UAE Banks And Real Estate Lending:

Is It Different This Time?

Primary Credit Analyst:
Mohamed Damak, Paris 33144207320; mohamed.damak@standardandpoors.com
Secondary Credit Analysts:
Timucin Engin, Dubai (971) 4-372-7150; timucin.engin@standardandpoors.com
Franck Delage, Paris (33) 1-4420-6778; franck.delage@standardandpoors.com
Trevor Cullinan, Dubai (971) 4372-7113; trevor.cullinan@standardandpoors.com
Table Of Contents
Solid GDP Growth Is Supporting The Sector
External Demand Is Strong
New Lending Caps Are A Buffer
What Could Ignite A Correction?
Related Criteria And Research
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 1
1320318 | 300051529
UAE Banks And Real Estate Lending: Is It
Different This Time?
Real estate prices in the United Arab Emirates (UAE) are showing signs of stabilization after strong growth in the past
two years, particularly in Dubai. The future direction of prices hinges on the level and pace of new supply coming to
the market, which is significant in Dubai and less so in Abu Dhabi. Excluding unforeseen shocks, Standard & Poor's
Ratings Services believes a big drop in prices is unlikely in the short term, and that's good news for the country's banks,
which have large loan exposures to the real estate sector. In addition, this sector is vital to the UAE's economy, and a
correction that provokes a rise in unemployment could involve serious aftershocks for banks, like those during the last
real estate crisis in the UAE.
What's different so far in this price run-up is only modest growth in the exposure of banks, compared to the spike in
real estate transaction volumes. This suggests that the local banking system's contribution to financing real estate
transactions is currently low. But that is likely to change this year and in 2015, in our view. We foresee an acceleration
of real estate lending as developers launch new projects, and more local and expatriate customers seek to enter the
mortgage market. Tighter rules on new mortgage loans, capping loan-to-value (LTV) ratios, are likely to buffer banks.
But if they aggressively expand their exposure to the real estate sector, risks will continue to build.
Overview
Real estate prices have rebounded to near record highs in prime areas of Dubai, and we believe the level and
pace of new supply will determine whether the trend continues.
The exposure of banks in the UAE to the real estate sector has remained stable at high levels, but is likely to
increase in coming years.
Oversupply, loss of confidence by the large share of foreign investors, or a sudden sharp tightening in U.S.
monetary policy could ignite a correction.
Tighter lending caps should protect the asset quality of banks in a downturn, but not spare them entirely
because of the weight of the property sector in the UAE economy.
Solid GDP Growth Is Supporting The Sector
We have seen about a 60% rise in prices over the past couple of years in Dubai, according to data by REIDIN.com.
Prices in the Emirate have reached pre-crisis levels in prime areas, while prices in Abu Dhabi are still below their 2008
peak. Over the past couple of months, real estate prices have shown signs of stabilization, particularly in Dubai. We
believe supply will drive future prices trends in the UAE, and we see a significant amount coming to market in Dubai,
but less so in Abu Dhabi.
The real estate sector is basking in good economic growth in the UAE, which is likely to remain healthy. We forecast
GDP growth of 3.8% in 2014 and 2015. The country is also stable, compared to instability in some countries in the
wider Middle East region. That and low interest rates are attracting strong external demand for Dubai real estate from
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 2
1320318 | 300051529
regional and international investors. Looking ahead, Dubai has won host rights for the World Exposition in 2020, which
is likely to boost the Emirate's investment in infrastructure, construction, job creation, and ultimately demand for real
estate.
Chart 1
External Demand Is Strong
Real estate transaction volumes increased by about 50% over the past year in Dubai. Land sales reached United Arab
Emirates dirham (AED) 120 billion in 2013--excluding remortgages and donations--compared with AED49.5 billion in
2010, according to Dubai's Real Estate Regulatory Agency. However, sales volume is still below its AED188.4 billion
peak of 2008 (see chart 2).
We are using land sales as a proxy for total demand (land and residential real estate) because this times series is not
publicly available. One figure we do have showing total demand is for land and housing real estate transactions in
2013, which reached AED236 billion compared with AED154 billion in 2012. Notably, they were almost evenly split
between local (AED122 billion) and external demand (AED114 billion) (see chart 3).
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 3
1320318 | 300051529
UAE Banks And Real Estate Lending: Is It Different This Time?
Chart 2
Standard & Poor's views this significant presence of foreigner investors as potentially negative for the market's overall
stability. Indeed, during the last real estate cycle, we understand that a significant portion of foreign investors exited
the market entirely, accentuating the nosedive in prices. Generally speaking, nationals arguably have a greater
long-term incentive to hold their investments, while foreigners might have a greater incentive to sell and leave the
country. We think the tendency to sell is even greater for off-plan sales where locals as well as foreigners are likely to
sell if prices trend downward. Additionally, given the country's employment structure, the loss of jobs in a down cycle
is significantly more pronounced among foreign workers and expatriates than among UAE nationals.
