Under the current lending structure, the real estate sector is deprived of credit when it needs it the most during a downturn, Kuwait Financial Centre (Markaz) said in its recently released research note. “This is mainly due to the pervasiveness of bank lending which exposes itself to the sector's fortunes by lending the entire value chain,” it said. Examining the current structure of real estate financing and the pitfalls, the report noted that real estate constitutes a significant percentage of the balance sheets of GCC corporate (6.5 percent), and also as an investment asset class (4 percent of total invested wealth) and “is too important to be left to fend its financing needs on its own. The future activity estimates suggests a level of activity, which, if needed to be carried out efficiently, requires an appropriate financing system.” GCC banks source funds from residents' deposits and external funding which need not share the same trend as lending needs. During a downturn, banks have to chase for deposits as external financing gets withdrawn hampering their ability to provide credit. Banks also suffer from the classic borrowing short and lending long problem in their balance sheets as close to 90 percent of the deposits mature in less than a year, on an average, the report said. Apart from bank lending, the current credit structure lacks mass savings organization like pension funds which has a longer term liabilities structure. Sovereign Wealth Funds (SWFs) tends to invest more externally and hence their investment potential are not fully explored. The report pointed out that government intervention becomes unavoidable when a drought in lending occurs because of the ownership structure or because of the huge size of the projects. Bond markets are partially exposed and limited institutional financing and volatile external equity in GCC real estate by wealthy expats are the other associated problems of the current structure, it added. As a solution to the issues, the research note suggested a system where the longer-term financing needs are met by institutions which can afford the longer tenure and limit banks to shorter term and working capital financing. The project life span of master developers averages 10 years and the financing needs should be flexible enough to ride over cyclical downturns, it said. “The longer-term investors like SWFs, pension funds etc, shall be invited to invest in a longer-term financing arrangement either through bond markets or specialized project financing institutions limiting banks to working financing. For developers, the average project life span is 2.3 years and hence banks can continue to finance this section of the value chain. Investors too can be financed by banks if a credit bureau is formed to facilitate banks' judgment of the risks involved in the loan. Heightened regulatory supervision should also be in place to control bank lending for speculative purposes,” the report noted. For end-user financing, the authors of the report studied the structures in the peer emerging market countries and concluded that the structure moves away from a predominantly bank financed one to full-blown securitized structure with or without recourse. “The factors that drive toward securitization are the extent of mortgage penetration, lendable surplus with banks and reform orientation and crisis mitigation,” they said. While mortgage penetration is low (5.1 percent of GDP) in case of Saudi Arabia, the banks' credit-to-deposit ratio is on the rise and mortgage lending is stalled, the report further said. “This suggests that refinancing is inevitable and the much awaited mortgage law should pave way for that along with increased mortgage availability.” Mortgage penetration and lending need is expected to grow in UAE given the future plans in Abu Dhabi, it further noted. Banks' credit to deposit ratio is high, and the need to overcome the current crisis necessitates a government backed refinancing program which can be converted to a full-fledged bond market financing, it added. Kuwait's longer-term development plans are not clear and a credit overseeing authority would preempt legislative measures to control overextension of credit, the study said. The report also said Qatar's financing needs can be met with a systematic government refinancing, as opposed to the current crisis-based refinancing. Bahrain should resort to external finance as it would be exceptional for its banks to grow enough to provide the required credit, it added. __
