Update on the Irish housing market

The Irish housing market has been characterised for some time now by excess demand, rising prices and  a record level in rents, although against a backdrop of contracting mortgage debt . Supply is increasing but  at a pace which is lagging the annual growth in demand, so it is difficult to see any change in the existing pattern, at least in the shorter term.

Indeed, house price inflation is now re-accelerating after a slowdown earlier in the year, according to the CSO’s new index. This is now based on all housing transactions, as opposed to those funded by mortgages alone, and showed a marked softening in the market over the winter months including a modest decline in prices in the three months to March. Momentum picked up again over the summer, however, with a 5.2% increase in prices in the three months to end-August, pulling the annual increase up to 7.2%. The earlier slowdown was most pronounced in Dublin and although prices have picked up again in the capital (the annual increase is now 4.5% from 2.6% in June) the re-acceleration has been clearly driven by developments in the rest of the country: prices ex  Dublin rose by 7.1% in the three months to end-August, taking the annual increase to 11.4%. That 3-month change is the strongest recorded on the index ( which goes back to 2005) and is reminiscent of the kind of price changes seen in the late 1990’s.It now seems likely that by December the annual increase in prices nationally  will be around 10%, which is stronger than many expected and compares with 4.6% in 2015.

Demand for housing would appear to be strengthening: net migration turned positive again  in the year to April, employment is rising by around 50,000 a year and wages are increasing again in the private sector, so helping to boost household income. In addition, mortgage rates are falling and our affordability model indicates that the cost of servicing a new mortgage relative to income is at levels last seen in the late 1990’s. New mortgage lending is indeed picking up, after a softer period post the introdution of the Central Bank’s macroprudential controls, but the increase is modest; some 17,300 loans for house purchase were drawn down in the first nine months of 2016, against 16,900 in the same period of 2015. For this year as a whole we expect a total of around 24,500 or 3% above the previous year. In value terms that equates to €4.8bn, and €5.3bn for total mortgage lending ( which includes top-ups and re-mortaging, with the latter rising rapidly in percentage terms, albeit from a very low base).

New lending is still being offset by debt repayment and this deleveraging has been evident now for six and a half years, although the most recent data does indicate that the pace of credit contraction is slowing. Another unusual feature of the market has been the preponderance of non-mortgage buyers , accounting for 50% or more of transactions. The third quarter data  currently  indicates that mortgage loans accounted for over 56% of transactions as recorded in the Property Price Register, perhaps indicating a slight change, although it is too early to say as the numbers on the Register are continually updated.

Residential rents have been growing at a steady 8%-10% annual pace for some three years now and the latest CSO  data, for September, shows little change, with an annual 9.6% increase  despite the Government’s rent controls.

What about supply, which is universally recognised as inadequate. Completions in the first eight months of the year amounted to just over 9,100, with the full-year figure likely to be around 14,500 or less than 2,000 above the previous year. Forward looking indicators do not signal any dramatic change, with  planning permissions for 6,200 units granted in the first 6 months of 2016.

Housing supply may well respond to higher prices in time but there is no quick fix to the current position of excess demand. In that context the announcement of a Help to Buy scheme in the recent Budget is hard to fathom, as it offers First Time Buyers a tax rebate towards their deposit. so presumably boosting demand further.The Finance Minister suggested that this would help to stimulate new builds  but it’s hard to argue that demand is the issue, rather than supply.

 

 

 

 

 

 

 

 

 

 

 

Irish Consumer spending accelerating despite deleveraging

Following the  recent revisions to the Irish National Accounts it appears that  the recovery has been stronger and less volatile than previously reported, leaving real GDP in the first quarter of 2015 3.9% above the pre-crash high. Forecasts for economic growth this year are also moving up, including  revisions to estimates for consumer spending, but the latter may still be too low in our view as we expect real personal consumption to rise by 4.2%. This compares with the Department of Finance’s 2.4%, the Central Bank’s 2.3% and 2.0% from the ESRI, although all  these were made before the release of the  official Q1 data.

