Too Early to Declare Real Estate Revival

Heiko Davids
Partner
Knight Frank Russia and CIS

In 2009, we witnessed a sudden and severe correction of the real estate markets in Russia. After a decade of consecutive growth and skyrocketing rental rates and purchase prices at the peak of the market in early 2008, the real estate bubble burst as the economic crisis arrived in Russia. In the aftermath, rental rates and purchase prices dropped on average by nearly 50 percent until the fourth quarter of 2009 while demand plunged and vacancy rates increased to 1998 post-crises levels.

A number of economists and real estate experts even predicted a further decline toward the end of 2009.

Thankfully the decline did not continue for as long as that. The Russian economy recovered quicker than predicted because of higher than forecasted average commodity prices throughout the year. The forecast wave of distressed property sales did not happen either, mainly since banks were trying to restructure their nonperforming loan portfolios rather than terminating loans and liquidating the properties that they had taken as collaterals.

On the contrary, since the fourth quarter of 2009 there was increased demand from occupiers and buyers/investors, who had been taking advantage of the rent/price corrections, and so rental rates and purchase prices bottomed out in the autumn of last year. Increased competition between occupiers and buyers had already resulted in rent/price increases for quality properties. So it may seem that the worst is over and that business is returning to normal in 2010. However, this is not definite.

The Russian economy and the property markets are still vulnerable and highly dependent on fluctuations in commodity prices. There are a number of indications that the recovery of the world economy might slow down in 2010 with potential default scenarios of various countries such as Greece, Ukraine, Argentina, the Baltic states and others.

In particular China, which had been the world’s generator of economic growth in 2009 and the driving force behind the recovery of commodity prices, might face severe troubles if the U.S. $600 billion government infrastructure program — which accounted for most of China’s growth last year — does not result in self-sustainable growth of its economy this year.

This growth is not guaranteed since China’s domestic consumption only accounts for about 30 percent of its overall gross domestic product and its exports, which in the past have been the main driver of China’s economic growth, are still likely to be weak this year. If China fails to keep last year’s growth rates, commodity prices will come under pressure again and negatively impact Russia’s real estate markets as well. It is therefore too early to proclaim a revival of real estate markets in Russia — 2010 is going to be a difficult year that might provide unwanted surprises.