Saudi property market set to drive non-oil growth

Saudi Arabia’s real estate sector – by far the largest market in the region– offers tremendous potential but it has to cross a number of hurdles to realise it.

The fundamentals underpinning the sector bode well: Saudi Arabia’s growing population of nearly 30 million has a huge pent- up demand for affordable housing units. The majority of the population is under the age of 25 and this affluent, young generation is looking to move in to their own homes, especially after they get married.

The real estate sector will have to be one of the country’s star performers if the non-oil economy is to meet its targeted gross domestic product growth of around 3 per cent over the next few years, especially as the oil sector is broadsided by lower crude prices.

“This sector has the potential to be the growth story of the next few decades: there is an estimated deficit of 1.25 million housing units and demand is currently running at an annual 50,000 units in Riyadh alone,” according to Samba Bank’s latest report.

Responding to the housing shortage, the authorities have pledged to build over half a million affordable units. In addition, they have implemented new reforms that have eased access to financing and announced new property laws to stimulate the sector. Banks increased their real estate lending by 31 per cent last year, in a sign that the sector was gathering steam and residential sector contracts valued at $3.2bn were awarded in the first quarter of 2015. Meanwhile, real estate stocks also emerged as the investor darling on the Tadawul stock market in the first four months of 2015 – rising 40 per cent. It was the highest among all sectors, before a broad correction ensued. The Ministry of Housing has earmarked the development of 185 projects, of which 65 projects (74,000 units) are under construction, 25 projects (21,000) are in the bidding process and 95 projects (141,000 units) are in the design stage.

Current MOH projects are expected to provide 237,000 units. This constitutes approximately 47 per cent of the announced 500,000 units.

“We believe the ministry can close its target of provid- ing affordable homes. However, there are many challenges that have to be addressed,” says Riyadh-based Colliers International development solutions manager Bilal Siddiqui.

While low oil prices have dampened economic sentiment in the kingdom, the real estate sector continues to motor along. Con- struction has barely slowed down with 6.6 per cent growth in 2015, compared to 6.8 per cent 2014.

Although this growth has largely been funded by the public sector, private sector participation is expected to increase with the implementation of a so-called ‘white land’ tax. This will impact undeveloped prime areas in urban centres that have been sitting unused by their owners for decades.

“The implementation of white land tax, educating end users to accept smaller sizes, collaborating with developers, introduction of better financing solutions etc. are some of the key challenges that have to be worked on to achieve their targets,” Colliers’ Bilal says.

As family offices have large land banks, analysts believe developing their plots will benefit the construction sector and close the demand-supply gap.

Many developers identify high land prices as a major obstacle hindering their plans, especially within the residential sector.

“We believe this regulation will decrease land prices, increase construction activity and increase demand for labourers, which may result in a significant shortage,” says NCB Capital.

Alleviating local housing bottlenecks such as the white land tax could also “trigger a shift in capital flows to Tadawul from the real estate market as these investment vehicles are the favoured options for Saudis,” according to NCB.

Despite the strong underlying fundamentals, the sector continues to face short-term weaknesses.

“The decline in oil prices triggered expectations of an even slower year for real estate,” warned Aljazira Capital in a note. “In a scenario where oil prices remain at current levels and government overall expenditure starts to decline, we believe real estate prices (input and output) – all else being equal – should experience a slight decline.”

Real estate consultancy Jones Lang LaSalle notes that the residential sales market in Riyadh is witnessing downward pressure as a result of the new mortgage regulations, which stipulate a higher down payment of 30 per cent.

Second quarter data from the Ministry of Justice shows the volume of residential transactions declined by 7 per cent.

“While sale prices have continued to decline (-1 per cent for apartments and -0.5 per cent for villas), the rental sector has seen increased demand with rentals increasing by 2 per cent for apartments and 1 per cent for villas over the last quarter,” Jones Lang LaSalle estimates.

Three major cities also saw declines in average price per square metre. Riyadh saw a 26 per cent decline year-on-year with Jeddah down 25 per cent and Dammam 19 per cent respectively.

The bottleneck is further congested by the inability of new participants to enter the market due to inaccessible capital, according to Aljazira Capital.

“For our overall outlook, certain housing segments will experience declines in prices in 2015 with a marginally negative outlook on prices in the long term. The resurgence of residential real estate can only be driven by an upturn in available liquidity or a rise in relative affordability giving broader access to entry level home buyers,” the firm said in a recent report.

While there is a focus on building high-end dwellings, resolving the housing shortage will revolve around developing affordable units.

“From our discussions with developers, we believe they are interested in tapping within this segment subject to support from the authorities,” Siddiqui says. “The private sector can play an important role to facilitate the delivery of units to applicants and accomplish the ministry’s objectives within a faster time frame.”

Developers themselves also face financing constraints and say that the process of off-plan sales needs to be streamlined to generate a greater and quicker flow of the capital they need to invest.

Despite these short-term hiccups, few doubt the long-term outlook of Saudi Arabia’s real estate market due to favourable demographics, a rising population and growing affluence.

Saudi Arabia’s Capital Market Authority is studying plans to develop rules for real estate investment trusts. This points to the growing maturity levels of the kingdom’s property sector.

The development of REITS – which is essentially a company that owns and finances income- producing assets – is a key investment vehicles in developed economies. Listed REITS would allow retail investors to partici- pate in the kingdom’s real estate boom without the need to own and rent properties themselves.

“We believe that other fac- tors such as financing solutions, investments in utilities and infrastructure, better project management, regulated home ownership associations, synergy between authorities to stream line the development process for developers and public private partnerships between developers and Ministry of Housing can come a long way in provid- ing the necessary ground work for home building,” Collier’s Siddiqui says.