Ahead Of The World Cup, Russia’s Real Estate Market Is A Lot Better Than Its Team
For a long time, Russia’s real estate market was struggling as badly as its national football team.
Political sanctions and a sluggish domestic economy caused by low oil prices combined to create a challenging environment for Russian real estate these past few years, with Moscow office rents dropping by 33% between 2011 and 2017 while the rest of Europe saw a recovery. For the past three years Moscow has come dead last in the list of investor city preferences in the Urban Land Institute and PwC’s Emerging Trends report.
At the same time Russia has seen its national football team fall from relevance. A side led by Andre Arshavin reached the semi-finals of Euro 2008, but even with home advantage they are 40/1 outsiders for the 2018 World Cup, which starts on 14 June.
But while the World Cup is likely to provide little succour to Russian football fans, the real estate market is starting to see the first tentative shoots of recovery. The tournament itself is likely to provide only minimal benefit, but the first signs are there that, if Russia can find a modicum of political stability, the Russian winter for real estate could begin to thaw.
“Somewhat surprisingly, the market has been in recovery for the past 12 months,” JLL Head of Russia and CIS Tom Devonshire-Griffin (a Chelsea fan) said. “The price of oil is above $70 and there is relative stability on the ground. I don’t want to over-emphasise things, but the fundamentals are good and this is the best the market has looked for some time.”
Moscow is the second largest office market in Europe after Paris, and take-up in the first quarter was 3.4M SF, up 87% on the same period in 2017, according to JLL. The vacancy rate is 13%, high by European standards, but heading toward the 11% level at which rents historically rise, Devonshire-Griffin said. He said rents were not yet rising, but tenant incentive packages were reducing, a precursor to a coming increase.
As with most markets in Europe, the picture for retail was less rosy, due in part to an idiosyncrasy of the Russian economy.
“Typically consumer spending accounted for around 80% of Russian wages, because the cost of housing was low and Russians had very little personal debt,” Devonshire-Griffin said. “So Russia has always been a natural resources economy but also a consumer-driven economy. Now, the economy has started to recover but consumers still aren’t spending. You would expect people to be cautious after an economic shock and pay back debt and make practical purchases, but this has been going on for some time.”
Moscow is the biggest shopping centre market in Europe, and the market remains somewhat oversupplied, with developers only in the past couple of years having started scaling back development plans.
The other slightly moribund area is the investment market. JLL is predicting 8% growth from $4.6B to $5B in 2018, but this is still some way short of the $8.8B transacted in 2012. Even with prime Moscow office yields at 8.75% compared to 4% across most European capital cities, overseas investors are not overly tempted.
“If interest rates are at 7.25-7.5%, then it is very hard for anyone who needs any debt to invest in the market, and if they do the yield needs to be above that,” Devonshire-Griffin said. “And with the political situation, it is very hard to create a business plan if the currency suddenly fluctuates by 10% or you don’t know what the interest rate is going to be.
“Sanctions don’t have an effect in terms of catching people, it is the fear of being caught that stops people investing.”
The global investors who have dipped a toe into Russia in recent years have tended to come from countries which “are not too worried about the fact that not every country is a Jeffersonian democracy,” to quote one respondent to the ULI Emerging Trends report in 2016. For instance Chinese investor Fosun has invested in the Moscow office market and the Abu Dhabi Investment Authority has invested in St. Petersburg retail. Russian money being repatriated as a result of political turmoil is helping the investment market also, with 68% of total investment domestic.
In terms of the impact of the World Cup, on an overall level, it is hard to know whether it will have a positive economic impact. Local media report the cost to be around $14B, and the Russian government estimates the monthlong tournament will have an economic benefit of $31B, although these government estimates are usually unreliable because they include Russian domestic spending that would have happened anyway. General academic sentiment is that the previous two World Cups awarded to South Africa and Brazil, other emerging economies, had a marginal positive effect at best.
“I studied the impact of major sports events when I was a student at the London School of Economics, and I am a huge bull towards them,” Devonshire-Griffin said. “I’m a Brit, and when Russia was awarded the games ahead of England I was sad, but Russia probably needs it more. The effect on sentiment for real estate can be incredible: as an investment agent the best 11 days of my career were the 11 days after the end of the Sochi Winter Olympics.” That is, until the tanks rolled into Ukraine, pointing again to the need for political stability for Russia to capitalise on the benefits the tournament might bring.
“It is a shame that the U.S. hasn’t qualified — 30,000 people posting pictures of Moscow on Instagram would have had a real positive effect. As a Muscovite they have done an amazing job of cleaning up the city, it is a beautiful place to live at the moment.”
Devonshire-Griffin said that the effect on Russia’s regions would be less tangible. Because of the economic crisis, only one new stadium and one new airport were built, with others simply refurbished. He argued that the overall spending amounted to around $1B per tournament host city, a number that sounded big but was not that huge in the context of an annual municipal budget.
On the field, in the World Cup, Russia is not heavily favoured to make it out of one of the easiest groups in recent memory. The real estate market has a lot of hurdles to overcome, but looks in a better shape to progress, if politics can stay off the front pages.