Monday, January 21, 2008

When Will the Land and Building Bubble Burst?

Just recently another South Korean company unveiled plans to build another sky-scraper, and another satellite city both in Phnom Penh, and one in Sihanoukville, complete with shopping malls and full amenities - all with the benign approval from the Prime Minister himself, who has been known to boast with some pride that real estate prices are now even higher in Phnom Penh than in Hong Kong. Can Cambodia be compared to Hong Kong? After all, Hong Kong has been a vibrant economy for a long time with a lot of long-grown wealth dating back to the time of the Tai Pans, and land there is at a premium due to its geographical location and its overpopulation.

Cambodia has seen a surge in land prices and an unbelievable building boom over especially the last two years. Quite a few people became rich overnight and continued to fuel that craze. To pinpoint the origin and causes for this involves a little bit of guessing but with some insight into economics it seems like it all began with the development of the garment processing industry. Cambodia was identified as another cheap-labor country by Taiwanese and South Korean garment manufacturers, later complemented by Chinese companies. They flocked to Cambodia to build their garment factories and needed large tracts of land. At the beginning some of these factories were built right in Phnom Penh itself. Later they moved to the outskirts and nearby towns, such as Kompong Speu.

Initially, they mostly rented the land, which was then replaced by leaseholds concluded with the government or even private landowners. So far foreigners or foreign companies are not allowed to own land in Cambodia. Eventually, they circumvented this regulation by using Cambodian nationals as shareholders who would hold 51% of the shares. This way the company could buy and own land. By giving the Cambodian shareholders non-voting stock, foreigners owned the land de-facto. Why buy land in the first place and go to all this trouble? Land was still cheap. It could be bought for as little as $1 or $2 per sqm. Prices had only one way to go - up. Even if the factory wouldn’t survive, one could still fall back on the land.

Cash-strapped Cambodian landowners readily sold their land to these outside investors, got smart and bought another piece of land to sell. More and more people with a little money got involved in the speculative craze. (This also led to infamous land grabbing by powerful people.)

Anyway, this is most likely how the cycle started, and it is still going on to this day. Basically, it is the fundamental economic law of supply and demand. In a healthy economy the minute demand levels off prices start to stagnate and if there is an oversupply prices will start falling.

The problems start when speculators sell to other speculators exclusively, and not to end-users. This seems to be the case in Cambodia today. And this is not limited to just land. The building boom is just as affected by this ‘virus’. First it was only a few, but word spread quickly, and people came in droves from overseas, especially South Korea. Then Cambodians, including overseas Khmer, who had made money played the game with each other – buying and selling land at a pace never seen before in Cambodia. But condos and town houses are equally bought with the expectation of rising prices.

Another problem is that Cambodia is not a developed country with a healthy economy built on the foundations of a sound financial and fiscal structure. This speculation and building boom bypasses the general population altogether. Out of 15 million how many participate in this boom and how many benefit from it? There is no concrete data available but I would think perhaps between 50,000 and 100,000. After all, this is a country where more than 40% live on less than $2 a day. Wealth is concentrated in a few hands, and the majority of the wealthy people live in Phnom Penh and Seam Reap.

Cambodia is not the first, and won’t be the last, to go through such a real estate boom - and resultant bust. Europe has had it at various times, so has the U. S., and its next-door neighbor Thailand saw its real estate boom/bust in the late 90s. The latest bust in the U. S. is now having worldwide repercussions, which is the result of unparalleled real estate speculation fueled by easy money through sub-prime mortgage lending. All the signs point to a recession in the U. S. dragging down other markets with it. Just this week the European and Asian stock markets dropped by more than 7% in one day, more than at any time in 6 years, on the fear of a rippling effect on Asian economies. Experts say the axiom, ‘When the U. S. sneezes, Asia will catch cold.’ still applies.

It will reach Cambodia sooner rather than later. The U. S. is the primary market for its garments. In a recession U. S. companies will buy less. Money will be tighter and the psychological effect will have its impact on the real estate market in Cambodia as well. Europe won’t be able to make up for the losses since there is already talk of a leveling-off of their economies as well.

A look at the vast number of construction sites and at land that is being prepared for construction is more proof that the whole thing is completely out of balance.

Projects are under way, like Camko City, that in its sheer size and level of luxury seem to be built for another country. Camko City is not the only one. There is a multitude of others. Phnom Penh is practically one huge construction site. The above-mentioned Korean project is another case in point. It appears that Koreans do the majority of the construction, and the majority of the land speculation is now in the hands of Cambodians. A brief count of ongoing construction projects arrived at 50,000 units. Considering the sites being prepared, another 150,000 – 200,000 units are in various stages of planning or construction. This extends not only to the city itself but has reached the suburbs and outskirts as far away as 50 km from the center.

