Before the 2008 recession hit the western markets hard, it was a well known fact that the stock markets (which are deemed to be more risky than the real estate and construction industry) would in the long run give averagely higher returns. Yet it has emerged in Kenya, the construction industry’s returns for the past five years have been ironically at 283% while the stock market stood at 225% since 2000 according to Hass Property index.
A closer look will reveal that a great amount of investments have actually been diverted to the industry and it does not seem to be heading anywhere in the red zone.
The Central Bank of Kenya released the mortgage finance report showing that Kenya’s mortgage finance market had more than tripled in the last five years from 19 billion in 2006 to 61 billion in May 2010 the survey carried out jointly with the World Bank also showed that the number of mortgages for example had grown from just less than 8,000 to more than 13,000 in the same period. Still the value of approved building works by the council and town planners rose from Kshs 38 billion in 2005 to more than double at Kshs 77 billion according the 2010 economic survey. Several factors can be identified in the prognosis of what went wrong for the stock markets or otherwise what the construction industry’s strength has been.
Top of these factors is the risk levels which are represented. The ownership of land and its extensions is generally understood to have lower risks of loss of the original capital. Further due to the lack of liquidity of land as opposed to stocks and financial derivatives it is thought to represent a lower level of risk. In this case we are referring to the risk that is generally thought as the risk of price fluctuation. Indeed real estate is regarded as the psychological equivalent of gold due its tangibility and perceived safety of value.
Perception has also played a big role in the shift of success. Generally the belief that land represents a better asset than financial assets derivatives was solidified. This is attributed to the stock market tumble in 2008 as opposed to the general resilience displayed by the construction and real estate industry. It will be worthy to note however that the recessionary reaction was atypical since both industries experienced huge losses in the US and Europe with house prices going as far as quarter prices of the original prices. Why the case was different in Kenya and other African countries is an unexplored area of study, but several factors can be assumed to have contributed.
One is that our markets had not accumulated such level of toxic assets as experienced elsewhere (such as the infamous sub-prime mortgages and the rather complex derivatives related to real estate such as the Collaterised-Debt-Obligations CDOs) and thus our financial markets were not at risk of failure, but nevertheless performed worse due to perception. Having assumed our financial institutions were safe from imminent bankruptcy we can logically put across the notion that the real estate and construction industry must have gained at this perceptual transfer.
It will be noted that in advanced economies the financial markets are intertwined with real estate and construction industry due to securitization of REITs (real estate investment trusts) and securitization of some of the debt obligations in real estate. This led to banks giving more debt than was deemed practical to the real estate sector and creating a real estate bubble that would burst with any shaking of the financial markets. In contrast in Kenya there is very little debt, for example, in the real estate and this is given to strict criteria for qualification (which reduces the risk of default). Again the interconnection between financial markets and real estate is one of necessity and mutual hence avoiding the pitfall of the western markets which created a situation analogous to Siamese twins who share too much together if one goes down for any reason, for the other it is just a matter of time before going down with the same illness or related.
The Kenyan position of success has been further attributed to several local factors. One is the multibillion project of the Thika-Nairobi Highway expansion which from the onset will unleash a whole range of opportunities in construction as well as real estate. This is within the background of an overpopulated city of Nairobi with persistent traffic problems tends to open up more room for expansion of the industry. Indeed the Kshs 240 billion Tatu City project is exemplary of the impact of the road expansion as well as the success of the industry.
Further with a demand of 150,000 houses against an estimated demand of 35,000 the economics of price especially in the housing sector only point towards higher prices.
So the big question is where the investor does then put his money for better returns? Well it all depends on his risk appetite and despite the stellar performance of the construction industry, risks will still abound and one has to be aware of them before putting your money in the industry. But the gravy train is still with construction and real estate, so you can hop in while it lasts.
Jasan Wanyoike Njoroge