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Mar 29, 2011


Bank of Spain warns of further house price falls


House prices in Spain continue to trend downwards. Weak demand, massive oversupply of housing, record high unemployment, low consumer confidence, and a struggling economy are among the factors that prevent a full recovery from taking place.

On an annual basis, house prices were down 4.46% in February 2011, according to the valuers TINSA, or 1.92% down on the quarter, after a meagre increase of 0.01% q-o-q to November 2010.  When adjusted for inflation, prices actually dropped by 7.77% during the year to February.

  • House prices were down by 5.2% in large cities (y-o-y);
  • House prices down by 6.7% on the Mediterranean coast;
  • House prices down by just 0.8% in the Balearics and Canaries.

The Bank of Spain (BOS), which produces quarterly house price data, said that the average appraised value of houses stood at €1,825.5 per sq. m. in Q4 2010; about 0.36% lower than the previous quarter, and down by 3.53% from the same period last year.

House prices in Spain started to fall in 2008, after a decade-long property boom. Prices have fallen by about 20% from their peak in 2007, according to TINSA.

"Looking at previous cycles, the experience of other countries, and indicators of affordability, the adjustment in housing prices could continue", says the central bank’s latest report.


AVERAGE PRICE OF DWELLINGS (Q4 2010)

/ SQ. M.
Y-O-Y
Q-O-Q
FROM PEAK(Q1 2008)
Spain
1,825.5
-3.53
-0.35
-13.13
New Houses
1,829.9
-3.67
-0.91
-12.64
Existing houses
1,819.5
-8.32
-0.45
-13.44
Madrid and Barcelona
2,478.1
-4.61
-0.82
-14.20
Coastal provinces
1,583.6
-3.66
-0.26
-14.85
Other provinces
1,524.7
-1.29
0.78
-10.08
Source: Bank of Spain

Pessimism is rampant

Others are even more pessimistic:

  • House prices in Spain are likely to fall by 8% in 2011, according to Bernstein Research;
  • Fitch Ratings predicts a house price fall of 15% this year. The Spanish housing market will likely bottom in 2012, the credit rating agency added.
  • House price recovery will come to Spain later than the rest of Europe, according to PwC.

The Spanish property market “finds itself in the middle of a downturn,” says Ismael Clemente, real estate director at Deutsche Bank.  “We will start to see light at the end of the tunnel towards 2012 to 2015.”

Unreliable house prices?

Many doubt the central bank’s house price statistics, which are, allegedly, too optimistic. A major pitfall of the BOS’s house price figures is that they are based on official valuations, not on actual sales or contract prices.

"The problem with the government's data is it tends to understate price falls, which have been more like 30 per cent or more (peak-to-present) in coastal regions like the Costa Blanca and the Costa del Sol," said Mark Stucklin of Spanish Property Insight.

In 2008 the Minister of Housing, Beatriz Corredor, embarrassed the government by contradicting the official figures published by her own department, in a TV interview.

(See the discussion of Spanish house prices on the Kyero portal.  For web house price data see Facilisimo, Kyero, Fotocasa, and Idealista.)

From boom to gloom

For what it is worth, the official house price indices do track the enormous house price boom Spain from 1996 to 2007.  Spain’s national average house price rose by 197% (117% in real terms), one of Europe’s highest house price increases.

Madrid and Barcelona aside, house prices are highest on the Mediterranean: in Catalona, Andalucia and Valencia.  The price of coastal properties surged 250% (155% in real terms) from 1996 to 2007, on average, as hundreds of thousands of foreigners, mainly from the UK, France and Germany, bought property.

On the other hand, the average price of properties in Spain’s two main cities, Madrid and Barcelona, rose 188% from 1996 to 2007, while prices in other inner provinces rose by 175% (101%).

The massive housing boom ended abruptly in 2008, as the global crisis hit and credit dried up. The housing slump has battered the Spanish economy, and brought spiralling unemployment. Developers were left with blocks of unsold properties and massive debts. Uncertainty engulfed the market.

By end-2010, house prices have already fallen by about 17% from the 2007 peak, according to the Bank of Spain figures.

Property transactions rising!

Property transactions increased in 2010 by 5.9%, to 491,061, after three years of sharp declines, according to the Spanish Housing Ministry.

Confidence is beginning to return.  But transactions are well below the 950,000 seen at the peak, in 2006.

There were a total of 29,615 property transactions by foreigners in 2010, up 21% from 2009, but down 21% from the 37,714 transactions in 2008.

Massive oversupply

The degree of overbuilding can be guessed at by looking at the number of housing starts from the National Statistics Institute (INE):

  • From 1990 to 1996, an average of 240,000 dwellings were started annually.
  • Between 1999 and 2002, with house prices rising rapidly, dwelling starts exceeded 500,000 units annually. The number rose to more than 650,000 annually from 2003 – 2004
  • In 2005, dwelling starts exceeded 700,000 and peaked at 760,179 in 2006, due to rising demand from EU nationals 
  • In 2007 commodity price rises brought rising costs – and starts slowed to 615,976.
  • The global financial meltdown brought drastic decline. There were just 328,600 dwelling units started in 2008, dropping to 159,300 units in 2009. By year-end September 2010, there were about 91,500 dwelling starts in Spain.