Land prices have reached exorbitant amounts, ranging from $100 per sqm in New Phnom Penh, a satellite city near the airport, to $8,000 per sqm in the center of Phnom Penh or along the riverside. Profits are equally exorbitant, or outright obscene. One sqm in New Phnom Penh, for example, a year ago cost about $30, now it is $120. Just the announcement of the building of a bridge across the Tonle Sap River 50 km from the city catapulted land prices in that area from $5 to $50, and now to more than $100 per sqm.

Town or row houses, so-called Cambodian flats, cost between $40,000 and $250,000 depending on location. (Some are also being built just like Western style town houses.) Single-family homes or villas can easily fetch a few million dollars. This boom seems to have left the realm of reality, it has reached what Alan Greenspan called ‘exuberant’ proportions. He had referred to the Internet bubble, but this phrase is easily applicable to this bubble in Cambodia.

A look at the simple and basic demographics of Phnom Penh underlines this assumption. There are about 1.5 million people living within city limits. 500,000 of those live at or below the poverty level, sometimes in simple cardboard or wooden shacks in slums. An average family has 4 members, that is, the remaining 1.0 million people constitute 250,000 households. Various estimates put the number of families with available cash of more than $100,000 at 50% (though I believe this number to be exaggerated), which would be 125,000. These would be able afford to buy one of those luxury condos or town houses. All of these more affluent families do own a town house, condo or other real estate property for their own use already. They would most likely buy these units to rent out or to re-sell.

Who and where are the buyers? Certainly it will not be the rural population, the 40% unemployed, or the slum dwellers. One segment is young people, the sons and daughters of those wealthy parents perhaps, that receive them as a wedding present. Another segment is the newly rich from all this speculation that put all their eggs in one basket and came out a winner and move upward in their housing needs; or others who made some money in a business venture.

Then you have the foreigners, a not insignificant factor. But will all these add up to a base to sustain that hyper-boom in construction? Even given that the city population will become more affluent in the coming years, this will be a somewhat slower process, most likely spanning a period of up to 20 years. So as a consequence, the surplus of construction can conservatively be estimated at 150,000 to 200,000 units after 2 to 3 years, if that boom continues unabated.

However, eventually, builders will find out, as others in different markets before them have, that supply outstrips demand. This will lead to a leveling-off of prices and finally, once the full scope of the problem has been recognized, to rapidly falling prices of both land and houses. It is a safe bet that this would happen in late 2008 or early 2009, most likely sooner if the fall-out from the impending recession makes itself felt in Cambodia in about 3 to 4 months. The real estate market will simply collapse. In parts of the U. S. one could find the exact same characteristics and symptoms. And sure enough, the bottom eventually fell out. There is no basis for a school of thought that this will not happen in Cambodia. There are no factors pointing to and showing that a poor country like Cambodia will be spared a crash caused by hyper-speculation such as the current one. When speculators sell to speculators a boom in that industry will lead to a bust as sure as night follows day. The question is not if but when.


Anonymous said...

this is a very interesting article. Could you also post the sources of the research.

KJE said...

I am in the tourist and real estate business. I am currently looking for suitable land for a small resort and researched the market by talking to banks, real estate brokers, developers, and land owners.

Anonymous said...

did u do any research on the Internet or books?

KJE said...

In-country on-site research. See comment above.

Anonymous said...

eventhough the bubble is gonna burst, it may not affect land or building speculators alot because most of them use they own savings in the speculation instead of borrowing from banks. Is this idea correct?

KJE said...

One might tend to think so. However, one has to look at the beginning of the speculation. Real estate deals have been going on since 1993, but not on such a scale. It really took off once all the foreign companies came in that needed land. They primed the market. Now, let's assume it's 50% S. Korean and Chinese fueling this speculation. Once they see signs of trouble on the horizon, like the report that garment exports fell 46% in the fourth quarter of 2007, they will try to unload their properties quickly. Another side is that foreigners use dummy owners on their titles. So they have no real legal title to their investment. There is huge psychological factor in this too. This all doesn't bode well for them. True, Khmer speculators use mostly cash for their deals, but one sizable part of their buyers is recruited from exactly those foreigners who will simply slow down, and perhaps in the end stop buying altogether. The real estate market won't collapse completely, but since part of the base will withdraw it will contract considerably, which will lead to stagnating and eventually decreasing prices for overpriced land. Prime lots along the riverside or on Monivong, Sihanouk Blvd., for instance, will continue to fetch world-market prices, but land in New Phnom Penh, or along the Tonle Sap River, and other off-downtown parts of the city will certainly see a sharp drop. Cambodia would be the first country not reacting to world-wide worries of a recession.

