Home prices are stagnant, while mortgage volume growth appears modest at best. However, the cheaper end of the housing market shows signs of overheating in response to mandatory lending criteria. Value adjustments appear imminent in the multi-family housing market. Rents for modern apartments are under more pressure than those for older apartments.
Zurich, 17 January 2018 – In the face of rising risks, the multi-family housing market has pushed the owner-occupied housing and the office space markets out of the spotlight. The UBS Real Estate Focus 2019 examines this trend and also looks at wider global property issues and real estate valuations.
Owner-occupied housing market:
Gradual devaluation reduces imbalances
Swiss home prices have risen only slightly since 2015 while economic growth has steadily picked up, reaching well above 2% last year. In addition, the volume of outstanding household mortgages has grown more slowly than at any other time since 1998. These trends resulted in a decline in the UBS Swiss Real Estate Bubble Index, with the index exiting risk territory for the first time since mid-2012.
Despite the strength in the Swiss economy, the UBS Chief Investment Office Global Wealth Management expects only a slight increase in home prices this year. While single-family homes are expected to rise in price by 1%, we expect a slight fall in the prices of condos, due in part to inflated price expectations and competition from rental apartments.
Regulation has caused the low-price housing segment to overheat
Although the overall housing market has eased, new imbalances have arisen. People looking to buy an owner-occupied home in city centers often fail to secure a loan as they have too little equity or income. This has resulted in buyers making concessions in location or size of their home. This trend has pushed up demand in the low-price segment. Over the past three years, condominium prices in the low-end segment have risen by more than 10%, while prices in the high-end segment have, in some cases, fallen significantly.
If demand for owner-occupied homes declines or if the regulatory requirements for financing them loosens, then disproportionately higher losses can be expected in the low-price segment as the shift in demand toward cheaper properties distorts relative prices in the owner-occupied housing market. Thus, the premiums have fallen for good macro- and micro-locations alike. On the one hand, the rate of price change since 2012 has been three times higher in the extended metropolitan areas than in city centers. On the other hand, the premium for good micro-locations halved in comparison with poorer micro-locations over the same period. In addition, purchase prices for smaller housing units rose significantly more than for larger ones.
Rental housing market:
Rents for modern apartments come under pressure
Competition in the rental apartment market is likely to peak toward the end of this year at an estimated 80,000 vacant dwelling units (including owner-occupied homes). The average asking rents (rents for new, initial, and re-letting) in Switzerland fell last year by about 2% and are likely to fall again by a similar amount in 2019. Rents are expected to fall by as much as 5% in the vacancy-prone periphery, while asking rents in city centers are expected to remain stable in 2019.
New builds no longer generate higher rental income than modern but no longer brand-new apartments constructed between 2000 and 2010. The latter are facing particularly stiff competition from new builds since they target similar audiences and are therefore prone to rent reductions. Low-priced apartment blocks from the 1960s and 1970s, on the other hand, are little affected by competition from new builds, since this segment appeals to a different income bracket.
Investments in apartment buildings may fall in value
Multi-family home purchase prices have increased by around 80% since 2005 but have stagnated over the past three years as rents have fallen. In the medium term, the value of multi-family homes is likely to fall: UBS expects a fall of just under 10% by 2023. However, the cumulative rental income is likely to be sufficient to generate a positive total return.
Both investments in expensive central locations and on the periphery show an above-average susceptibility to value adjustments. In the periphery, the location risk premiums are often too low to absorb the rising vacancy risk. Investments in central locations only pay off if interest rates do not rise. Metropolitan areas with slightly higher income returns and a manageable rent default risk appear the most attractive investment. In spite of value adjustments, the total return on multi-family home investments is projected to be close to 10% by 2023.
Commercial real estate market:
Office space rental income recovers
Demand for office space is expected to increase significantly this year, reducing oversupply. Market rents for new builds declined by nearly 15% between 2015 and 2017. Last year, however, they saw a slight recovery and one which we feel could continue. The recovery is most obvious in the major cities – some metropolitan areas may even see price rises. The Geneva market remains the biggest concern as major construction projects continue apace.
Retail space profitability remains under pressure
A shift in sales to online retail will continue to put pressure on the retail-space market in 2019. In order to avoid rent reductions, tenants are being offered flexible layout concepts and contractual arrangements, contributions to tenant improvement costs and site marketing concepts. However, these strategies entail costs for the landlord. Demand for prestigious addresses remains high. Asking rents at prime locations in Zurich and Geneva have risen by approximately 4% since mid-2017.