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 4
1320318 | 300051529
UAE Banks And Real Estate Lending: Is It Different This Time?
Chart 3
New Lending Caps Are A Buffer
This report draws on our analysis of data for construction and real estate mortgage loans published in the quarterly
reports of the Central Bank of the UAE. Furthermore, we use the total of these loans as a proxy for the banking
system's exposure to the country's real estate sector. We understand that this approach may inflate the exposure
because they may also include infrastructure projects or loans for business purposes backed by real estate. We
understand that a significant chunk of the loans are related to Dubai, but the data provide no geographical breakdown
by emirate, which would be useful.
Looking at the growth of these loans suggests (see chart 4):
Construction-related loans have increased over the past 12 months. However, some of the rise, we understand, was
due to the reclassification of some exposures in 2013. We expect the rise to continue because real estate developers
are launching big new projects.
Mortgage loans--including residential mortgages, commercial mortgages, and other loans backed by real
estate--have remained almost stable in the past year. However, we foresee an acceleration in 2014 as new local and
expatriate customers seek to enter the market.
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 5
1320318 | 300051529
UAE Banks And Real Estate Lending: Is It Different This Time?
The banking system remains highly exposed to the real estate sector. Loans to the sector represented about 30% of
total loans and 122% of total equity at year-end 2013. That's still below the peak in 2008, when total exposure to the
sector was almost 150% of banks' equity.
Chart 4
The trends above mean that in case of a correction in real estate prices, more than one-quarter of the UAE banking
system's loan portfolio is exposed to risk. In addition, the real estate sector constitutes one of the pillars of the
economy of Dubai and more generally of the UAE, contributing about 20% of GDP in 2013. The spillover effects of a
potential correction on other sectors and on the job market could find its way back to the banking system through its
exposure to other sectors or to personal loans.
However, we believe the new caps on mortgage lending are likely to help prevent the worst excesses. The Central
Bank of Dubai established the regulatory caps on LTV ratios on Oct. 28, 2013. For UAE nationals, the cap is 80% for
the first owner-occupied property that a UAE national purchases below AED5 million ($1.36 million). The cap declines
to 70% of the loan value for property costing above AED5 million. For any subsequent purchases (investment units),
the LTV cap for UAE nationals is 65%, regardless of the property price. For non-nationals, the LTV cap is 75% for the
first property priced below AED5 million, and 65% for the purchases above this amount. For any subsequent purchases
the LTV cap for non-UAE nationals is 60%, regardless of the property value. Although we believe these caps could
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 6
1320318 | 300051529
UAE Banks And Real Estate Lending: Is It Different This Time?
help the banking system hold up better to a hypothetical mild correction, risks will continue to build if banks rapidly
expand their exposure to the real estate sector.
What Could Ignite A Correction?
Several factors could cause the real estate sector in Dubai to slide back into a correction. The three most prominent
factors in our view are linked to large government-related developers, foreign investors, and U.S. monetary policy.
The large government-related developers active in the Dubai market, including Emaar Properties PJSC, Nakheel,
Meraas, and Dubai Group have access to large land parcels held at low cost. With development margins estimated at
above 50%, absent any coordinated effort to manage supply, developers are likely to continue adding new stock to the
market, eventually pushing prices lower. The government has an interest not only in maximizing the earnings capacity
of government-related property developers, and in ensuring the development and availability of affordable housing in
Dubai, but also in avoiding another severe correction of real estate prices.
A loss of confidence from foreign investors could lead to property sales, and a drop in prices. A number of scenarios
could lead to investor flight: a worsening in the macroeconomic outlook of the country from local political
developments or a materialization of geopolitical risks in the region, for instance, or a sharp decline in oil prices that
could hurt the oil-dependent Abu Dhabi economy. However, these are not our base case scenarios.
A correction could also follow a sudden tightening of U.S. monetary policy, which could reduce global liquidity in
general and specifically foreign investment flows into the UAE real estate sector. However, we expect the Federal
Reserve to continue to gradually taper its quantitative easing program throughout 2014 and do not foresee any major
increase in U.S. interest rates.
Our base-case scenario excludes a severe property price correction in the UAE within the next 12 months. For that
reason, as well as healthy economic growth and an upbeat corporate sector, we believe that the banking system in the
UAE has good prospects for now.
Related Criteria And Research
Related criteria
Banks: Rating Methodology And Assumptions, Nov. 9, 2011
Banking Industry Country Risk Assessment Methodology And Assumptions, Nov. 9, 2011
Related research
Dubai-Based Residential Property Developer Damac Real Estate Development And Sukuk Notes Rated 'BB';
Outlook Stable, April 28, 2014
UAE Banking Sector Outlook 2014: An Uptick In Lending And Economic Activity Signal Continued Profitable
Growth, Jan. 21, 2014
Banking Industry Country Risk Assessment: United Arab Emirates, Jan. 21, 2014
Credit FAQ: How The UAE's Lending Caps Affect Domestic Banks, Government Entities, And The Capital Markets,
Jan. 13, 2014
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 7
1320318 | 300051529
UAE Banks And Real Estate Lending: Is It Different This Time?