Dwelling completions followed a similar path. Despite the massive oversupply, dwelling completions exceeded 630,000 in 2008, most units having been started before the crisis. In 2009, dwelling completions dropped to 424,000.

The number of unsold properties in Spain reached 1 million or 20% of the total housing stock in 2009, according to The Ministry of Housing. Real estate experts believe that another 6 years is needed to clear the unsold properties backlog.

Interest rates stabilize

The great Spanish housing boom was fuelled by 15 years of dramatic reductions in mortgage interest rates, from 17% in 1991, to 10%–12% (1995 to 1996), to below 3.5% (2004 – 2005) - among the lowest rates in Europe.

Post-crisis, the average mortgage interest rate in Spain has stabilized at between 2.3% and 3.0% since the second half of 2009, after the European Central Bank (ECB) cut rates in response to the financial crisis to a historic low of 1% in May 2009, where they have remained.

In January 2011, average Spanish mortgage rate rose slightly to 2.88%, from 2.52% during the same period last year, according to the Bank of Spain.

Spain’s housing market is extremely vulnerable to interest rate changes, due to the use of adjustable rate mortgages. More than 80% of new mortgages have had initial rate fixations (IRF) of less than 1 year since 2004 (more than 90% of new loans from 2005 to 2006). In 2010, about 86% of new mortgage loans had an IRF of less than a year.

The fact that, despite record low interest rates, there has been so little mortgage uptake, reveals the weakness of housing demand.

Problematic loans hit the banking sector

Spanish banks are now Spain’s largest property owners.  Spain’s banks hold more than €100 billion of problematic loans, plus a large portfolio of repossessed properties whose value has continuously plummeted.

About €20 billion is required to rebuild the banking sector, according to the government.  Moody’s believes a far higher amount - €50 billion - is needed.  In January 2011, bad loans rose to 6.1% of the banks’ loan portfolio, the highest ratio since October 1995, according to Bank of Spain figures. Record unemployment is leading to rising defaults.

Stagnant mortgage market

As a proportion to GDP, the Spanish mortgage market has grown from 17% of GDP in 1995, to 29% in 2000, and 62.5% by end-2010.  In 2010, total outstanding mortgage loans grew just 1% from the previous year, after stagnating in (- 0.02% change) in 2009. The mortgage market grew by more than 20% annually from 2003 to 2006; although growth slowed to 13% in 2007 and 4% in 2008.

Generous tax breaks for mortgage interest payments and capital repayments helped fuel mortgage growth. Income tax deductions reduce effective interest rates on Spanish mortgages by 2 percentage points, according to an OECD study, and real after-tax interest rates have been negative since 1999 (the study was published in 2004).

The subsidies effectively allowed homebuyers to increase their total borrowings by 15% to 20%. Housing savings schemes were also given tax breaks.  Imputed rent for owner-occupied houses, and capital gains on the sale of the primary residence, are also tax-exempt.

Very low rental yields

Rent controls cripple Spain’s rented sector. Only 10% (8% in the private rented sector) of all housing units remained in the rented sector in 2004, down from 20.8% in 1981. New tenancies were partially liberalized in 1985, but leases must run for a minimum of five years, and it is difficult in law to recoup unpaid rents.

However arguably an even bigger problem for landlords is that gross rental yields are very low - gross returns on renting for Spain as a whole fell from 3.8% in 1Q-1998, to 1.1% in Q4-2010, according to the Bank of Spain.  Landlords are often better off keeping their units unoccupied, because rental income is typically insufficient to compensate for the wear and tear of letting.

In 2001, 14% of the total housing stock was vacant, bigger than the entire rental stock.

Gross rental yields in Madrid are extremely low at around 3.8% on the very smallest apartments (50 square metres), according to a Global Property Guide research conducted in July 2010. Larger apartments yield substantially less, at around 2.6% on apartments of 200 sq. m.

In Barcelona, gross rental yields are slightly higher at 4% (the return on 60 sq. m. apartments).  However, this remains low by international standards.

Battered economy

Spain’s economy grew by 3.8% annually from 1997 to 2007, fuelled by the property boom, supported by cheap mortgage credit and the surge in residential construction.  At the height of the housing boom, total investment in housing was 7.5% of GDP in 2007, significantly above the OECD average. In 2011, investment in housing is expected to be around 4% of GDP, the lowest for years, according to the BOS.

Spain’s economy plunged into recession in late 2008.  In 2010, the Spanish economy contracted by 0.35%, after experiencing a 3.7% decline in 2009, according to the IMF. In 2011, the economy is expected to record a meagre growth of 0.7%.

The construction industry is a key employer of low-skilled workers in the country. The increase in construction activity helped pull unemployment down to 8.3% in 2007, from 24% in 1994. Now unemployment has skyrocketed again to a 12-year high of 20.33% at end-2010, the highest level in the OECD.

Since the 1980s, the Spanish government has annually run a deficit. It broke briefly into surplus in 2005, 2006 and 2007 (2.7% of GDP). However, the recession pushed the deficit to 3.8% of GDP in 2008, and 9.24% of GDP in 2010, way beyond the EU limit of 3% of GDP.

Fitch Ratings has downgraded its outlook on Spain from stable to negative, but left Spain’s country rating at AA-plus.






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