Anonymous said...

"Cambodia would be the first country not reacting to world-wide worries of a recession."
Do you mean that Cambodian speculator s are too optimistic?

If the real estate bubble bursts, how ,you think, would affect parties involve in land and building speculation (speculators, developers...)?

KJE said...

I wouldn't use the word optimistic but would rather say they neglect to think ahead and to analyze the real estate market.
Personally, I don't think when the bubble bursts it will have the same effect as in the U. S. for the simple reason that Cambodia does not have a developed economy along the lines of the industrialized or semi-developed countries. Though banks do extend loans on a limited scale it is not a widespread practice.

Some banks loan up to 40% for a home purchase to individuals. The house is probably worth a lot more so that even in a shrinking market the bank will still be able to unload the property to recover its loan.

The land speculator will either sell his land at a lower price (possibly still making a profit) or just simply keep it if he can afford to. However, people who need cash would probably do a fire-sale, probably incurring a loss; they will also have to pay taxes on it. (Tax collection for real estate is pretty effective.) Some have invested all their money in a piece of land so they are the most vulnerable.

The same applies to buyers of Cambodian flats for speculation and not for their own use.

The developers will just stop building. There might be a lot of unfinished projects. There are many scenarios for this group. Depending on how they financed their projects they might come out unscathed or incur big losses.

Foreign developers such as the South Koreans will lose heavily as they usually use bank loans. Once they can't sell their (for the Cambodian market) overpriced properties, they can't service their loans leading to default and possible bankruptcy.

As for the average Khmer, it won't affect them a lot as that building and speculative boom wasn't for them anyway. It largely bypassed them altogether except for the construction workers many of whom will then lose their jobs.

Anonymous said...

I think when that happens, speculators may choose to keep their lands or buildings and wait until the global economy recovers. When everything is back to normal, I think real estate price will rise again. So, speculators can still make huge profit.And I think they can afford to do that because most of them use their own money to buy those properties.What do you think?

KJE said...

If they have the breath to wait it out, you may well be right.

Max said...

Could you tell me why would the land sale is quiet after the election ?

KJE said...


It's been quiet not only after but also before the election already. But now it is really significant. The reasons:
1. Cambodians are traditionally wary of elections as they don't know how it might turn out. The first one almost prompted a civil war, the second one was held after a coup, the third one resulted in a stalemate for one year plunging the country into economic dire straits. So they adopt a wait and see attitude.
2. This year the opposition again threatened a boycott which makes for an uncertain political climate.
3. There is an over-supply of Cambodian-style houses and Chinese apartments. This has resulted in a 5%-10% decrease in prices in P.P. already.
4. People that bought land for speculation both inside and outside P.P. find buyers aren't quite ready to pay those high prices what with all those rumors of a slow-down in the real-estate market.
5. Too many people sold useless land to too many people who did not know anything about the business. The buyers just thought they could flip it and make good money. Nobody buys land in the boondocks.
6. People with cash on hand keep it as the news about the world financial crisis also makes people jittery in Cambodia.

Prediction: the bubble will not burst but deflate slowly. Many a speculator will be left without cash but a questionable piece of land. Money will be in short supply. We will probably see a lot of Lexuses and Landcruisers for sale at a good price. This will last at least 18 months.

Only people with enough breath can wait it out. Also people who bought land for farming, or other infrastructure projects won't lose as they will eventually get a return on the business they are building not on the land.

Anonymous said...


Great comments. Do you agree the land price down because of Gov't introducing a new laws requiring investors to has 2% deposit of total their investment and purchase insurance ? or some kind of games someone is playing ?

KJE said...


It will contribute to some tightening of funds for construction. I don't think the locals will be much affected by this but all the Korean and Chinese companies will be affected. Needless to say this is also a new grand scheme to milk those greedy entrepreneurs of some additional pocket money for the officials enforcing the law.

In genereal, there was a good article recently in the Phnom Penh Post saying that the Korean money market is heavily influenced by the financial crisis. This will be felt in Cambodia too. Read my post on the effects of the financial crisis on Cambodia.

Anonymous said...

I might be right you could be one of the successful investors in Cambodia at the present time. Could you give me tips of what would be the best investment in Cambodia at the present time if I've got about 50k - 100k USD, kinda minimal investment right ? and why ?

Anonymous said...

This is a difficult question in times like these. The real estate market is deflating, there are no buyers around and prices have dropped more than 15% already in the P. P. area. Plus $100K won't get much anywhere, not even in Cambodia. A good investment starts at about $250K in my view, but to pinpoint a particular area at this time is really difficult. I would hold on to the money for the time being to see which way things go.