UAE Mortgage Rule May Hurt Those it Intends to Protect

01/09/2013 7:00 am EST


The New Year will bring little cheer to house hunters who, as they ushered in 2013, will have learned they may need to double their deposits as a result of a new mortgage lending cap, writes Sean Cronin of The National.

Regulation can move like a pendulum—overcorrecting weaknesses in a market and creating further structural weakness in the process. The enforced cap on loan-to-value ratios threatens to do just this, analysts observe.

It emerged this week that expatriates will only be able to borrow up to 60% for their first home purchase and 50% for subsequent purchases. At the same time, financing for Emiratis was limited to 70% for the first home and 60% for further properties.

The move will hit the very people it aims to protect—home buyers saving for deposits to buy houses they want to live in. The aim may have been to protect the market from the excesses and exuberances of the past. But it is unlikely to achieve that outcome.

A note from Bank of America Merrill Lynch to clients this week makes this point, warning that loan to value limits are likely to affect end-user affordability instead of curbing speculation.

The New Year's Eve news would have landed like a bombshell for anyone in the process of buying a home, and to a lesser extent anyone even thinking about it. For the investor buying an average three-bedroom villa in Dubai for Dh2.7 million ($735,094) this change would mean finding an additional Dh400,000 under the mattress.

Many mortgage-financed purchases will simply fall through—hitting prices and derailing a recovery that was beginning to boost consumer confidence in the wider economy. VTB Capital said that Dubai property transactions could fall by as much as 60%, with prices dropping 20% if the guidelines were implemented in full.

While it is sensible for regulators to prioritize policy aimed at curbing the sort of rampant speculation that led to one of the most dramatic property crashes in the world four years ago, the collapse of house prices in 2008 was not about loan-to-value ratios.

It was about an off-plan funding model that permitted multiple house purchases only on the strength of a deposit—even before a mortgage had been secured—and the onward flipping of such purchases. That created a 42% increase in prices in a single three-month period at the start of that year. The system worked in much the same way as a pyramid scheme.

A lack of due diligence on the part of banks and developers, the absence of credit checks on investors, and a media that failed to point out that the property speculation emperor looked rather underdressed, perfected the storm.

Four years later, many analysts have been dismayed by the trumpeting of relaunched projects by some developers and the eager phone calls to journalists alerting them to queues forming outside their offices with every new launch. Here we go again, we all thought. It was only a matter of time before the bragging brought a response from the regulator.

But end users, not speculators, will be paying the price. It is an extension of a narrative that has also seen end users underwrite the losses incurred by banks from dealing with speculators who skipped the country after the last crash.

While interest rates fell, many mortgage customers were locked into paying rates of between 7% and 10%—even when they had signed up to products sold as tracking either the Fed Funds rate or Eibor.

Many are still unable to tap more attractive deals, trapped by penalty clauses that will be triggered by a transfer of a mortgage to a rival lender. However, these practices have not yet been satisfactorily addressed by the regulator.


The new mortgage caps are part of a broader set of reforms aimed at improving the asset quality of the banking system where bad loan provisions had until recently refused to abate. As local banks' exposure to retail mortgages is less than 5%, this move will hardly improve their balance sheets.

Instead, ratings agencies are much more concerned about the level of lending among and between government-related entities, particularly in Dubai, corporate restructuring in general, and the different ways banks currently account for structured loans.

Ultimately, the fundamental drag on the banking system has been the assumption that asset values (largely property-related assets) would recover quicker than they have.

"This lagging phenomenon is a key to the negative outlooks for most Dubai-based banks, despite strong recoveries in the core sectors of the economy," said Moody's Investor Service in a July 16 report on non-performing loans in the UAE banking sector.

This points to another question raised by the plan to cap loan to value ratios. Now that asset values are finally showing signs of recovery, any move that hurts property prices could by extension hurt the value of assets that indebted companies need to sell to repay their lenders. So this could have the unintended consequence of weakening asset quality underpinning bank lending—not improving it.

Yet beyond all of this is a more basic problem that has nothing to do with the detail of the new guidelines, but is rather about the message it sends to investors and the risk premium they attach to buying property.

If there is no certainty over the rules of the game, where the goalposts are likely to end up, or which way the pitch is sloping, it should not come as a surprise if some investors decide not to play at all.

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