The generally accepted take on real estate is that a house will inevitably appreciate in value over time and then be passed on to heirs. This isn’t the whole truth. The future value performance of a house is very much dependent on macroeconomic factors, including credit supply conditions in the mortgage market, vulnerability of economies to high levels of household debt and high bank leverage ratios, as well as hard factors such as building quality, local infrastructure or land-use planning regime by the municipality. This means that assessing whether a real estate market is overheating or in a downturn is a complex issue.
This happens even in the most politically and economically stable countries, such as the Netherlands. The country’s housing market had enjoyed a boom with impressive annual growth in prices in large Dutch cities from the 1980s until 2009. But the market started to overheat after Netherland’s economy nosedived, sending house prices downwards, with a peak in value loss in 2012.
“In 2012, after a house was sold in the Netherlands, its value would decrease by approximately 1,200 euros per month, meaning that a purchased house lost parts of its value month after month, until a recovery in 2014,” said Brigitte van de Pas, researcher at Hamburg-based business intelligence firm Statistica.
Look for signs
Thus, it is imperative for buyers to look for signals whether a market is starting to overheat or is already on the edge of diving. This can be done by looking at the market with the largest price growths and/or on markets showing a tendency of losing steam in property prices. Obvious signs for an upcoming bubble include a decoupling of prices from local incomes and rents, and distortions of the real economy, such as excessive lending and construction activity not in tune with demand.
“Our data shows that global housing boom appears now to be losing momentum, with most of the Middle East, Latin America, Australia and New Zealand and some parts of Asia experiencing either house price falls or a deceleration of house price rises,” says Matthew Montagu-Pollock, founder and president of Global Property Guide (GPG), a firm which surveys residential housing prices worldwide and compares data. He also points at markets with sharp price rises, which might look healthy, but should be handled with care.
According to Montagu-Pollock, the five strongest housing markets based on the GPG’s survey during the second quarter were Iceland (21.28 per cent), Hong Kong (19.27 per cent), Ireland (13.52 per cent), Canada (13.08 per cent) and Romania (8.87 per cent). The biggest year-on-year house-price declines were in Puerto Rico (down 9.59 per cent), Russia (7.58 per cent), Qatar (6.25 per cent), Macedonia (5.99 per cent) and Egypt (5.32 per cent).
This indicates that investors should not invest in markets showing signs of overheating or in value-losing destinations in view of the fact that the overall market is losing momentum.
Bubble Index
The UBS Global Real Estate Bubble Index, an annual study designed to track the risk of housing bubbles in global cities, comes to a similar conclusion. The this year’s index puts Toronto on top of the risk list, thanks to skyrocketing home prices and strong buyer demand. Toronto is followed by Stockholm, Munich, Vancouver, Sydney, London, Hong Kong and Amsterdam.
“These cities all remain in risk territory, with Amsterdam joining this group after falling into overvalued territory last year,” said Matthias Holzhey, UBS researcher and co-author of the report. “Valuations are stretched in Paris, San Francisco, Los Angeles, Zurich, Frankfurt, Tokyo and Geneva as well.” Holzhey adds that low interest rates were a big contributor to the potential bubble, while other indicators are simply out of proportion.
“The bubble risk in select world cities has increased significantly over the last five years,” says Holzhey. “Real house prices of those metropolises within the bubble-risk zone have climbed by almost 50 per cent on average since 2011. In the other financial centres we looked at, prices have risen by roughly 15 per cent. This gap is grossly out of proportion to the differences in local economic growth and inflation rates.”
US cities with the highest risk of overheating are San Francisco and Los Angeles. In the case of San Francisco, the technology boom and strong foreign demand have helped house prices soar 65 per cent since 2012. Despite the thriving economy, average incomes have risen only 10 per cent since 2012 and have not kept pace with house prices.
In Europe, Stockholm is the city most in danger of a property bubble. In the last 10 years, house prices climbed by 60 per cent, more than twice as fast as incomes. Munich is in a similar situation against the backdrop of record-low vacancy. Home prices rose 85 per cent in the last 10 years and affordability continues to deteriorate.
London is a special case. Low affordability, economic slowdown and uncertainty about the UK’s relationship with the EU kept housing demand in check in the last four quarters, but the city is still in bubble risk territory.
In Asia, Hong Kong seems to be the most troubled city in terms of real estate overvaluation, although the market is still inflating, which has to do with the fact that there is not a lot of room left to develop on the island. However, demand is outstripping incomes, which has created affordability issues.
Middle East
In the Middle East, three key markets appeared to have lost steam. In Qatar, the property market is now in trouble as a result of a sharp economic slowdown and the ongoing diplomatic crisis in the region. Average home prices dropped 6.25 per cent during from January to June 2017, its fourth consecutive quarter of declines. Though, property prices increased slightly by 1.1 per cent in the third quarter of 2017 year-on-year.
The real estate market in Egypt remains weak, with the nationwide real estate index having fallen by 5.32 per cent year-on-year in the first half of the year.
Dubai’s residential property prices fell a soft 2.51 per cent in the first six months. However, demand seems to rise strongly again, signalling improving property market conditions. During the first half, the value of real estate transactions rose by 16.8 per cent year-on-year to $35.9 billion (Dh131.84 billion), and the number of transactions increased by 26 per cent, data from the Dubai Land Department shows.