Forecasters have generally become cautious about consumer spending in the wake of previous projections which had proved optimistic, in part because of the uncertainty about the pace of debt repayment by Irish households.  Debt peaked in late 2008 and has fallen  by almost €50bn  to stand at €154.6bn in the first quarter of 2015. This is still high by international standards , at an estimated 166% of disposable income, but is a far cry from 211%, the debt burden at the peak of the cycle.

So debt reduction rather than debt accumulation has been a key feature of Irish household behaviour over the past seven years, which has acted to dampen consumer spending. A corollary is that the gross savings ratio has risen sharply. from 7%  of disposable income in 2007 to a peak of 16.7% in 2009  and  a 12%-13.5% range  in recent years.

The published data on consumer spending has also appeared at variance with that on retail sales, with the latter implying stronger spending than actually recorded in the national accounts. One factor here is the impact of tourism, which affects retail sales but is excluded from Irish consumption. Another issue is the price deflator used to adjust nominal spending to derive real personal consumption. That deflator has been much higher than either the deflator for retail sales or from the CPI, and probably reflects the inclusion of imputed rent in the personal consumption measure, as private sector rents have been rising at an annual 8%-10% for the past few years.

Yet recent developments still point to a strong pick up in consumer outlays. First, spending over the past few years has been revised up, and has risen consistently  for the past eight quarters, with an acceleration evident in the second half of last year. Second, spending grew by 1.2% in the first quarter of 2015 and at a 3.8% annual rate. Third, retail sales have been much stronger this year, boosted by a surge in car sales ( up some 31% in the first half of 2015) . Fourth, sales excluding cars, a better proxy for overall consumption, have also grown at a robust pace, with the annual increase accelerating to 6.6% in the second quarter from 5% in q1. This implies a stronger annual increase for personal consumption in q2, even allowing for the rental price effect.

A number of other factors also support the case for stronger consumption. Household income is now growing, expanding by 3.2% in 2014 following a 1.1% advance the previous year, and is likely to continue to grow at a faster pace this year , given the ongoing rise in employment and signs that wages are starting to pick up. Consumer prices are still falling, which also will help and household wealth is recovering, having risen by €154bn or 35% over the past two years. It is impossible to gauge when household deleveraging will end, but on the recent evidence the impact of debt reduction on personal consumption is being more than offset by a number of other developments, all  supporting stronger personal consumption .

Dublin House Prices: Bubble or not?

The CSO recently released the latest Irish house price data, for October, revealing that residential property prices excluding Dublin  are picking up at an accelerating pace; prices rose by 4.8% over the past three months, bringing the annual increase in October to 8.7%, an inflation rate last seen in early 2007. Yet prices are still only 12% up from the lows recorded eighteen months ago and  so few would consider that the market over the bulk of the country is overheating, particularly as national prices still look far from overvalued relative to affordability, incomes or rent.

The price trend in Dublin is very different. Prices there have risen by 46% from the lows recorded in the summer of 2012 and are now 38% below the levels seen in early 2007, a peak now generally considered the height of a Bubble. That term is now reappearing in the context of commentary on the residential property market in the capital and it does arguably satisfy some of the usual criteria employed to categorise a Bubble. One is rapid price appreciation and that is certainly the case ;  the annual increase in October was 24.2%, a pace rarely seen and then only back in 1997 and 1998, in the run-up to euro membership. Moreover, the pace of price inflation has accelerated this year and  the past three months has seen a 9.3% rise, or over 42% at an annualized rate. Expectations of further price gains is also a common feature of asset Bubbles and that also appears to be present; a recent Daft.ie survey showed respondents expect Dublin prices to rise by an average 12% over the next year, up from 6% twelve  months ago, even though  only 15% believe housing in the Capital is still good value (the  value figure for housing ex Dublin is 50%).

Price expectation is an important determinant of  the actual house price trend , notably in terms of the user cost of housing ( the total cost of buying a home with a mortgage, including the mortgage rate, maintenance, depreciation and any tax breaks). That user cost is now negative, particularly so in Dublin, because the expected capital appreciation from buying a home exceeds the other costs, including the mortgage rate.

