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Rising rates don't worry investors

“There is a clear trend of investments in the region which is going on-shore against the traditional notion of remaining offshore. Among the several factors that have been attracting investments here are the real opportunities in the fundamentally strong private sector companies and the immense growth potential in infrastructure development and construction,” said C.P Greuter, Managing Director of Credit Suisse.

The UAE market shelled out $222 billion on three public issues, which hit the market since last October, while the real estate sector saw announcements worth over $70 billion investments in various new projects during the same period. Boom is the only word that is familiar to real estate and stock market investors in the UAE today. Many analysts and finance professionals believe that the UAE economy's fundamentals are strong enough to justify both booms. While liquidity is working more as a common denominator and a catalyst in the current boom; many have cautioned that the excess liquidity in the system could over heat the economy in terms of over valuation of financial assets and rising property prices.

High liquidity in the market due to the sustained higher oil prices, reverse flow of investments from the western markets and the leverage offered by the banking system resulted in the stock market volumes growing by more than 20 times, while the market capitalisation increasing by almost 100 per cent last year.

A combination of factors including low interest rates, high level of liquidity and limited investment options available have seen the stocks and real estate sector receiving the maximum investments in the recent years.

“The unattractive US and western stock markets and the rising restrictions on investments and travel to the West acted as a 'push factor', while the excellent corporate earnings during the past two consecutive years have proved to be a real pull factor in attracting investments to the region,” Greuter said.

In the real estate sector too, the all-encompassing oil price surge has triggered the construction led economic boom. But one fundamental difference in the UAE is that the real estate boom is supported by strong infrastructure investment led by various arms of the government. The government infrastructure projects, including the expansion the airport and Dubai International Financial Centre combined with various real estate developments around the emirate is expected to deliver over $100 billion worth property by 2010.

The sustainability of the real estate boom depends on a number of factors including the availability of funds (liquidity) its cost (interest rates), changes in property laws, the relative property prices and the targeted population growth. Dubai anticipates its population to touch 2 million by 2010 with the current annual growth rate of nearly 8 per cent. The idea of freehold along with the internationally competitive property prices are attracting investors and helping to achieve the targeted population expansion.

In the UAE a new real estate law and a company law are awaited, which together will mark another major step in shifting property values towards international levels. Realistically, its only when real estate prices in the country near global prices, should investors get alarmed about the possibility of a down turn.

Real estate analysts say that the worries of future liquidity shortage are unfounded that the oil outlook is ever stronger. “Global oil consumers have accepted oil prices above $40 barrel as a reality to live with. The growth demands in Asia, especially China and India will sustain the prices above this level for a long time. Any adjustment in prices can happen only if there is any major structural adjustment in the demand from these countries,” said Dr Hans-Ulrich Doerig, Vice-Chairman of Credit Suisse in Dubai last week.

Interest rates is set to go further up in the UAE following the Federal Reserve raised rates by a further 25 bps to 3 per cent. The UAE interest rates broadly track US rates due to currency pegs to the US dollar. Due to the Fed's policy of accommodation (to inflation), any dramatic increase in rates is unlikely.

What analysts say probable in the real estate market is that in the long run (7 to 10 years) the supply will overtake the demand and the market will saturate, but the prices at that point will be substantially higher than the current levels and will match the international prices.

In the equity market, investors are advised to look out for valuations, and be more selective. Liquidity driven over valuation will inevitably invite painful periodic corrections. However, total value erosion is not possible as majority of the companies have fundamentally strong businesses.

“There is strong corporate earnings momentum on the part of many of the listed companies in the UAE. This is driving the markets higher, aided by considerable leverage and liquidity. The valuations are getting stretched and the markets are highly prone to periodical corrections,” said Suresh Kumar, Chief Executive Officer, Emirates Financial Services.