Abu Dhabi, UAESunday 16 June 2019

What the year ahead may look like on the UAE's business front

Rising interest rates will impact economy, real estate sector will recover

The real estate sector will transition in a big way to off balance sheet financing and will grow tremendouslyTasneem Alsultan/Bloomberg
The real estate sector will transition in a big way to off balance sheet financing and will grow tremendouslyTasneem Alsultan/Bloomberg

My economic, business and financial predictions for 2018 and beyond. These are forward looking statements that should not be relied on to make decisions.

  1. The US Federal Reserve will continue to raise interest rates. The Fed already signaled it will tighten monetary policy, which is what raising interest rates does, due to the expansionary fiscal stimulus of the US President and Congress in reducing taxes. This prediction is of high probability given the Fed’s announcements late last year. The effect of tightening on the UAE will make a challenging economic environment even more challenging as US tightening is imported into the UAE’s economy via the dollar – dirham currency peg. Companies with large net interest bearing liabilities, such as bank debt, will especially feel the pressure.

  2. The real estate sector will transition in a big way to off balance sheet financing and will grow tremendously. Traditionally real estate is backed by debt or a mortgage to generate the necessary yields. The increased interest payment burden will make this difficult if not prohibitive. The result will be the use of funds for real estate managers. One such structure is a REIT and the number and size of these REITS has increased dramatically. This growth will be driven by two main drivers. The first driver is a hunger for yield, for investments that pay a regular amount of cash such as rent. The second driver is the need for asset managers to keep the yield spread relative to deposits constant. As interest rates increase the yields on lower risk, bank deposits increase and interest payments by leveraged managers also increase. The latter point is true of investment managers in any asset class.

  3. The construction sector will see a pick up in business driven by Expo 2020 related project work as well as higher average oil prices in 2018 relative to 2017. This growth will also be driven by the above mentioned real estate demand. The construction sector will stop rationalising their businesses and return to business as normal.

  4. Main contractors will be able to start paying their subcontractors again, who in turn will be able to pay the banks off. This will lead to reversals in non performing loans (NPLs) and write offs by banks giving them a one time boost on profits. Furthermore, banks will normally increase the interest on their loans faster than they do on their deposits which also will lead to a profit boost in 2018. This will encourage banks to lend more easily than in 2018 leading to a liquidity boost in the economy.

  5. Boost in real estate, the construction sector and banking sector will lead to a general surge in the equity markets, as the positive sentiment overcomes the extra cost of margin trading and the logic that higher interest rates are in general worse for company performance. Easier lending at higher rates as discussed above will lead to riskier portfolios as investors invest into a tightening economy using higher and more expensive, but looser, leverage.

  6. The new UAE economy, which was born in 2017, will grow in 2018 and mature in 2020. Economy 2.0 lays the foundations for an emerging market to develop into a mature market.

    1. Accountability will take precedence. The scale of economic loss, both direct as well as opportunity costs, will sweep aside any willingness to allow previously accepted rationalisations. Executives who have failed will be replaced quickly. Consultants who do not add value will be blacklisted.

    2. The ad hoc accountability measures will be institutionalised in the form of stronger corporate governance. This drive for corporate governance will take the form of more aggressive enforcement of our already strong regulations and laws as well as by shareholders strung by Economy 1.0.

    3. Stronger corporate governance will lead to a more meritocratic economy. Companies will primarily gain business by the quality and cost of their goods and services. Meritocracy is critical as it leads to competition.

    4. As Economy 2.0 becomes more competitive this will in turn spur three main drivers of economic growth:
      1. Efficiency: doing more with less;
      2. Effectiveness: doing the right things; and
      3. Innovations: doing new things and/or doing things in a new way.

    5. An efficient, effective and innovative Economy 2.0 driven by free market competition with strong governance and accountability will attract massive foreign direct investment hungry for new opportunities.

Will all of this happen in 2018? No. But I believe we will see most of the first five points come true, a false patina of growth and returns that will attract money. Then again, I could be wrong and businesses will act intelligently and continue to transform themselves so as to thrive in Economy 2.0.

Updated: January 4, 2018 06:23 PM