Ben Aris in Moscow -
“For the first time in Russian history the entire Russian real estate market is priced in rubles,” says Nikolay Kazansky, the managing partner of leading Russian developer Colliers International.
The economic slowdown and oil price-driven drastic devaluation of the ruble has caused huge structural changes on Russia’s real estate market. Colliers has been around since the beginning and built many of the iconic new skyscrapers that dot Moscow’s skyline, but Kazansky is stoical about the sector at the moment.
“In previous crises the sector went down, but now if you have a balanced business model you can still make profits and there are opportunities to set up new business lines,” says Kazansky from his corner office in the tallest skyscraper in Europe, part of the Moscow City development his firm helped to put up.
This crisis has been particularly nasty, but many of Russia’s leading firms have become inured to the violent economic swings – and are prepared for them thanks to bitter experience. Keep a lot of cash on hand and don’t expose yourself to exchange rate risks has long been the modus operandi of Russia’s top businesses. Kazansky echoes an increasingly common sentiment amongst the top businessmen bne IntelliNews interviewed in the last six months: “We have to make sure we don’t waste this crisis. We have the opportunity to increase our market share and develop new services.”
Real estate rollercoaster
You could accuse Colliers of over-optimism as the real estate market has been hard hit by a multiple string of whammies. The office market has been hit especially hard, including the Moscow City complex where the interview took place; some of the class A offices have been temporarily turned into backpackers hotel rooms to tide the owner over.
Vacancy rates in the office segment has jumped to 15%, which is still not quiet as bad as the 16.5% peak it reached in 2009, but still way up on the 4.2% pre-crisis average in 2007. The sector’s saving grace is that while A-grade office space is definitely out of fashion, the B-grade is being bolstered by tenants of C-grade (basically renovated Soviet-era space) upgrading one notch as the rents of B-grade are the same as C-grade used to be. The situation in retail is a bit different with a record amount of new shopping centre space coming on the market this year.
But in both cases the driver is the fact that it takes several years to complete a large development so investors are in effect betting on the direction of the future economy. As the majority of the big projects were started in 2011 and 2012 when the Russian economy appeared to be coming out of the 2008 crisis, it was not unreasonable to start building again. Kazansky boldly suggests that given there is another crisis now, perhaps this is the time to invest.
There is certainly a new real estate landscape. What is new in this crisis is the contracts for both rental and purchase are now being struck exclusively in rubles for the first time. In Russia’s regions the trend over the last several years has been to do deals denominated in rubles, but as the projects in Moscow are so much bigger and almost always financed using cheaper long-term capital raised abroad, the deals were also denominated in dollars. The imposition of financial sanctions by both the US and European Union (EU) means that developers are now cut off from this source of money and have had to turn to domestic banks.
“The problem is there is the debt on the Russian market is much shorter term and a lot more expensive,” says Kazansky. “Now everyone is either pricing their deals directly in rubles or indirectly by introducing exchange rate caps into the deal.”
Following the collapse of the oil price in December the Central Bank of Russia (CBR) was forced to hike rates to 17.5% making financing real estate projects uneconomic. Since then the CBR has cut rates five times in a row, but with inflation starting to rise again in September it left the rates on hold at the last monetary policy meeting and analysts don’t expect the rate cuts to resume again until the new year.
“The key question now is how to finance a project,” says Kazansky an ebullient man sitting at a desk bathed in the autumn sunshine streaming through the floor-to-ceiling glass windows that look out on a vertiginous drop to the Moscow River river below.
And that problem is currently out of the hands of the business community. Obviously rate cuts will make available ruble-financing for developers, but Kazansky points out that the government – the CBR, Ministry of Finance and Ministry of the Economy in particular – need to develop some sort of policy to create long-term cheap resources for business, things like pension and insurance funds.
In the meantime, there is some limited international financing available (President Vladimir Putin’s deoffshorisation policy has lead to the return of some Russian flight capital, much of which has gone into real estate as a safe haven) and other companies are reassigning credit deals signed before the ruble's crash at the old rates to fund new projects, says Kazansky. But these are stopgap measures.
Warehousing means room to expand
However, the news is not all bleak. Warehousing is one sector that continues to grow unperturbed: Kazansky says that Colliers will complete not less square metres of new warehouses this year as it did last year. The problem is that while rental rates for new space have not changed in ruble terms, obviously that is way down on 2014 value terms. In effect the entire sector has had to rerate to new values, which are substantially down in dollar terms year-on-year.
“A lot of retail is a ‘bread and circuses’ business: it doesn’t matter how bad the crisis gets, people still have to feed, clothe and entertain themselves and so this business continues and the companies in that sector continue to have sales and grow,” says Kazansky. “So they are consolidating their logistics and warehousing remains in demand, which they can now get at cheaper prices, so some companies are actively investing into logistics while the prices are low.”
The total volume of new warehousing coming on the market in the first half of this year was 637,000 square metres, slightly down on the 716,000 sqm in the same period last year. But Kazansky says he is expecting to finish this year with a total of 1.6mn square metres, which is at least as good as last year.
More intriguingly, he speculates that there may be an uptick in the demand for industrial real estate in the new year on the back of the cheaper ruble.
“We are expecting a growth in manufacturing in 2016. Russia is a lot cheaper now. This isn’t the 1990s any more when we had nothing. Now a lot of the infrastructure is in place and unemployment is low so the people have money. In 2009 we saw an increase in investment into manufacturing after the ruble fell that time and this time round it is more dramatic.”
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