June 7, 2008

Emerging markets weather property bust in the West

Urbanisation, rising incomes fuelling demand in Brazil, Russia, India, China

LONDON- WESTERN housing bust or not, real estate in emerging markets continues to be hot property.

The global credit crunch sent property prices skidding in developed markets from the United States to Spain, but it seemed to have done little to slow the real estate sector in emerging economies such as Brazil and Russia - still thriving on a commodities boom and increased access to mortgage-financing.

The dire combination of slowing economic growth and rising inflation may be prompting some investors to shun emerging market bonds and equities, but others are positioning themselves for property values to rise further in emerging markets.

'We're advising investors to own land and to buy into real estate brokers, construction firms or suppliers of raw materials. For purer property-related plays, we are recommending some property developers,' said Mr Jonathan Garner, the head of emerging markets strategy at Morgan Stanley.

Growing urbanisation and rising incomes are fuelling property demand in developing giants Brazil, Russia, India and China, or BRICs. Low interest rates in US dollar-peg economies such as the United Arab Emirates and a shortage of homes and offices are conspiring to keep real estate values there at record highs, too.

And unlike their counterparts in developed economies, banks in most emerging markets are largely unaffected by the liquidity squeeze sparked last year by massive sub-prime mortgage defaults in the US.

In a report on Thursday, Fitch Ratings said home builders in the BRIC economies were supported by rising home affordability and economic growth, though they faced risks such as less predictable legal and regulatory environments.

'The credit crunch has very limited relevance for many emerging markets. Not only are the banks in good shape, you've also got households that are not overextended,' Mr Garner said.

The ratio of household debt to gross domestic product in Brazil, Russia, India and China ranges between 5 per cent and 10 per cent, compared to over 100 per cent in the Britain and 90 per cent in the US, he said.

Soaring consumer prices - particularly vexatious for emerging economies as they typically spend more on food as a percentage of income than developed countries do - are also making the sector's inflation-linked rents an attractive hedge.

Fund managers say the overall rise in asset values from inflation could make real estate more attractive, although it raises borrowing costs for developers and buyers.

Paradoxically, the allure of bricks-and-mortar assets may be further burnished as a result of weakening equity values, which have fallen nearly 6 per cent in emerging markets since the start of the year.

Mr Jeff Chowdhry, the head of emerging equities at F&C Investments, said: 'When stock markets go down, some investors see physical assets, such as property, as a 'safe haven'.'

He is upbeat about Mexico and Brazil, where mortgage growth is making middle-class home ownership more affordable, but cautious about India, where residential property appears overvalued, and Turkey.

'We don't believe a property rise is sustainable when stock prices continue to fall and interest rates rise,' he said.

Since the start of the year, Turkey's stock market has lost 27 per cent of its value, while its lira has waned 5 per cent against the US dollar.

Still, Britain-based property fund manager Cordea Savills is undeterred.

This unit of British property services firm Savills is raising 400 million euros (S$844.8 million) for a property fund aimed at Turkish retail and residential real estate with a targeted 25 per cent investment rate of return.

'This is a country of some 70 million people, with half of the population under 30 and with an average annual population growth of about 1 per cent. The economy is slowing but coming down from a high base,' said Mr Ian Jones, Cordea Savills' director of investments.

The growing spending power of emerging market consumers means retail property in these economies is particularly promising, argues Mr Biljana Bozic, the head of real estate at East Capital.

'Retailers want to expand but can't find available space.'