Saudi's day in the sun

Like any society that experiences weakness in the financial market, there is perception of safety in real estate.

This is certainly true for the Kingdom of Saudi Arabia, as many large investors unwind stock positions and move into real estate, following the abrupt end to a spectacular stock market growth story in February 2006.

The Saudi stock market peaked at its all-time high of 21,000 on February 26, only to deflate in excess of 50% throughout the remainder of 2006.

However, the Kingdom has scarcely looked back from the massive correction and now tells a story of high oil prices, resurgent government expenditure and the beginning of various mega economic projects.

The Kingdom's population of more than 20 million is the largest in the Gulf and demand for housing exceeds supply, with more than 70% of the Saudi population aged below 30.

This situation is changing fast with 50 companies licenced to sell and develop real estate in the Kingdom last year. This fast expansion, added by a resurgent private sector, has lead to a growth explosion within the building materials industry. Cement production is expected to double to more than 90 million tonnes a year by 2010.

While existing KSA cities and communities are seeing major developments, there is also an intense focus on the US$150bn government-sponsored investment committed to new cities to be built around the economic projects.

All of these economic cities will feature major residential and commercial real estate developments. Approximately 1.5 million people are expected to move to the new cities in the medium term and three times as many by 2020.

Saudi Arabia-based economist Mohamed Ramady expects the Saudi government to close 2007 with a surplus current account balance of US$55bn, government revenues of US$155bn and foreign reserve of US$320bn.

The existing domestic debt will continue to be reduced to approximately 24% of GDP, compared with nearly 94% levels in 2002, Ramady believes.

"Following the stock market falls, the Saudi stock market is now characterised by modest daily swings. An upper and lower Tadawul trading index seemed to have been established for the time being of 8,100 on the upper range and 7,100 on the lower range. The recent partial flotation of Kingdom Holding shares is illustrative of the new mood of cautious trading, with the new shares rising nearly 20% on the first day but falling back to the next day to a 4% decline. In the old days, the share price would have continued to rise, driven by speculative pressures but today the mood is one of short-term gains and taking a run."

Ramady conceded this market behaviour is unhealthy for long-term capital market developments, but was to be expected from nervous investors who had lost lifelong savings when the market fell in 2006.

The real estate bubble that formed following the equity market crash has been uneven in the country, according to Ramady.

"The sharpest price rises are concentrated in potential economic and mega city zones and prime residential areas. However, the Saudi government is encouraging an expanded private sector home ownership, especially for its young population and will not wish to see land prices go beyond the means of this section of society."

The Saudi government is proposing mortgage legislation, with mortgage institutions currently discussing the establishment of a housing lending market.

Ramady believes the mortgage market will open up an avenue for the private home ownership sector, but said it will be politically explosive if repossessions take place due to non-payment and defaults.

"The mortgage institutions that are being discussed now are aware of this and are walking a tightrope between protecting their lending and yet being seen to be socially responsible.

"What will emerge is a compromise on longer-term borrowing and fixed rates with some form of government safety repayment net," he adds.

Ramady believes Saudi's pace of development and structural reform is proceeding faster, with the Kingdom's accession to the WTO in 2005 accelerating judicial reforms in terms of clearer arbitration rules and encouraging foreign investment.

"The private sector is diversifying and some are beginning to take opportunities within overseas markets and investment potential for Saudi capital, but the economy is still hydrocarbon-reliant in the near future.

The attention to the small and medium-sized enterprises sector and the emergence of potential economic clusters of higher quality industries are certainly creating some high-value employment opportunities.

"What is more encouraging in the short-term is the growth and diversity in the Saudi financial markets with the opening up of the Sukuk Islamic leasing, insurance and potential mortgage sector. This sector is fast evolving into a major contributor to the Saudi economy with nearly 80 financial services companies currently operating compared with about 12 in 2004.

"The Kingdom has strong economic and political ties with the US, with the western superpower positioned as Saudi's premier trading partner. However, the US has seen its total market share eroded by new entrants such as China and India as Saudi Arabia diversifies into other regions," he adds.

The Far East is one notable example of this diversification, as Saudi's petrochemical and oil products obtain premium prices compared with the US or Europe.

"The Saudis are uncomfortable seeing oil prices rise too high and worry about a recession in the consuming countries. If this starts with the US, it could then have a knock-on effect on other trading nations. At the same time the possibility of diversification away from the dollar might take place if the unified Gulf currency takes off. But for the time being the Kingdom will not take any abrupt actions to jeopardise their US economic relations."

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