War and peace of the Commercial Real Estate Development in Russia

Commercial property development in Russia is still determined by the Soviet past. In the 1950s at the dawn of the Cold War steel construction was restricted because of military priority. Eventually, the provision has established regulations that impede steel and timber usage in design compliance. Hence, reinforced concrete has become the principal material for the civil construction. That said, the modern development market is rapidly evolving hitting $1,6 trillion in 2023. In the last 20 years it has been experiencing changes comparable to those that the US overcome during a century. Some economists say this is one of the industries that keep the Russian economy afloat despite international sanctions.

Why the Russian Real Estate is different

Anthropologists claim that the way our settlements look may explain many national peculiarities. Russia is known as the biggest country in the World. Surprisingly, high-rise residential buildings are much more common here. It is cheaper to maintain and heat up during the long northern winter. Compared to the spread-out American suburbs, dense urban settlements use roads, utilities, and social services in a more beneficial way for economy and sustainability.

Despite multiple attempts to introduce US-style frame construction in the 00s, concrete is still popular not only in multistoried but also for single-family houses. Owners want their dwellings to be durable and “stand for centuries”, even though analytics report modern customers tend to flip their housing every 8 years just as in the rest of the world. I believe this might be a psychological response to political and social insecurity.

Property ownership is another life-long dream for most citizens who have been deprived of possession during the Soviet communal past. In contrast to the rest of Europe, the commercial rental market is undeveloped and about 70% of Russians own their houses. Social polls also show that 90% of Russians prefer single-family accommodation. This aspiration had produced a great exodus to the “cottage gated communities” in the early 00s that rapidly failed because of the lack of proper social and educational amenities.

Similarly to commercial offices in the US, the residential market in Russia has elaborated property ranking, scaling from economy to luxurious. Industry professionals distinguish dozens of features from the ceiling height to the quality of the landscaping. This market approach reflects the high economic disparity that is still reported in Russian society.

A new market dawn

Property acquisition 20 years ago looked like a visit to a Wild West saloon. A purchaser brings bags full of cash to a developer’s office hoping that 2-3 years later he will get the keys for an apartment almost without any legal securities. For the customers this approach was justified by the hectic market growth, but not for the financial institutions that kept loan rates above 20%. Therefore, less than 10% of the customers dared to use the mortgage contracts mostly with the existing property as collateral.

Since then, the financial system maturity and drastic regulation changes collected from the US and other developed markets have boosted the industry. The bank as a guarantor and an escrow contract backed by the State made the property purchase almost non-risky for an investor. When the pandemic hit the State introduces a social program that subsidizes mortgages for a wide audience. Unprecedented 3-5% mortgage rates for families with children made 90% of the customers borrow and doubled the property prices, though.

Soon after other social initiatives were announced such as the Far East and Arctic Mortgage program with a 2% rate, the IT mortgage program with 2,5% (to retain young professionals within the country), and the highly promoted opportunity to get 1 Ha (around 2,5 acr) for free in selected regions (Russia is the biggest country in the World indeed). Meanwhile, the Single-family housing loans for the new construction have animated the suburban market and attracted institutional developers into the low-rise segment. This mortgage support paired with the remote work office schedule ignited the renaissance in the single-family development.

The young ambitions and disruption

Moscow sets the trend for other regions. In the early 2010s, the new Moscow Major and his young team proclaimed the New Urbanism as a part of their municipal strategy. Moscow has become the biggest experimental site in the country. The cutting-edge design solutions in landscaping and urban design were presented and got positive feedback from the citizens. Many international urbanists argue that the Russian capital has top-level parks, pedestrian areas, and the most developed network of sports and playground amenities in the World. This municipal benchmark couldn’t be ignored by the commercial developers and has changed the face of the commercial property.

The development is supposed to be a conservative business. Luckily, the last decade has become the advent of several young and ambitious businessmen in the market. Since 2015 Sergey Gordeev has successfully consolidated several industrial assets and grew his PIK Corp into the biggest commercial developer in the country with more than $6 bln in revenue. With the ambition to create “an iPhone for housing,” he launched multiple innovations in pre-fabrication and module construction and issued design standards that soon reshaped the market.

In 2019 Anton Elistratov (Wharton, Chicago Booth) from McKinsey started the transformation of Samolet Development with a successful IPO in 2020. His team has converted old-fashioned construction mammoth into the business ecosystem with 2 thousand IT employees and around $3 bln in revenue. Traditionally, residential property in Russia is sold without the fit-out and appliances. Samolet disrupted the industry with the mass-furnished apartments. The idea to extend the lifetime value of the apartment purchaser encompasses multiple services from the national brokerage and commercial bank to the insurance and travel agencies.

Business under the wartime

Even businessmen who have high-level political relationships would never suggest that war can become a reality. In April 2022, when the existential stun passed away the management community faced the necessity of doing business in a completely new environment. All the supply chains were ruined, money transfers became unpredictable, and long-partnered European brands fled the country propelling the construction costs up by 50%. Most international architects and contractors had to leave their projects unaccomplished. The young Russian business got used to multiple shocks, but this one required much more endurance and agility.

Desperation and pain for the ones suffering and killed had become a daily routine. Meanwhile, the consumer routine has changed. The automobile market experienced the most radical pivot. In just two years queer and strange Chinese car brands start prevailing at the Moscow streets. Respectful European producers of elevators and other equipment gave their way to the Chinese substitutes. The Italian tiles, the German bathroom, and the electric appliances were replaced by the Turkish and Indian brands. Dreadful to some the political turmoil is a great opportunity for others.

Asian transition hasn’t succeeded, and European lifestyle and design still dominate the preferences of High-Net-Worth Individuals. Even after two years of confrontation with Western countries Russian Luxury Property market stays conservative. Perhaps, being offended by the promiscuous sanctions, most rich people transferred their assets back to the country which bolstered the Real Estate Luxury Segment. According to NF (ex. Knight Frank), the number of elite deals in the first half of 2024 has doubled compared to the last year. Simultaneously, the severe travel hindrances propelled the Sochi Resort Luxury Market that entered the Top-10 most rapidly growing property destinations Worldwide (NF, 2023).

For people who weren’t able to leave the country, the political tension increased the interest in the national identity. Abandoned for decades the heritage property draws the attention of the investors. Professional restoration might yield a premium value from the market even in obsolete urban areas. Marketing also follows the social drift. Cyrillic branding starts a new trend replacing Latin naming which has prevailed in a business-class development for many years.

According to Russian officials, the unexpected 3,6% GDP growth in 2023 was substantially driven by the Real Estate industry. However, business is not of the primary interest for the military economy. From July 2023 to September 2024 Russian Central Bank has increased the interest rate from 7,5% up to a sensational 21%. The basic mortgage rate peaked at 25%, while most subsidized mortgage programs were canceled in the summer which dropped the Real Estate market by about 40%. Simultaneously construction cost kept climbing pumped by a workforce deprivation. Thousands and thousands of workers keep leaving the industry lured by the speculative military compensation. Now the most anticipated news for the Russian business community is those related to the political negotiations. The most hope is around the US elections that can stop the military escalation and give everyone so long-expected peace.