlated, if lagged, real estate market flows – changes in prices – which were responses to share market crashes, as most notably happened in 1987. A review of the recent economic literature surrounding macroeconomics and real estate markets, however, reveals a very different picture. There is a recognition that ‘the stock market crash and the global financial crisis significantly increased the level of segmentation between the stock markets and the real estate markets, with the segmentation being more pronounced in developed economies’3. The talk now is instead of ‘linkages’4, not a one-way street in terms of cause and effect:

Swango, D. (2020) Black Swans: When the Impossible Occurs. The Appraisal Journal Spring 2020, 140-148, p. 140.

2 3

perception of ‘normality’. The implicit danger is that investors may be mesmerised by the crisis itself, failing to appreciate other and more slow-burning market factors.

US Commerce Department (2020) Economic indicators dashboard . Available at: https://www.commerce.gov/index.php/data-and-reports/economic-indicators/dashboard Retrieved 21 October 2020.

Casni, A, and Ceh, V. (2014) Interactions between Real Estate and Equity Markets: an Investigation of Linkages in Developed and Emerging Countries. .Finance a Uver; 62(2), 100-119, p.100.

4

2

Xiao, Q. (2010) Crashes in Real Estate Prices: Causes and Predictability. Urban Studies 47(8), 1725-1744.

How do real estate markets recover from crises?

It is now further recognised that real estate markets exhibit significant autonomy, driven largely by investment, providing further evidence for a two-way street in terms of cause and effect.

Although it is recognised that this research is as yet scarce, the Bank for International Settlements has concluded that ‘the main determinants of residential investment in advanced economies are real house prices, nominal interest rates, demographic factors, and the state of housing supply’.5 More sensationally, attention is even shifting to the way real estate markets help shape and even dominate the macro environment6, in practical terms, for example, through the global Ease of Doing

Business Index7. This is a radical change of perspective, driven by the data, and it should cause us to challenge the tame history of real estate markets as simple reflections of the macro economy as any kind of guide to the future. The UAE is much less of an exception to global rules of real estate than had been thought.

The lively performance of global real estate markets in 2020, with some prices even rising in Dubai, for example8, is proof that no longer should we expect real estate markets to respond quickly and symmetrically to macroeconomic crises: they may not dive down with the collapse of business and consumer confidence more widely, but they may equally not ascend when it bounces back.

Conclusion: Attention to the cycle The startling but simple conclusion to be drawn is this. We are now living through the first global economic crisis, in this case driven by a largely fumbled international policy response to a coronavirus, that has not led to an equivalent general crisis for real estate markets. We should no longer ask how real estate markets recover from political or macroeconomic crises.

Rather, we should ask how the dynamics of real estate markets themselves operate to create, manage and transfer wealth, frequently at a national or even regional level.

Property owners in the UAE, as elsewhere, may have breathed a sigh of relief, and even been surprised by the trajectory of prices – but investors must still make informed decisions based on due diligence. Policymakers worldwide, however, must now learn new lessons: the autonomy of real estate markets demands much greater respect from them than they have given until now.

5

Kohlscheen,E., Mehrotra, A. and Mihaljek, D. (2018) Residential investment and economic activity: evidence from the past five decades. BIS Working Papers No 726. Geneva, Bank for International Settlements.

6

Hofman, A and Aalbers, M.B. A finance- and real estate-driven regime in the United Kingdom. Geoforum 100, 89-100.

Available at: https://www.bis.org/publ/work726.pdf Retrieved 21 October 2020.

7 8

World Bank (2019) Ease of Doing Business Index. Available at: https://data.worldbank.org/indicator/IC.BUS.EASE.XQ Retrieved 21 October 2020.

Property Monitor data shows the average villa price in Dubai up 31% on an annualised basis in September 2020. Apartment prices have been affected by the introduction of affordable housing but even they are down by only 9%.

3

How do real estate markets recover from crises?

Dubai 2205 Marina Plaza, Dubai Marina, P.O. Box 118624, Dubai, United Arab Emirates T: +971 4 453 9525 E: info@cavendishmaxwell.com

Sharjah 1801 Sarh Al Emarat Tower, Buhaira Corniche Street, P.O. Box 38583, Sharjah, United Arab Emirates T: +971 6 715 0444 E: info@cavendishmaxwell.com

Abu Dhabi 605 West Tower, Abu Dhabi Mall, Tourist Club Area, P.O. Box 126609, Abu Dhabi, United Arab Emirates T: +971 2 448 4677 E: info@cavendishmaxwell.com

Manama Office 920, West Tower, Bahrain World Trade Centre, P.O. Box 1829, Manama, Kingdom of Bahrain T: +973 1616 1448 E: info@cavendishmaxwell.com

Muscat Villa 836, Way 3012, Al Sarooj, P.O. Box 3438, Muscat Sultanate of Oman T: +968 99 44 5917 E: info@cavendishmaxwell.com

Disclaimer: The information and analysis contained in this report is based on information from a variety of sources generally regarded to be reliable, and assumptions which are considered reasonable, and which was current at the time of undertaking market research, but no representation is made as to their accuracy or completeness. We reserve the right to vary our methodology and to edit or discontinue the indices at any time, for regulatory or other reasons.

The report and analysis do not purport to represent a formal valuation of any property interest and must not be construed as such. Such analyses, including forward-looking statements are opinions and estimates only, and are based on a wide range of variables which may not be capable of being determined with accuracy. Variation in any one of these indicators can have a material impact on the analysis and we draw your attention to this. Cavendish Maxwell and Property Monitor do not accept any liability in negligence or otherwise for any loss or damage suffered by any party resulting from reliance on this report.

cavendishmaxwell.com

info@cavendishmaxwell.com