Rush to real estate triggers risk warnings

With more and more acquisition deals taking place, the Bank of Israel is showing concern, but the industry is already looking beyond the war.

It has become practically routine. Week after week, a new deal is closed for investment in or acquisition of a residential real estate construction company. From financial institutions to shopping mall and income-producing real estate giants, everyone wants a piece of the housing market.

Last week, it was More Investment House, which bought 13% of the shares in veteran construction company Matzlawi for NIS 35 million. Matzlawi, headed by Sami Matzlawi, is an old-established, experienced company that is currently building more than 4,000 housing units. Incidentally, in passing More resolved a longstanding dispute with one of the investors in the company.

More is not alone, however. Last Thursday, insurance company Migdal Insurance and Financial Holdings (TASE: MGDL) and real estate development financing company Bareket Capital (TASE: BRKT) (founded by Gil Deutsch and Roni Biram and headed by Adi Gazit) entered into a financing agreement with a group of landowners that is building two residential towers (156 apartments) in Bat Yam at an investment of NIS 640 million. Bareket and Migdal are replacing peer-to-peer lending company Tarya, and lending the group NIS 340 million.

Meanwhile, two major mall and income-producing real estate companies, Azrieli Group (TASE: AZRG) and Melisron (TASE: MLSR), have announced acquisitions of building contractors. Azrieli Group, controlled by Danna Azrieli, announced last week that it was buying control of ZMH Hammerman (TASE: ZMH) at a valuation of NIS 635 million. At the end of June this year, ZMH Hammerman had projects at the planning, development, construction and marketing stages totaling 4,780 housing units, of which 1,970 are offered for sale. In addition, it is constructing commercial space, and it has urban renewal initiatives at the early planning stage.

The previous week, Melisron, controlled by the Ofer family, completed the acquisition of real estate developer Aviv Real Estate Development and Management from Aviv & Co. Real Estate Group 1963, owned brother and sister Doron Aviv and Dafna Harlev. Aviv Real Estate Development and Management is another respected company, part of the Aviv group founded by the late Moshe Aviv. Offices giant Gav-Yam Lands Corp. (TASE: GVYM) has also announced further expansion in housing construction, and has bought, from its parent company Property & Building Corp., building contractor Neve Gad, though which it is promoting the construction of thousands of housing units around Israel.

One of the first financial institutions to identify the trend was Clal Insurance. (TASE: CLIS), which invested nearly NIS 770 million last year in Africa Israel Residences (TASE: AFRE) and its urban renewal activity. In August last year it also invested up to NIS 76 million (including an option) in urban renewal company Aura (TASE: AURA), controlled by Yaakov Atrakchi, and it invested in rental projects of Kvutzat Acro (TASE: ACRO), which mainly builds luxury housing in Tel Aviv. To top it off, it entered into a partnership in a subsidiary of Israel Canada (TASE: ISCN) called ICR. Last week, it was reported that former senior manager at Bank Hapoalim Dalit Raviv had been appointed to head ICR.

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Yitzhak Tshuva has also invested in companies in the sector: NIS 55 million with David Zvida in Cielo Blu (TASE: CILO) (formerly Hanan More), with an option on further investment; and NIS 30 million in Tel Aviv-based construction company Ybox. This is in addition to the takeover of agricultural company Mehadrin (TASE: MEDN), which has huge reserves of land that Tshuva hopes will become housing projects in the future.

Bank of Israel concerned

The timing of the rush to real estate could be seen as worrying. In the past year, residential construction companies have bombarded homebuyers with 20/80 offers, whereby the buyer pays 20% of the value of the home and the rest several years later when he or she receives it. These offers have been very successful, setting of a wave of sales since the beginning of the year. The have also, however, set off warning lights with the regulators. The Bank of Israel is concerned that the risk taken on by the contractors has shot up, and that in the not too distant future, when the buyers will have to find the 80%, in the form of a mortgage, they are liable to encounter difficulties, and thus in turn make it difficult for the contractor to complete the project.

Supervisor of Banks Daniel Hahiashvili convened a meeting of the heads of the corporate credit divisions of the banks that addressed, among other things, the cumulative risk in the real estate sector. "Globes" has learned from conversations with the bankers that what was discussed at the meeting was those financing offers. The Supervisor sent them away to do their homework, each bank being required to examine its relevant credit risks. At the moment, no directive to make a general provision is expected, but the message was clear.

The regulators are trying to understand how far these offers have become a real risk. After all, the Bank of Israel’s interest rate is still high, and is not expected to fall any time soon, despite interest rate cuts in the US. In addition, there is a severe shortage of building workers because of the war, and materials are becoming dearer. All this extends construction times and leads to apartments being more expensive, which means that large mortgages will be needed in the future. Nevertheless, the 20/80 offers in effect neutralize index-linkage, enabling buyers to fix the price of an apartment, which is one of their main advantages.

A senior manager at one of the construction companies familiar with the matter told "Globes", "I don’t think that the 20/80 sales schemes are creating extra risk. People are thereby buying a kind of option on the price of an apartment fixed for three years (until handover). I estimate that the public’s situation will improve in the next three years. That is to say, wages will rise, and economic conditions will improve. So anyone who buys an apartment has jumped on the bandwagon."

What if that doesn’t happen? "Demand for homes remains inelastic. There have always been marginal cases of people whose situation has deteriorated after three years making them unable to purchase the apartment. They usually have a cancellation fee in the contract, and they’ll lose something like 10% of the apartment price. Of course, for them it’s a large and painful sum. But the contractor will be able to try to sell the apartment at a discount, and it will probably be snapped up."

The financial institutions see their investments in contractors quite differently. They paint the opposite picture. They take care to buy the better quality construction companies, and generally take stakes in the most stable companies in the market, those whose financial statements are openly available and that have good access to raising debt on the stock exchange should the need arise.

Meanwhile, on the Tel Aviv Stock Exchange, the Tel Aviv Construction Index, which covers the major contractors, has shot up by 42% in the past year, making it one of the best performing indices on the exchange. For the sake of comparison, the flagship Tel Aviv 35 Index has risen by 29%. That is some indication that investors believe that the big construction companies are on the way to recovery, despite the challenging conditions in construction, high interest rates, and Israel’s economic situation in a prolonged and bitter war.

A special report by rating company Midroog on the ability of stock exchange-listed companies that have raised debt warns of the risks in the sector. "The high home prices represent a continuing threat to demand in the sector and its resilience. Continued price rises make it difficult to buy an apartment, especially against a background of fears of austerity measures and an economic slowdown because of the war."

Midroog also warns that the continuation of the war raises the risk of inflation, and in the negative scenario in which inflation rises further "the fear arises of a higher interest rates, which would be liable to lead to a shock in the residential real estate sector." On the other hand, Midroog makes positive mention of the stability of the banking system and its readiness to support the construction industry, and also of the relative stability of the housing sector.

Market pricing in an end to the war

Another trigger for these deals is that the market is starting to align itself for an end to the war. "The general assessment is that, in the coming year, things will start to settle down," says Alon Sanovsky, head of Israeli equities at the Migdal group. "As far as the residential real estate companies are concerned, there’s an expectation that people who are still sitting on the fence will come off it and buy apartments. This is alongside the hope that the workers will return and contractors lacking manpower will be able to carry on and build the apartments, since, in the end, if you sell apartments you have to build them, otherwise they’re sales in the air. But first and foremost, there’s an expectation that home prices will not fall, and may even continue to rise."

Published by Globes, Israel business news - en.globes.co.il - on November 10, 2024.

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