Almost a year after the end of political instability in the country, all market data clearly presents a challenging environment for the property market. Kenya’s real estate industry has been one of the strongest pillars of the economy for several years and therefore normally used to measure economic growth. The temporary strength of the property sector unfortunately was based on the wrong foundations resulting instability and unsustainability which quite quickly changed the market trends and dynamics during the last few years.

The sector’s past overvalued and over marketed success, however, seems to have its own undoing. It created a sort of ‘real estate rush’ which saw every Kenyan rush to build a house or participate in a property project, investing their lifetime savings, pushed by the market manipulated  forces and rumors, anticipating great fortune in return. Unfortunately, the rush to be part of this opportunity was so big that the majority of those who decided to believe and invest in the sector did not consider the real dynamics of the markets. The basic rules of supply and demand, they only start wondering where tenants will emerge the minute the investment is complete, the project is ready but the buyers and the tenants are not there. The end result has been completed residential housing and commercial projects lying idle and empty for several months, in some cases for years. 

Several market analysts, including myself have been giving warning over the years about the sustainability of the market. Unfortunately hardly anyone wanted to hear the truth. The seduction caused by the expectation of the quick and easy enrichment that was promising the supposed upward and unstoppable Kenya real estate market did not leave room for logical thinking.

There were signs all over the market but people refused to see or decided to ignore them. Simple common sense could assist everyone to make rational decisions. If the market was so ideal, offering risk free huge returns, how come the foreign investment in the sector was almost inexistent? Global property companies barely bothered to enter the market, banks instead of issuing mortgages and loans kept a very safe, skeptical, sparing, cautious and restrained attitude limiting real estate purchase finance to a minimum and demanding high interest rates reflecting not only the cost of money as market speculators were claiming but above all the high risk of investment in real estate and the overvalued priced of properties in Kenya.

But one thing is for sure. Numbers do not lie. Over the last three years even the most positive analysts and market research companies release market reports which express with real numbers the tough reality of the market. Despite the effort of those who have a big interest to manipulate the masses regarding the property market for their own benefit and who kept blaming elections and politics for the bad performance of the industry,  speculating that the property market would recover during 2018 and reverse the negative trend of the last three years data show a harsh reality. They point to the same conclusion; Kenya’s property market is now going through a recession period with all relevant indexes making correction moves downwards. Supply and Non-Performing loans are increasing as a result of the underperforming and overvalued market while demand and volumes are decreasing steadily month after month.

A few days ago the Kenya Bankers Association, KBA released their report for quarter three of 2018. As per the report, housing prices were flat in the third quarter of the year, saddled by increased supply of new units despite subdued demand.

The Housing Price Index (HPI) report covering three months to end of September says house prices rose by 1.35 per cent, a slower pace compared to the 1.76 per cent rise in the second quarter of the year, representing a 0.41 percent decline from the 1.76 percent rise during the second quarter of 2018. The softening in house prices manifested in the gradual decline in the rate of price growth seen over the first three quarters of 2018 is a reversal of the up-tick seen in the noticeable rise observed from the fourth quarter of 2017 to the first quarter of 2018.

The state of affairs in the market is a reflection of subdued demand on the back of continued investments in the housing market which remains skewed towards the middle and high income. The overall stability in house prices is inferred from the changes in the KBA-HPI remaining under one percent. This is due to the fact that the market dynamics are tilted towards the influence of demand conditions and are likely to respond to the anticipated changes on the supply side once the developments under the government’s affordable housing initiative come on stream.

The risk appetite of both developers and financiers is equally anticipated to adjust in line with the above observed market dynamics. While the KBA-HPI index remains on a marginal upward trajectory, the fixed base index shows a sustained decline over the past three quarters (Table 1 & Figure 2) during the third quarter of 2018 to stand at 118.75. Similarly, whereas the KBA-HPI index has continued to rise (Figure 2), the rise in house prices has been mild suggesting a sense of broad market stability.

Going back to the first HPI that KBA published, we will find that 2013 Q1 is the fixed base standing at 100 units. Today almost five years later the same fixed base index stands during Q3 of 2018 at 118.75. That represents accumulated growth in a period of almost six years (69 months from Q1 2013 to Q3 2018) of 18.75% or simply an average annual price growth of 3.25%. This price growth in other countries could have been a very positive sign but for a country with the macroeconomic data and challenges like Kenya it is an emergency alert that something is going wrong.