Credit FAQ: How The United Arab Emirates' Caps On Mortgage Loans Will Affect Banks And Property Developers,
Nov. 18, 2013
Under Standard & Poor's policies, only a Rating Committee can determine a Credit Rating Action (including a Credit Rating change,
affirmation or withdrawal, Rating Outlook change, or CreditWatch action). This commentary and its subject matter have not been the subject
of Rating Committee action and should not be interpreted as a change to, or affirmation of, a Credit Rating or Rating Outlook.
Additional Contact:
Financial Institutions Ratings Europe; FIG_Europe@standardandpoors.com
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 8
1320318 | 300051529
UAE Banks And Real Estate Lending: Is It Different This Time?
S&P may receive compensation for its ratings and certain analyses, normally from issuers or underwriters of securities or from obligors. S&P
reserves the right to disseminate its opinions and analyses. S&P's public ratings and analyses are made available on its Web sites,
www.standardandpoors.com (free of charge), and www.ratingsdirect.com and www.globalcreditportal.com (subscription) and www.spcapitaliq.com
(subscription) and may be distributed through other means, including via S&P publications and third-party redistributors. Additional information
about our ratings fees is available at www.standardandpoors.com/usratingsfees.
S&P keeps certain activities of its business units separate from each other in order to preserve the independence and objectivity of their respective
activities. As a result, certain business units of S&P may have information that is not available to other S&P business units. S&P has established
policies and procedures to maintain the confidentiality of certain nonpublic information received in connection with each analytical process.
To the extent that regulatory authorities allow a rating agency to acknowledge in one jurisdiction a rating issued in another jurisdiction for certain
regulatory purposes, S&P reserves the right to assign, withdraw, or suspend such acknowledgement at any time and in its sole discretion. S&P
Parties disclaim any duty whatsoever arising out of the assignment, withdrawal, or suspension of an acknowledgment as well as any liability for any
damage alleged to have been suffered on account thereof.
Credit-related and other analyses, including ratings, and statements in the Content are statements of opinion as of the date they are expressed and
not statements of fact. S&P's opinions, analyses, and rating acknowledgment decisions (described below) are not recommendations to purchase,
hold, or sell any securities or to make any investment decisions, and do not address the suitability of any security. S&P assumes no obligation to
update the Content following publication in any form or format. The Content should not be relied on and is not a substitute for the skill, judgment
and experience of the user, its management, employees, advisors and/or clients when making investment and other business decisions. S&P does
not act as a fiduciary or an investment advisor except where registered as such. While S&P has obtained information from sources it believes to be
reliable, S&P does not perform an audit and undertakes no duty of due diligence or independent verification of any information it receives.
No content (including ratings, credit-related analyses and data, valuations, model, software or other application or output therefrom) or any part
thereof (Content) may be modified, reverse engineered, reproduced or distributed in any form by any means, or stored in a database or retrieval
system, without the prior written permission of Standard & Poor's Financial Services LLC or its affiliates (collectively, S&P). The Content shall not be
used for any unlawful or unauthorized purposes. S&P and any third-party providers, as well as their directors, officers, shareholders, employees or
agents (collectively S&P Parties) do not guarantee the accuracy, completeness, timeliness or availability of the Content. S&P Parties are not
responsible for any errors or omissions (negligent or otherwise), regardless of the cause, for the results obtained from the use of the Content, or for
the security or maintenance of any data input by the user. The Content is provided on an "as is" basis. S&P PARTIES DISCLAIM ANY AND ALL
EXPRESS OR IMPLIED WARRANTIES, INCLUDING, BUT NOT LIMITED TO, ANY WARRANTIES OF MERCHANTABILITY OR FITNESS FOR
A PARTICULAR PURPOSE OR USE, FREEDOM FROM BUGS, SOFTWARE ERRORS OR DEFECTS, THAT THE CONTENT'S FUNCTIONING
WILL BE UNINTERRUPTED, OR THAT THE CONTENT WILL OPERATE WITH ANY SOFTWARE OR HARDWARE CONFIGURATION. In no
event shall S&P Parties be liable to any party for any direct, indirect, incidental, exemplary, compensatory, punitive, special or consequential
damages, costs, expenses, legal fees, or losses (including, without limitation, lost income or lost profits and opportunity costs or losses caused by
negligence) in connection with any use of the Content even if advised of the possibility of such damages.
Copyright 2014 Standard & Poor's Financial Services LLC, a part of McGraw Hill Financial. All rights reserved.
WWW.STANDARDANDPOORS.COM/RATINGSDIRECT MAY 20, 2014 9
1320318 | 300051529