Dubai’s woes could hit the fragile US real estate market

Source : Business Times – 30 Nov 2009

Dubai World, with US$59b of debt, set off a global stock market selloff last week

Dubai’s debt woes could further unhinge an already fragile US commercial real estate, as it illustrates the importance of that tiny country to global investors in an increasingly interconnected world.

A state-owned investment conglomerate Dubai World, with US$59 billion of liabilities, set off a global stock market selloff last week after it said it wants to restructure its debt, including at its property subsidiary Nakheel.

‘This downturn has had more of a global impact,’ said Tony Ciochetti, chairman of Massachusetts Institute of Technology’s Center for Real Estate in Cambridge, Massachusetts.

‘As I try to explain to my students, with a global economy, we’re all attached at the hip financially in some way, shape or form,’ he added.

The Dubai news also cast doubt over the strength of the fledgling US economic recovery, and the prospects for a bottoming of property prices.

On Friday alone, the Dow Jones US Real Estate Index fell 2.9 per cent, nearly twice the decline of broader US market indexes. ‘Dubai may have to unload some very prestigious properties at distressed prices and this will drive the price of all commercial real estate lower,’ wrote Richard Bove, a banking analyst at Rochdale Securities in Lutz, Florida.

In the US, Dubai World’s portfolio includes several well-known properties, and the fallout could have a larger impact on the entire real estate market.

The company is a partner with casino operator MGM Mirage in the US$8.5 billion CityCenter project, which would add 6,000 rooms to a Las Vegas Strip gambling corridor already saturated with unoccupied hotel rooms.

Nakheel, perhaps best known as the developer of Dubai’s palm-shaped islands, also carries the Mandarin Oriental and W hotels in New York in its portfolio, and has a 50 per cent stake in the Fontainebleau Miami Beach resort.

And, through its Istithmar affiliate, Dubai World controls the upscale retailer Barneys New York Inc.

The main threat to US commercial property from Dubai World woes may be ‘potential for contagion’, said Sam Chandan, chief economist at Real Estate Econometrics LLC in New York. ‘It has the potential to spill over into the broader perception of real estate development and real estate as being a very risky area for exposure,’ Mr Chandan said.

Many have already been burned.

US commercial real estate values have already fallen 42.9 per cent from their 2007 peak, Moody’s Investors Service said. Last month, delinquencies on US commercial real estate loans that were packaged into commercial mortgage-backed securities reached 4.8 per cent, more than six times the year earlier level, according to Trepp LLC in New York.

In a Nov 23 report, Moody’s analyst Nick Levidy said prices could bottom at 45-55 per cent below their peak, implying an additional 5-28 per cent decline, but in a ’stress case’ could drop 65 per cent from their peak. Like US investors, foreign investors were enticed through much of this decade to buy US real estate aided by cheap credit and the hope that property prices would steadily rise for a long time.

Currency fluctuations also provided a boost. And the US dollar lost about one-third of its value against a basket of currencies since late 2002, making it easier for foreign investors to scoop up US real estate even when valuations grew too rich for investors at home.

Dubai World’s holdings go far beyond real estate. It has a 20 per cent stake in Canada’s Cirque du Soleil, and also invests in the global bank Standard Chartered Plc and New York boutique investment bank Perella Weinberg Partners.

Other investments go farther afield – or under water. Dubai World is suing a former executive in a case arising from a wayward foray into submarine financing. But Mr Ciochetti suggested that it is premature to quantify Dubai World’s impact on US commercial real estate.

‘It is hard to focus on any one particular participant and then generalise about the whole market,’ he said. ‘It illustrates that very few places and participants in the commercial real estate market are totally exempt from the global economic crisis.’