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The increasing demand for residential real estate in Hungary is expected to grow further in 2019, particularly in Budapest. Together with the tightening of supply after 2020 this may increase prices and also the already existing risk of overvaluation. The commercial real estate market is showing robust development and leasing activity, accompanied by a lower investment turnover due to the low supply of commercial property.
The annual growth rate of house prices in Budapest in 2018 amounted to roughly 20 per cent, exceeding the rate observed in countryside settlements, according to the current statistics of the Hungarian National Bank (HNB) (2018 Q2). Residential property prices have already exceeded the level justified by economic fundamentals due to the persistent, substantial rise. This means that house prices in the capital rose faster than justified by underlying factors such as households' disposable income and labour market position. Thus the risk of overvaluation increased significantly (Chart 1, Chart 2).
The upturn in the Budapest housing market has not been accompanied by excessive mortgages. The ratio of household housing loans compared to housing market transactions increased to 46 per cent in the period mentioned. This is means that more than half of the housing market transactions did not involve bank financing. The reduced level of mortgages also highlights the fact that residential property is often purchased for investment purposes to compensate the low interest rates offered by banks on savings.
Starting with the period between 2020 and 2023 a major decline can be expected in new housing supply. The preferential VAT rate applicable to new housing will expire at the end of 2019, and from 2020 the general VAT rate of 27 per cent will be in effect instead of 5 per cent. According to a recently introduced exception to this rule, the 5 per cent VAT can still be applied to new residential property until 2023 if the construction permit was issued by November 1, 2018 or for residential property below 300 square meters. In this case, the reduced rate is applicable if the new housing is sold by December 31, 2023.
Although additional housing projects may be announced for 2020, the decline in planned residential construction clearly foreshadows a decrease in future supply. Sixty per cent of planned completions are already delayed due to the scarcity of labour caused by the migration of workers to countries with higher income levels. Vocational education is unable to fill the current increased demand for labour due to deficiencies of the education system and young builders seeking work abroad. Thus, some of the large number of projects slated for completion in 2019 may be delayed. On the whole, the expected decline in the supply of new homes – assuming continued strong demand – points to a continued rise in house prices.
It may be noted that the overvaluation of real estate prices is not characteristic just of Hungary, but also of several European countries. The dynamic rise in house prices and the related potential divergence of these prices from fundamental developments is also present in the markets in 13 European countries, as observed by the European Central Bank (ECB). According to the ECB's estimate, this overvaluation exceeds 10 per cent in 8 Member States, while in Sweden and Luxembourg house prices are well above the justified level, by roughly 38 and 32 per cent.
The high yield premium realisable on the Hungarian property market still attracts investors, but the volume of transactions declined temporarily, due to the low supply. Strong growth in investment turnover was observed on the domestic commercial real estate market in recent years, but the turnover registered last year falls substantially short (by almost 40 per cent) of the year-on-year volume. However, the decline in investment turnover was attributable primarily to the temporary shortage of high-quality properties available for sale rather than to the fall in demand, which may be eased by the higher volume of office completions in 2018–2019. On the whole, due to the low interest rate environment, the high yield premium of property investments continues to generate strong demand on the property market.
As a result of the large volume of office completions in 2018–2019, the shortage of office space for lease may decrease. However, the completion of almost 250,000 square metres of office area in 2018 as a whole, and 150,000 square metres expected for 2019 comes close to the degree registered in the previous cycle (Chart 4). The commercial real estate market continues to be characterised by strong demand from tenants, however the recent completions are expected to increase the vacancy rate. The vacancy rate for industrial and logistics properties in Budapest and the environs has dropped to a historic low.
The volume of new commercial property loans has increased dynamically. In 2018 H1, the credit institution sector disbursed project financing loans secured by commercial real estate in the amount of HUF 198 billion to enterprises, which exceeds the year-on-year volume by 67 per cent. The volume of HUF 120 billion registered in the second quarter was unprecedented since the start of 2009.
Slightly more than half of the loans disbursed in 2018 related to the purchase, rather than to the development, of commercial properties, while in 2008–2009 the ratio of loans for the purchase of properties was around just 10 per cent (Chart 5). On the whole, 77 per cent of the loans disbursed in 2018 H1 were denominated in foreign currency.
With rents determined in euro, the commercial property loans disbursed in euro represent only partial coverage for exchange rate risks, because although the credit institution and the borrower are hedged, the tenants run an exchange rate risk. The risk exposure of certain property types is lower if they are leased by tenants typically selling on the international market at prices denominated in foreign currency. Although foreign currency financing – typically in euros – has always been a standard feature of commercial property financing, the vulnerability of economic agents with no natural hedging should not be underestimated. This applies particularly to lower quality properties occupied by tenants pursuing forint-based activity and sectors more sensitive to business cycles.
Compared to the pre-crisis period, it is a positive development that lending in Swiss francs is no longer typical for commercial property projects. A good part of the project financing loans disbursed in Swiss francs included an additional exchange rate risk factor, since with the rents mostly contracted in euro, the "virtual" hedge did not exist even in the relation between landlords as borrowers and banks as lenders.
At the regional level, the commercial real estate markets are characterised by low office vacancy rates and high investment volumes. The trends observed in the Hungarian commercial property market, i.e. robust investment demand and low vacancy ratios, a high degree of development activity and declining yields, also apply to the countries of the CEE region. While in Hungary the investment volume in 2017 reached 200 per cent of the average of the last 10 years, this figure was over 300 per cent in Bulgaria. The vacancy rate of offices offered for lease was at a record low in all of the countries in the region, with the exception of Poland. At end-2017, the lowest vacancy in the office market was registered in Slovakia (6.2 per cent), while – in addition to Hungary – in the Czech Republic only 7.5 per cent of the offices offered for lease were vacant.
Source: Hungarian National Bank
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