Bubbles are also often associated with leverage and Dublin fails the Bubble test on that measure as credit is clearly not a driver, or at least credit from the main Irish mortgage lenders. Data from the Banking and Payments Federation Ireland (formally the IBF) showed that the number of new mortgages for house purchase  in Ireland amounted to 5763 in the third quarter, against total property transactions of 11,257 as reported in the Property Price register, so 51% of transactions were funded by Irish mortgages, a proportion that has risen through the year ( from 46% in q1) but is still well below the 80%-85% one associates with more normal market conditions.

A final Bubble test is whether  asset prices make sense relative to fundamentals and here there is often room for debate (witness the range of views on US equity markets and Euro bond yields). In terms of housing one metric is to compare prices with  private rents , as the latter represents the amount consumers are willing to pay for the utility housing provides . Rents nationally, as reported by the CSO, have been rising now for four years, by a cumulative 21%, and have picked up momentum again in recent months after a sluggish period earlier in the year, increasing by 2.5% in the  three months to October. The CSO does not provide a regional breakdown but Daft.ie does , and their figures broadly track the official data. The website shows  strong double digit growth in Dublin rents (around an annual 15% of late, with growth elsewhere at less than half that pace)  and provides detailed rental figures across housing size and type. For example , a 3-bedroom house  in Dublin currently rents at an average €1,518 per month, or €18,216 a year. In theory, the price of any house, discounted at an appropriate rate, should give a present value equal to the rent. If we use the average new mortgage rate as our discount rate ( 3.25%, as quoted by the Central bank) that  Dublin rent implies a house price of €560,000. The Central bank data has been criticized and is going to be revised so an alternative would be to use the standard variable mortgage rate of around 4.25%. On that basis the house price would be  €430,000.

How much is the average price of a house in Dublin? Our own estimates, based on updating the Irish Permanent index (no longer published) with the CSO index gives an actual  figure around €300,000, which is broadly consistent with the average asking price of €325,000 quoted by Daft.ie. The median price of Dublin property transacted  in q3 on the Property Price register was under €280,000 so the implication is that prices in the capital are still not excessive relative to rents, despite the recent pace of price appreciation.The latter reflects ,in part, a recovery from over- sold territory but nonetheless ticks a few Bubble boxes, but not all.

Irish Household incomes and pay

The plunge in support for the sitting Government in the local and European elections has been attributed to a number of factors but a general theme is the view that Irish households are not seeing any improvement in their incomes, despite the much talked about economic recovery. Irish GDP has indeed picked up somewhat but the increase has been very modest, at just over 2% from the low in late 2009 , and extremely uneven, with any quarterly gains often followed by contractions, as per the most recent figures for the final quarter of 2013.The labour market has been an unambiguous positive, with surprisingly strong job creation through last year, but the available data from the CSO  shows that household incomes still fell in 2013, for the fifth year in succession, and that trend is clearly dominating  many people’s perception as to the general health of the economy.

Gross household disposable income in Ireland grew very rapidly in the first half of the noughties, sometimes at a double digit annual pace, and peaked in 2008 at just under €102bn. Wage income is the major driver of total household incomes (the product of average pay and the numbers in employment) and during the boom both components were rising at around 5% per annum, with other gains from rents, profits and rising transfers from the State.  The scale of the fall since then has been extraordinary;gross income is now back under €87bn, a level last seen in mid-2006, following a cumulative 15% fall over the past five years. The plunge in employment has been a key factor, but the other components also fell , offsetting higher transfers, and the tax burden has also risen, although it is worth noting that two thirds of the total €30bn fiscal adjustment occurred between 2009 and 2011.The hit to nominal incomes has been cushioned to some degree by low inflation (in fact negative at times) but the CPI is currently around the same level as in 2008 so that 15% decline translates into a similar fall in real incomes.

