The investment property market has grown increasingly jittery in recent months due to concerns of a renewed global recession looming ahead. As a result, investors are again zooming in on the most liquid and stable asset classes, and the price of risk has gone up. In Denmark, growing concerns about the housing market due to stagnant ownership prices and slower transaction activity combined with sustained high levels of newbuilding have curbed investment activity in terms of newbuilding of residential rental properties. In this update, we take a look at market resilience in various scenarios.
Growing financial market uncertainty is feeding through to the property market
Global financial markets have been very jittery in recent months. Although economic trends remain favourable, indications of a slowdown are becoming stronger. Add to this all kinds of geopolitical and other concerns – rising global sovereign debt, a potential conflict with the EU concerning the financial politics of Italy, the risk of a trade war – it is not surprising that this autumn has been tough on the financial markets.
Mounting risk aversion has translated into stock market declines and driven up corporate bond yields.
In the Danish property market, uncertainty has been rising too. The Copenhagen housing market has come under increasing pressure, reflected in a pronounced slowdown in transactions involving residential commonhold units. In addition, newbuilding activity is brisk: The City of Copenhagen alone expects to see almost 6,000 residential completions within the next 12 months.
The prevailing uncertainty serves to make investors a bit more cautious. Moreover, we have seen mortgage banks adopting (slightly) tighter lending policies, another reason why transaction activity has slowed.
Property market fundamentals are healthy
Following several years of price hikes prompted by low interest rates and capital abundance, however, a certain slowdown may fundamentally be considered a sign of health.
Stagnant housing prices will cause a slowdown in residential newbuilding, which has been soaring in recent years. Longer term, this will help to curb new supply. As construction activity has been largely concentrated in and around high-growth towns and cities in Denmark, a continued urbanisation trend will support a sustained increase in demand, which, longer term, will absorb the housing oversupply seen in Copenhagen and not least cities like Aarhus and Aalborg.
At the same time, employment levels are very high and consumer spending reasonably strong. This fosters demand for offices and logistics and production facilities in particular. These segments are witnessing uptrending rental prices and growth in the number of building starts. Were it not for a slowdown in residential newbuilding, the risk of overheating in the construction sector would be high.
Director Per Hallgren of domestic property company Jeudan recently stated that “the current situation has previously turned out to signify a late-cycle trend, which subsequently opened up opportunities to financially strong investors”.
This statement precisely pinpoints the wait-and-see attitude that to some extent prevails among financially strong investors in the market. Prices have risen too fast and arguably at a slightly excessive rate. However, with very substantial capital concentrations allocated to property investments, not only at Jeudan and other property companies, but also in the domestic institutional sector, there is a limit to how bad things can get.
Meanwhile, many European investors quite rightly consider it attractive to invest in the Danish market. Historically, rental prices have been relatively stable, Danish economy is strong, and the Danish mortgage system probably provides the most attractive form of property financing available.
Discounting a few investors and developers relying on the market for high-yield corporate bonds for financing, we believe that there is no risk of a market price correction giving rise to financial difficulties in the property investor community.
Domestic mortgage institutions and banks are showing sufficient prudence in terms of property and development financing, focusing on both loan-to-value ratios and liquidity. The market is therefore fairly resilient to not only a scenario with rising interest rates and inflationary trends, but also a scenario where the economy relapses into recession with increasing unemployment levels, increasing vacancy rates and downtrending rental prices.
Even such scenarios will not result in default and forced sales on any large scale. And in the basic scenario we envisage, including a moderate slowdown in growth and a stable interest rate level for at least another year, there will be more than sufficient capital to avert a major correction in the market.