Lending rates hike seen hurting buoyant local real estate sector

What you need to know:

Real estate players expect the industry to take a hit if the cost of borrowing increases, which is highly probable given the huge government appetite for funds.
Should rates remain high in the long run, there is a risk that projects will be dropped since increased costs will cut margins on projects as, at a time, developers cannot recoup lost gains by passing the costs to tenants through higher rents.
Data from the Kenya National Bureau of Statistics (KNBS) shows the construction sector still managed to grow in double digit in the last quarter of 2015.

Real estate players expect the industry to take a hit if the cost of borrowing increases, which is highly probable given the huge government appetite for funds.

Interest rates on Treasury bills have been slowly rising, a trend expected to continue in light of a gaping Sh600 billion budget deficit worsened by slow revenue collection.

Last year the Kenya Revenue Authority (KRA) announced it had missed its tax collection target by Sh28 billion in the first quarter of the 2015/2016 financial.

Property consultants and developers said should interest rates on commercial loans go up some of the immediate effects will be projects being delayed as funds meant for construction of houses, offices and malls are diverted to take advantage of more attractive returns on government paper.

“In the short term, high fixed-term rates are starting to divert developer/investor cash away from property development and into high-yielding shorter term deposits. Projects are not being shelved but may be delayed while these relatively risk-free opportunities exist,” property development and management firm MML chief executive James Hoddell told the Business Daily.

He added that should rates remain high in the long run, there is a risk that projects will be dropped since increased costs will cut margins on projects as, at a time, developers cannot recoup lost gains by passing the costs to tenants through higher rents.

Other players agreed rising rates will impact on the pace of developments but were positive that the price of debt will only increase to manageable levels and that the economy—and by extension the property sector—will pick up as infrastructure projects come through.

“The high interest rates are a concern for all of us, and especially we in the real estate market. With most of our developments needing constant money flow, the fluctuating interest rates heavily determine the speed of developments,” said Homes Universal chief executive Daniel Ojijo.

“However, with the optimism projected by the Central Bank and the regulation of bank interest rates, we are confident that the interest rates will not greatly affect our industry. The continued infrastructural developments are expected to spur growth.”

Mr Ojijo said the fundamentals in the sector were still strong due to the growing population and corresponding demand for housing.

Data from the Kenya National Bureau of Statistics (KNBS) shows the construction sector still managed to grow in double digit in the last quarter of 2015.

The KNBS estimates that the construction sector grew by 14.1 per cent in the third quarter of 2015 against 8.8 per cent over a similar period a year before. Loans to the sector grew to Sh101 billion from Sh79 billion or 28 per cent.

Pressure on interest rates is also coming from external forces in particular the effects of the rate rise by the US Federal Reserve.

Kenya’s economy is faring better than its peers in west and southern Africa and should continue to attract foreign investors which will bode well for the Grade A office market, added Mr Hoddell.