Real estate bubble? In Kenya, the foundations stand strong IN SUMMARY A real estate specialist compares Kenya’s property market to that of the US before the housing crisis of 2009... and finds little in common Strong foundations: The analysts have been at it for years now, projecting the crumbling of Kenya’s housing sector in no less than a few months. Those months have turned into years, yet the prices keep growing, raising questions about the financing of the sector. What is wrong — or, more aptly, what is right — with Kenya’s real estate industry? Protus Nyamweya, a property dealer with over 11 years’ experience in the US and Kenyan housing market, knows all to well what a real estate bubble can do to an economy, having found himself in the middle of the American housing crisis in 2009. So dire was the situation across the pond that Mr Nyamweya closed only one deal in 2010, and so he decided to pack up and head home with the lessons. That famous American housing bubble burst was the result of a large number of home owners who struggled to pay off their mortgages after the low introductory rates they had signed up for reverted to regular interests, shocking the industry to the core. Mr Nyamweya, who is now the executive director of the local arm of Proam Group Ltd, the company he founded in 2004 in Atlanta, Georgia, offers insight into what the country’s booming real estate market must do to avoid going down the same road. As he does that, he is optimistic still, believing that the local property market is yet to start showing the cracks he witnessed in the US pre-2009. “Although the real estate markets in Kenya and America have similar basic concepts, they are as different from each other as night is to day,” he says. “Kenya has experienced this boom since 2001 and has a lot of advantages that can help it avoid going down the dangerous way America trudged.” Below, the Kenyan advantages, according to Mr Nyamweya: 1 Housing Tax Policy Kenya does not have a clear and understandable tax gain. Real estate buyers in Kenya are taxed through their teeth, and this makes them think twice before buying. The real estate Housing Tax Policy in America became the only safe avenue to escape capital gains under the tax relief of 1997 and Section 1034 Exchange. A couple could avoid paying up to $500,000 (Sh42.5 million) in capital gains for up to two years. 2 Mandated loans These loans were easily accessible and consequently led to explosion of sub-prime mortgages in the US. There was also a lot of carelessness and laxity in lending standards. Basically, loans were extended to Americans who could not afford paying for them. Everyone who had a social security number, (the equivalent of a Kenyan PIN), and an income, however small, qualified for a mortgage. More loans were given out to potential home owners and housing prices began to rise. That easy availability of credit fuelled a huge flow of foreign funds, continually facilitating debt-financed consumer spending. Mortgage loans were being paid against the interest only — a small part of the actual mortgage loan given, unlike in other countries, including Kenya, where the principal and tax are part of the package in repaying a mortgage. “Clearly, this is a problem that Kenya does not have and, I suspect, will not have in the near future. There are a lot of rigidities in lending for mortgages and Kenyans are yet to embrace debt-financed credit,” states Nywamweya, adding that in Kenya you need 10-30 per cent of the development finance to get a loan approved. 3 Lower interest rates Kenya does not have Adjustable Rate Mortgage loans (ARM) which feature balloon payments at the end of the term. Our typical term is 10- to 15-year straight loans at current market rates and nothing special. So do not be hoodwinked, it is still very hard to get a loan to buy real estate in Kenya. In the US, interest rates were historically low. Because of easy access to money to buy property, Adjustable Rate Mortgage loans with balloon payments became the norm. You could buy at a rate of three per cent on a no-document loan and have the rate adjust as you make payments for five to seven years with a balloon payment at the end. The goal was to buy and refinance or sell the property before expiry of the term, or refinance. Unfortunately, many of those caught between refinancing and sale of property could do neither. They could not sell because the supply by far outstripped the demand. 4 Home ownership craze Americans’ love for homes is widely known and acknowledged. That fascination with homes, coupled with the above factors, meant that buying homes was easier than buying a car. Acquiring a property in the US took 30 to 45 days if financing was credit-based, while cash buyers took less than a week. As interest rates started rising, it became apparent that the homes were quickly becoming “unaffordable”, hence those who had mortgaged them gave up on payments. In contrast, home ownership in Kenya is still regarded as tough and difficult. Only a few people actually get through the process. Land title and transfer bottlenecks are issues property buyers are still grappling with in Kenya, and such processes at times take months on end to be completed. 5 Beliefs on housing investments Among Americans, home ownership is widely accepted as preferable to renting, especially when the ownership term is expected to be at least five years. This is partly because the fraction of a fixed-rate mortgage used to pay down the principal builds equity for the home owner over time, while the interest portion of the loan payments qualifies for a tax break — whereas, except for the personal tax deduction often available to renters, money spent on rent is deemed wasted. In Kenya, the only exception is that the rate and payments are higher, so there is need for careful understanding of what you are buying and the long-term consequences. Though many believe home ownership is a good investment here, few can afford it, so there are no beelines outside banks for mortgages. The market is there, the boom too, but none is comparable to the climate witnessed in the US five years ago. 6 The crash of the Dot-Com bubble, The Stock Market crash — or Dot–Com bubble burst — in 2000 resulted in many people withdrawing their money and investing in real estate, which was believed to be a more reliable investment. This opened up a haven for speculators who moved from stocks to real estate. Kenya has speculators, but they buy and hold, selling at higher price after improving the property. It is thus a ‘willing buyer, willing seller’ market. 7 Return to higher rates Between 2004 and 2006, the Federal Reserve System raised interest rates 17 times, increasing them from one per cent to 5.25 per cent. The Federal Reserve System then paused raising interest rates because of the concern that an accelerating downturn in the housing market would undermine the overall economy, just as the crash of the Dot-Com bubble in 2000 had contributed to the subsequent recession. Nyamweya says 90 per cent of Americans were, and still are, borrowers living on credit cards and small incomes. So when the bubble burst, a large number of home owners were unable to pay their mortgage as the low introductory rate reverted to the regular interest rates that took into consideration the principal and tax as part of the repayment. This return to higher rates made homes unaffordable and many homeowners were left holding negative equity, hence foreclosures. This is not a factor that we can apply locally, thus we cannot make a viable comparison. Here, buyers invest in properties well aware of the incredibly high rates, therefore, mortgage payments do not change that much. 8 Risky products Kenya requires full documentation before a loan is approved, with at least a 10 per cent deposit. We do not have zero-per-cent-deposit loans, neither do we have interest-only loans. Thus, creating a bubble in Kenya is impossible. The use of sub-prime mortgages, adjustable rate mortgages, interest-only mortgages, and stated income loans — no documentation loans — where the borrower did not have to provide documentation to substantiate the income stated on the application to finance home purchases described above, have raised concerns about the quality of these loans should interest rates rise again or the borrower be unable to pay the mortgage. Mr Nyamwea concludes that, if ever Kenya gets to experience a ‘housing bubble’, it will not mirror America and other parts of the world, because we have always been in recession, though in manageable scales. House prices might drop, because our economy is smaller and less than 30 per cent of Kenyan buyers actually borrow, but the majority of Kenyan buyers still save money to buy or, if borrowing, do so for a very short period of time, with most paying off the loans in less than five years. “I will, however, say that the next six months will determine if prices continue rising, plateau or drop, but still, I do not expect to see prices get worse than 2007. So buy now and sell later... or forever regret it,” he concludes.
Posted on: Sat, 08 Jun 2013 20:13:30 +0000
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