The actual purchase power of the Kenyan shilling since 2013 has weakened more than the increase in property prices. According to available data from the World Bank and Kenya national bureau of Statistics, inflation in Kenya between 2013 and 2017 reached a total of 33.474% while during 2018 the current average inflation is at 5.04%. That means that for the same period that we are examining, inflation in the country exceeded 38% respectively. Considering the fact that since 2013 the Kenyan shilling has also weakened by over 20% and that a fixed deposit account with lower risk than property investment could easily offer annual interest rate close to 10%, government bonds offer yields of 12.6% (10Y) then it is obvious that investing in real estate market for the average investor was not really the best option .

If you had an option to choose between the real estate market which produced an average annual growth rate of 3.25% and a Kenyan government bond offering 12.6% to place your money for five years, do you really know how much money you would lose choosing the first option? Using simple financial mathematics if you wanted to invest 1,000,000 KES in the real estate market with an average yield of 3.25% per annum you will consequently receive 1.000.000*(1.0325) ^5=1.173.411KES. Choosing treasury bonds for the same period of five years and a fixed annual yield of 12.6% you will consequently receive at the end of the investment period the amount of 1.810.005kes. (1.000.000*(1.126) ^5).

Choosing the second option which is definitely safer and has  lower risk as treasury bonds are considered to be sovereign debt, guaranteed by the government while real estate market risk is subject to market dynamics and volatility,  you will make over 635,000 KES more, respectively, during the same period.

But today the question is not any more about how much money one can make from the property market. The real concern is about how much money one can lose or is already losing from the Kenyan property market.

Primarily, there is a basic need to clearly understand what real estate market has been offering over the last few years and review your position on this type of investments for the time being. People usually fall in traps because they misunderstand facts. Several people made big returns from the Kenyan property market boom over the last years and especially between the period of 2009 to 2013. But was that the norm of the market representing the majority of investors or just a fraction of those who participated in the market directly or indirectly.

No-one will disagree with the fact that speculators in several cases have managed to make higher yields than the average, especially those we have been investing in the market using leverage methods and options to maximize the returns of their equity. Developers using marginal capital and big finance with high LTV ratios and high interest rates to balance the market risk, have been developing huge projects creating a perception that the market is booming, that there is margin for further market and price growth .Today the brutal reality displays the real dynamics and strength of the market.

The biggest downside of the market was the lack of an integrated, fully functional market that would have participants from all the necessary real estate sectors, i.e. investors, manufacturers, active financial institutions, sellers, buyers and users. All of these are required to coexist with the appropriate market share but also the necessary purchasing power and investment strategy.

Unfortunately in Kenya, investors, buyers and sometimes developers are consisting of the same group of people. Investors have been investing money to build a project targeting to sell it to another investor or investment group who wanted to buy to rent or flip the property hoping to make more profits. Financial institutions and banks kept a safe distance from the market while no one really did any serious research about the size of the market that could afford to buy the new build properties at the level of asking prices in order to actually use them for their own needs and not for speculation.

Initially, the market was financed by off plan sales as especially small unexperienced investors rushed to participate in the so much promising property market boom buying anything that was available at any asking price, at any stage, even before the project started. That did not last for long because when the market stagnates and there is no turnover on the initial invested capital the market dynamics change. The market is overwhelmed by speculators and has a huge shortage of real users who can afford to buy or rent using their own equity or a bank facility. That obviously does not mean in any way that there not a huge housing shortage in the country. A shortage affecting the majority of Kenya’s cluster of the middle and low financial class. Bearing in mind that Kenya’s middle class affordability has been completely overrated it was a matter of time for the real estate market’s actual dynamics to appear and present another side of the property market story.

For the last almost three years the sector has been breaking negative records one after the other. According to financial sector stability report published by the CBK early September in collaboration with the Retirement Benefits Authority (RBA), Insurance Regulatory Authority (IRA), Saccos Regulatory Authority (SASRA) and Capital Markets Authority (CMA), the real estate sector posted the highest growth in loan defaults in three months ended June. This is an expected development as the market is underperforming and overvalued  underlining that developers are struggling to find buyers for houses amid declining returns and cannot fulfil their loan and finance obligations.

Non-performing loans (NPLs) in the sector rose by Sh6.1 billion, or 15.8 percent in April-June to Sh44.4 billion compared to the previous quarter as property developers outpaced manufacturers (11.7 percent) and traders (7.3 percent) in growth of default on loans. That means 11.3 percent of the Sh392.7 billion gross loans extended to investors in land and houses by commercial banks over the years were not being serviced as at the end of June, according to Central Bank of Kenya’s (CBK’s) quarterly report released a few days ago.

The biggest challenge that the market has to face today is an oversupply of expensive properties which were built on a Buy to Rent or Build to Rent philosophy and which cannot find sufficient tenants who are willing or even can afford to pay the asking rental prices. Property owners in their effort to create sufficient income to cover primarily their loan obligations and secondary their own invested capital are forced to demand rents that the market cannot afford to pay. With the average time required to get a tenant increasing and the number of vacancies especially in Nairobi skyrocketing landlords have started to adjust their asking prices to the week market dynamics, reducing rents as well as their sales asking prices.

