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November 20th, 2008
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Developing crisis

Wall Street hits already-weakened property market

By Stephan Delbos
Staff Writer, The Prague Post
September 24th, 2008 issue

A steady spiral downward for big development companies has left giants Orco and ECM with more than an 80 percent decline in share value since January and the situation became even more volatile last week as investors the world over reacted to the crisis on Wall Street.
But panic linked to the collapse of investment banks Lehman Brothers and Merrill Lynch is only one cause of the extreme volatility of the Czech stock market in recent days, say analysts.
Stocks of ECM and Orco fell dramatically for two consecutive days last week. Trading on ECM was suspended several times last week — initially Sept. 16 after shares fell 27 percent by 10 a.m. and at one point during the day when shares lost one-third of their value. Trade on Orco’s stocks was suspended Sept. 17 and 18 after similar losses.
The two companies managed to wrestle recoveries in the following days thanks to the bourse’s correction and ECM got a bounce after it announced Sept. 17 that it would nix plans to issue new shares and Sept. 18 that it would suspend a number of announced projects.
On Sept. 19, the PX index soared a record 11.7 percent and Orco stocks were again temporarily banned after a 38 percent rise. The recoveries are short-term as the conditions that led to the companies’ poor performance will likely continue.
“(ECM’s) first announcement was a temporary fix,” said Josef Němy, analyst at Komerční banka. “The next day they issued new shares at lower prices.”
Most analysts agreed that the volatility of ECM and Orco, once considered the darlings of the Czech stock market, is linked to the ongoing Czech real estate crisis and only exacerbated by the events on Wall Street.
“This problem is a year old, but the trigger was the United States,” said Aleš Michl, analyst at Raiffeisen Bank.
Analysts say that the Czech economy faces a cyclical slump that will continue over the next 12 months. Though most predict that the GDP will continue to rise, some worry that the recent stock volatility is only the latest and most visible sign of the real estate crisis that has plagued stockholders and developers since early this year.
“This is not a short-term situation. It is just starting and will be worse,” said Petr Novák of Atlantic FT.
Immediately following the crisis in the United States, which broke Monday morning with the news of the Lehman Brothers’ bankruptcy and the sale of Merrill Lynch to Bank of America, stocks in Orco and ECM fell dramatically. The announcement Sept. 19 of a $700 billion (12.6 trillion Kč) bailout plan funded by the U.S. government lent the Czech stock market its remarkable rise Friday. But some analysts believe that the rapid fluctuation of Czech stocks is a symptom of a global economic problem that can’t be blamed on any one market.
“This is not about the Czech market; this is a global problem relating to a lack of liquidity in the financial markets, which was originally caused by the sharp decline in property prices in the United States,” said David Jones of King Sturge.
Many see Friday’s soaring PX index and the panic that preceded it as proof that the worst effects of Wall Street have been psychological.
“When global markets fall, investors want to get rid of losing shares. First sold are shares in companies that have future expected cash flow but are currently in financial loss,” Němý said. “No one wants to hold losing stocks.”
Though the highs and lows of the stocks exceeded expectations in their scope, the fluctuation itself did not.
After a period of steady growth, the Czech real estate market has been in a state of negative flux since early this year, leading some to speculate that ECM and Orco are only the first signs of an impending slump.
“The concern at the moment is that the property market has gone from a position of exceptional growth to an unknown situation,” said Jones.
Companies like ECM and Orco have been particularly affected by the poor real estate and development market because of their project funding policies. Development projects planned when the market was growing were based on the prospect of comparable future profits. With the current rise of inflation and the shrinking real estate market, development companies are finding it more difficult to pay off debts incurred during building.
“Now we are seeing higher inflation than rent growth,” said Michl. “Companies can earn 5 percent back on their investments, but inflation is now at 6 percent.”
The shrinking real estate market is affecting both developers and potential home buyers.
In the past year, banks have become more hesitant about granting mortgages. As a result, properties that once would have sold quickly are now staying vacant longer, leaving development companies with newly built apartments that few can afford to purchase.
“Real estate prices are so high that normal people can’t pay. With banks becoming tighter on giving mortgages, developers are suffering. They are left with buildings full of empty flats,” said Novák. “Almost 100 percent of houses and flats are purchased with mortgages.”
Though large development companies like Orco and ECM seem to be the most seriously affected by the current market conditions, some analysts say that is simply because they have a more visible presence on the falling stock market. But that visibility could prove to be both a benefit and a disadvantage.
Some analysts say smaller development companies may not be able to weather hits from a volatile market based on speculation because they lack the proven reputation of companies like Orco and ECM. As a result, these small companies could soon have more difficulty financing even modest projects.
“Small companies will only succeed with good projects and good projections of future cash flow,” said Michl.

Stephan Delbos can be reached at sdelbos@praguepost.com


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Reader's comments:

add your comment
[14:37 03/10/2008] : Thanks, Stephan.

I was thinking about wheter it is profitable to buy property in Prague. Many sources say "yes". So this article was the perfect opportunity to check it out.

This article is very helpful both for businessmen and ordinary buyers, like me :)

Cheers!
Rovshan
Rovshan
Prague
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