The pace of income decline is slowing however, with the initial data showing only a 0.5% fall in 2013, and the latest figures on pay point to some potential improvement. Weekly earnings did fall in the first quarter of 2014 but the  annual decline was a very modest 0.4% and included a 0.7% increase in private sector earnings. The quarterly data can be very volatile but the private sector did record marginal pay increases in both 2012 and 2013 , albeit with a very broad distribution, including strong gains in the  professional and scientific area and in information and communication, with more modest rises in retail alongside further falls in  other industries. The pay increases seen in the first quarter were broadly based,  nonetheless, with 7 of the 10 private sector industry groups recording wage gains, including a double digit annual increase in construction, over 4% in industry and over 5% in the hospitality sector. Pay in the public sector is still falling however and so a significant rise in overall earnings is unlikely this year, but the downward trend may at least be coming to an end.

Any rise in average pay will of course boost household incomes, as will a further increase in employment, although  job creation slowed to a halt in the first quarter and the rise in 2014 is now likely to be lower than most forecasts had envisaged.Rents, too, are rising again, offering further support to household incomes, but disposable incomes will be affected by a rise in tax receipts .Overall, then,the big falls in household incomes are hopefully  behind us but it is difficult to see a period of strong increases in incomes in the near term particularly if employment growth slows further.

Dublin House price inflation likely to slow this year

Irish residential property prices fell by 4.5% in 2012 according to the CSO index  and by 2.5% in Dublin, and although most commentators expected the market to pick up a little in 2013 few if any envisaged the pace of price appreciation that developed in the capital; Dublin prices rose by 15.7% last year with apartments outstripping houses, appreciating by 20.8% against 15.3% for the latter. Residential prices  in the capital have still fallen by some 49% from the peak but the strength of the recent rally has prompted some to forecast further double digit gains in 2014. That appears unlikely for a number of reasons.

The case for some further price appreciation nationally and in the capital  can certainly be made. A range of studies since 2012, including work from the Irish Central Bank, the IMF and the OECD, have signaled that Irish house prices probably fell too far in relation to housing fundamentals, such as income and rents. The latter has risen strongly now for a few years ( the latest CSO data for November puts the annual increase in national residential rents at 8.5%) and house prices relative to rents are now well below the long term average. That is the equivalent of stating that the average yield on residential property ( i.e the average rent divided by the current price ) is also well above the longer term trend and on my data base is just shy of 6%, the highest in a decade. Affordability is also a plus for the market; a new 25-year mortgage absorbs 24% of income in 2013 which is well below the 29% long term average on my affordability index and back to levels last seen in 1998. Employment is also rising and  price expectations have also probably shifted, with more people expecting prices to rise and hence helping to bring forward purchases. House building is also at record lows ( averaging around 2,000 a quarter in 2013), albeit bottoming out, and the vacancy rate in parts of the capital is low. There would not appear to be a significant supply shortage in apartments, however, yet apartment prices appreciated faster than house prices  last year both nationally and in Dublin, albeit from a lower base, which implies that supply is not the sole explanation for the trend in prices.The vacancy  rate outside the capital is much higher nonetheless, so in theory at least there is  more excess supply to meet the increase in demand, which helps to explain why prices outside Dublin were broadly flat last year, but having fallen by 6.1% in 2012.

Dublin property price inflation may well decelerate this year,  although still rising at a single digit rate. In part this expectation reflects the nature of the market last year, with  cash transactions  probably accounting for slightly over half the total recorded  by the Property Price register ( the IBF data on mortgage drawdowns is not yet available for the full year) although the proportion funded by credit did rise through the year and may have been around 54% in the final quarter. Ultimately housing is largely driven by credit and mortgage lending may well pick up this year but is still likely to be a a level which is not compatible with further price appreciation at the pace seen last year in Dublin. Repossessions are also on the rise which may dampen price pressures somewhat while the trend in the price  index itself  in 2013 is another factor arguing for deceleration; prices rose by 2.4% in the second quarter, by 9.5% in q3 and 3.9% in the final quarter and so  annual property price inflation in Dublin is likely to slow in the second half of 2014 as those base effects kick in.