Why Could Dubai Contribute to the Diversification of Your Real Estate Portfolio?

In economics, there is broad consensus that the international diversification of a real estate portfolio is beneficial, as assets tend to show lower correlation compared to being concentrated in a single geography (economically, politically, and in terms of tourism), resulting in lower risk for the investor’s returns. A single negative event in country A does not have as significant an impact if assets are also held in countries B, C, and D. In this context, Dubai has benefited from global investments, particularly at the level of private investors and High Net Worth Individuals (HNWIs), especially in the residential real estate sector.

Foreign investors have undoubtedly had ample opportunity to achieve financial gains in the Dubai residential real estate market since 2002. According to a study by the University of Dorchester, house prices in Dubai delivered an annual return of 3.7% over a period of 20 years compared to a basket of foreign currencies. In addition, historical rental yields of approximately 7-10% per year offer very good returns for investors seeking long-term growth. Over the long term, international real estate investors have benefited not only from the appreciation of the residential market in Dubai but also from the strength of the US dollar-pegged currency compared to a basket of major world currencies.

During the first wave of real estate market activity and rapid price growth (2002-2007), double-digit returns were achieved, and the financing of off-plan purchases was largely unregulated and unsecured. Personal loans and even credit cards were used to make the 10% down payment on multiple off-plan units, which were then resold for a high profit. In 2007/2008, The Economist noted negative real estate interest rates in Dubai (inflation was higher than borrowing costs), driving real estate prices up and providing a strong incentive to take out bank loans and invest in real estate.

Global studies by MSCI have shown that real estate has low correlation compared to stocks and bonds. Studies from the UK and the US show that real estate has a low correlation with bonds (0.03) and the stock market (0.27). This means that the real estate market and the stock market are likely driven by different factors, making real estate a suitable diversification tool in a mixed investment portfolio. But what do we see in the Dubai markets?

According to Roche (2019), real estate and stocks in Dubai are expected to correlate much more strongly with local stock markets than on a global scale. The study argues that real estate companies make up a significant portion of the market capitalization of the Dubai Financial Markets (Dubai Stock Exchange), so stock and real estate movements should be more synchronized. For Dubai, the overall correlation between real estate and stocks has been +0.68 since January 2016, indicating that investing in both assets contributes little to portfolio diversification. As further studies show, stocks in Dubai exhibit higher volatility, often driven by speculation in Dubai’s stock markets. If the Dubai Financial Markets introduce more sectors and IPOs in various economic sectors, it can be assumed that this high positive correlation between stocks and real estate will decrease over time.

However, in our experience, many more international investors and expatriates invest directly in local real estate while holding international stock portfolios (e.g., MSCI World, DAX, DOW Jones, etc.) rather than investing in UAE stock markets. In this case, the positive correlation between UAE real estate and stock markets does not pose a problem. Including UAE real estate in global portfolios is highly advantageous due to its low correlation. Investors can thus realize more efficient portfolios. German Partners advises investors on this by providing time series data to illustrate the specific correlations with existing portfolios. This can also be used to visualize new efficient portfolios if investors follow modern portfolio theory.

References

Arabian Business (2021): Dubai Real Estate Short Term Lets, Long-term rewards, Article of Issue December 2021

Further Links

Dubai Financial Market – Region’s leading financial exchange (dfm.ae)
Dubai Land Department – Residential Sales Price Index

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