Average rental prices, whose growth has been declining since 2013, suffered faster deceleration from December 2016, remain in negative territory. This combination of falling growth rates in rental income and selling prices signals low demand for properties, and could be explained by an actual reduced purchasing power for properties. Βanks and financial institutions  remain very  cautious and particularly inelastic  in terms of approving and granting credit for investment in the real estate market either for investment or for the purchase of a home.

The struggles in the property market is reflected in the performance by mortgage financier HF Group which sunk into a Sh332 million net loss in nine months ended September, largely weighed down by loan defaults which forced it to cut lending.

It is a fact that an overpriced market which suffers from the lack of easy access to finance has no future. For many years the Kenyan market has managed to grow based on money invested via saccos, investment groups and chamas, the lifetime savings of Kenyans who wanted to be part of this promised wonderland as well as money from the Kenyan diaspora and other disputable sources of money. The banks have always been cautious regarding the property market as they could foresee the high risks involved. Today the market dynamics and conditions have changed. Saccos, Chamas, Investment groups and even the banks require a dynamic market where the capital invested is quickly recovered and recycled in order to finance new project and support the sector’s longevity.  

The current market slowdown and the increase of the NPLs clearly signal the development of a new era for the property market. The real estate sector registered the highest increase in NPLs by Sh6.1 billion (15.8 percent) due to slow uptake of housing units according to the CBK’s latest Quarterly Economic Review.

Housing has been one of Kenya’s most preferred and rowing sectors over the last decade, with returns from real estate expected to outpace equities and government securities. This only happened for a limited period of time as for the last almost five years the reality is different. The property market has, suffered dipping growth in sales and rental prices in recent years, as per the available market analysis of quarterly surveys by consultancy Hass Consult and the Kenya Bankers Association (KBA).

The nosedive in growth of returns for property developers was manifested last quarter of 2017 when house selling prices reduced by about 4.10 percent compared to a 10.21 per cent jump in the same period of 2016 due to large stock of unsold units.

Today more people realize that the housing and property market of Kenya are not sustainable. The fact is that billions of shillings have been lost in real values despite the fact that owners do not always realize this loss as they prefer to live with hopes and wishes. All those who are in the market trying to rent or sell understand very well that they have to compensate and reduce their expectations from their property market investment and they eventually will have to face the losses.

The most tricky part of the whole current situation is that today, Kenya has a fragile economy, with several macroeconomic data such as the external debt and account balance deficit growing fast, forcing the government to implement tax policies which are reducing the purchasing power of the average Kenyan family and shaking further the weak and risky foundation of the property market.

Adding the latest challenges regarding the legal aspect of the property market with the ongoing demolitions and the title disputes around the country the real estate market is going through maybe the most challenging period of the last decades. Investors need to review their positions, portfolios and their strategies. It is time to reevaluate their project expectations and take immediate actions to minimize their exposure to the market risks and minimize their losses.

For all those who still believe that one cannot go wrong with the property market, I think it is time to check the recent history of countries such as Dubai, Greece, Spain and now Turkey amongst others, so as to realize how market dynamics can change and how much values can lose.

Basic rules of investing always start from understanding the risk. Markets usually offer a risk return trade off where the undertaken risk is balanced with a risk premium offering higher returns. As a norm the rule is that the higher the returns the higher the risk and vice versa. The sooner property investors realize this relationship the better the decisions they will make.

A good investor is not the one who is ready to take profits but one who is also ready to accept losses, make rational decisions and move on. Markets all over the world are not perfect and are full of inefficiencies. Some people profit and some lose. It is not possible that everybody will be making profits, balance requires both. Timing is everything, even in market bubbles some do make a lot of money and the bigger the bubble the more they make. For those who come in late in the market the exactly opposite applies. Markets operate in cycles, not every sector of the cycle is positive and they do not last for the same period of time. Over inflated markets usually go through longer and dipper periods of recession.

Kenya’s property market has entered this phase of the cycle longtime ago and it seems like it is not ending soon. Price corrections are already happening; serious players change their approach and strategies. The market now is entering in a long, harsh and painful market which will be dominated from negative trends. My only suggestion is to stay up to date with all market and economic developments, be realistic, make rational decisions get some professional advice from recognized professionals who will assist you to make the right moves in order to maximize your portfolios performance and minimize any possible losses.

By Kioleoglou Konstantinos

REV Valuer by Tegova

Civil Engineer Msc/DBM

Managing Partner, Avakon Ltd.