Comment by Black Label’s investment analyst Evgeny Vetokhin
Historically, Berlin is lagging behind the six largest cities in Germany with higher unemployment, lower economic output and thus lower purchasing power index. The effects were slower economic results and therefore a lower purchasing power index. Over the past few years, this momentum has changed somewhat and the gap has narrowed as unemployment has been consistently below 10 per cent for many years and Berlin has developed into a service-based economy (85 per cent of output comes from services). While economic growth in Germany is slowing down overall, Berlin has far exceeded the national average, reaching 3.1 per cent in 2017.
Berlin’s population has been growing steadily since 2004, with more than 50,000 people coming to the city each year looking for work. In 2017, Treptow-Köpenick recorded the highest percentage of population growth in Berlin, and while some neighbourhoods, such as Friedrichshain-Kreuzberg, are considered overpopulated (with the highest population density), there is still significant growth. Despite the high density, there is still a lot of potential in properties that are not yet developed or unused. Berlin-Mitte shows how densely population development and new construction measures are connected since at the same time the most comprehensive housing construction and the largest absolute population growth are recorded.
Prices and rents
While the upward trend in the rental sector slows down somewhat, Berlin continues to record double-digit price increases for condominiums and multi-family dwellings. The price offers for condominiums increased by 12 per cent compared to the previous year. The median asking price in the first to the third quarter of 2018 was € 4,150 per square meter. With price increases almost double digits in previous years, demand exceeded the number of available apartments, driving up prices.
This is due, on the one hand, to the tight letting market. Secondly, continued low-interest rates mean that the amount of monthly loan payments is lower than the rents for comparable apartments, even with high purchase prices. Third, there are long-term motives for domestic and overseas buyers of condominiums such as wealth accumulation and old-age provision.
The vacancy rate in Berlin today is only 1.1 per cent
As in previous years, the largest number of condominium offerings was concentrated in the city centre or in nearby districts. Over 50 per cent of the ads were recorded for the four central districts of Charlottenburg-Wilmersdorf, Mitte, Pankow (including Prenzlauer Berg) and Friedrichshain-Kreuzberg.
As far as rents are concerned, in the first three quarters of the year, the average value of the offers was € 10.34 per square meter. This is 5.6 per cent more than in the same period of 2018. Compared to 2017, the increase has slowed somewhat — rents for newly completed and existing apartments rose by 6–7 per cent. Growth in the previous years was 3 per cent in 2014, 3.8 per cent in 2015, 5.5 per cent in 2016 and 7 per cent in 2017. The slowdown may be a slight correction to the increases of recent years and may have sprung partly into the discussion of stricter rents laws.
Urbanity and centrality continue to be the most important factors influencing leases. At 12.99 euros per square meter (plus 9.9 per cent), the dynamics in Friedrichshain-Kreuzberg were particularly strong, this district recorded the highest increases in Berlin, in terms of absolute numbers and percentages.
The number of offers for the purchase of apartment buildings in Berlin has declined steadily in recent years. As in the condominium market, demand clearly exceeds supply. Considering an unbroken uptrend in terms of rents and price levels and the lack of investment alternatives many owners do not see any sense in selling. The volume of portfolio transactions in 2017 was 4.6 billion euros, well above the level of the previous year. There were signs of a shortage of supply in the first three quarters of 2018. Berlin’s total share of the nationwide transaction volume was only 19 per cent. As for individual transactions, more than 1,000 livable or commercial buildings are sold each year, according to the Expert Committee. The market is therefore still liquid, but it is becoming increasingly difficult to generate significant purchasing volumes.
The share of rental apartments in the volume of new construction continues to increase. Many districts are seeing a significant increase in the new construction pipeline. Marketing is currently focused on the rental property segment, with 60 per cent of the new units earmarked for letting. This share could even increase if, as one would expect, some of the new condos are let by their buyers as investment real estate.
Will the current price cycle end soon?
The typical duration of a real estate price cycle is only five years. The 10-year cycle is, therefore, a conspicuous case. Especially in terms of financial stability and a potentially negative impact on the economy. The risk of a sharp setback increases with each increase. The following conditions would show that the uptrend cycle is nearing its end:
- The supply is being massively expanded and vacancy rates are rising. Given the constraints of new construction, it is unlikely that the cycle will end until 2022.
- The labour migration to Germany stops. According to current information from the Federal Statistical Office, net migration to Germany in 2017 amounted to 416,080 persons. In its monthly report in June 2018, the Bundesbank expects net migration to reach 1.2 million in the period from 2018 to 2020, making the decline in labour migration unlikely.
- Interest rates are rising sharply and thus rental yields in the German residential real estate business are also becoming less attractive.
- The population clearly prefers to rent a property instead of buying it. Rental rents in 2017 rose year on year to a 23-year high of 6.9 per cent. Although leasing momentum has slowed substantially in 2018 and thereafter and further policy measures are expected for rental control laws, bottlenecks in the housing market point to a continuation of the upward trend. According to DB research, the four above-mentioned conditions are unlikely to occur in 2019. Therefore, the price cycle is expected to stay in place.
As in the last 10 years, prices are likely to rise faster than rents
While this trend puts further downward pressure on initial yields, real estate market wealth is likely to be more attractive than investments for both private and institutional investors. This constellation argues against a short-term end to the cycle, as yields on the real estate market are likely to significantly outperform interest rates on long-term German government bonds in the coming years.
Many properties are also more attractive than the very volatile prices and dividends of public companies. Rental yields of 4 per cent a year should, therefore, attract additional investors, and in times of crisis, real estate investments will probably give preference to financial assets.
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