Capital Language Solutions | When is a bubble not a bubble?

When is a bubble not a bubble?

Torres_de_la_CaseríaForecasts of a property bubble began appearing in the mainstream German press in 2014. At first it was just well-known doom-mongers and pessimists. Then stories either predicting a bubble, or claiming that we were already in one, started to multiply. By the middle of last year, the number of headlines containing the words “property bubble” (Immobilienblase) had reached record levels. It looks like a bubble has developed – regarding the use of the word bubble! But how do things look in the real world, i.e. the world beyond the headlines and outside the panicked articles? Are we really on the verge of a collapse in Germany’s real estate markets? Read on to find out more.

As with any speculative journalism, the stories that have appeared to proclaim a German property bubble rely on the careful filtering of information and the conscious interpretation of data to fit a (pre-determined) narrative. Here are just two of the factlets that have been put forward to demonstrate just how overheated the market has become:

  • ImmobilienScout24 revealed that it took on average half as long to sell a condominium via their platform in 2015 as it did just eight years ago.
  • German banks approved more mortgages and construction loans in 2015 than in any year since the millennium.

At first glance, both appear to support the view that the market (or at least the housing market) is running out of control. But, and this is a big but, scratch the surface and it becomes clear that things are not quite as clear-cut as the headlines suggest.

Demand is running ahead of supply

One of the major characteristics of the US, Spanish and Irish property collapses of 2007/2008 was that far too much real estate had been developed. Everyone remembers the “ghost” developments along the Spanish coast, blocks upon blocks of apartments, holiday villages and condominiums that were neither pre-let nor sold off-plan. They would remain forever unutilised. This was speculative development at its most extreme. The picture wasn’t much different in the US: street after street of unoccupied houses; people on average (or even below-average) incomes who were the proud owners of multiple houses, dreaming of exiting with a profit a year or two down the line. But who would they sell to when the supply of housing was so immense and demand non-existent?
The situation in Germany right now could not be further from Spain or the US in the mid-2000s. Price and rental increases of 5-10% are being driven by strong demand, not speculation. The population, particularly in Germany’s major urban and metropolitan centres, is growing. The number of individual households is increasing at the same time as the average household size shrinks. The country has had to find a way to accommodate more than 1 million refugees over the last twelve months and, even with the recent deal with Turkey, will probably have to do something similar again this year. It is not speculative development that is fuelling the current real estate boom, it is concrete and sustained demand after years of insufficient building activity.


Money is cheap

The second argument commonly used to highlight the supposedly emerging bubble is that banks approved more mortgages and construction loans in 2015 than at any time since the turn of the century. It all sounds very dramatic and must be a sign of a bubble about to burst, right? Well, not exactly.
The growth in mortgage lending last year was equivalent to 3.5%. That’s right, 3.5%. Not 35% or 350%, but 3.5%. In comparison: Bank lending tripled in Ireland and Spain in the run-up to the financial crisis. Lending in Germany has grown by very healthy and reasonable 9% since 2010. That’s a long way from a bubble developing. What the headlines also conveniently ignore is the fact that German banks are also a great deal more conservative in their lending practices than their American, Spanish and Irish peers were in 2005-2008. Would-be German buyers typically need to find deposits of between 30-40% in order to secure a mortgage. This pretty much eliminates the risk of buyers falling into negative equity and also means that, in the event of foreclosure, the bank has little risk of failing to get its money back.
Variable rate mortgages are also almost non-existent in Germany. Most banks fix interest rates for 10-15 years, and, in some cases, for as long as 40 years. This guarantees both transparency and security. Borrowers and lending banks are all clear on the exact monthly payments required for the next decade or so: there can be no nasty surprises or interest rate hikes for private borrowers.
The same is true for 100% mortgages. According to the latest figures published by Europace, only 3.1% of new mortgages were classed as 100% mortgages and the figure for 90% mortgages was similarly low. It’s important to pint out here that a German bank’s definition of a 100% mortgage is quite different from the definition used in other countries. First, the loan value is based on the bank’s own determination of a property’s “lending value,” which is always lower than the property’s market value. This creates an extra layer of security for the bank in the event of a borrower running into problems down the line. Second, lending values are normally based on the assessed value of the property and do not usually cover soft costs, such as conveyancing, legal and property transfer tax expenses, etc. Finally, 100% mortgages are typically only available to financially secure borrowers who have sufficient collateral elsewhere to satisfy banks’ requirements. The Deutsche Bundesbank has warned Germany’s banks to keep a careful eye on their lending practices in order not to let lending get out of control.


International comparison

Over the last twenty years, property prices in Germany’s ten biggest cities have risen by 25%. As a Briton, I am more used to reading about that kind of increase in a single year! Let’s look at some other major European cities: Prices for apartments in Stockholm have trebled over the last twenty years; in Oslo and London they have quadrupled. Even in Spain and Ireland, two of the countries that suffered massive collapses in the aftermath of the 2008 financial crisis, prices are up by between 100% and 150%. If you strip inflation out of the German figures, real estate prices are not far off the price levels of 1999/2000. That doesn’t exactly scream “over-priced,” does it?


Regional differences

Of course, there are regional variations. Germany’s biggest cities and university towns have seen more rapid price and rental growth than elsewhere, but, as mentioned above, this growth is primarily a consequence of demand, not speculation. Still, for anyone with the foresight (or luck) to have bought property in Berlin or Hamburg in the early 2000s, now is certainly a great time to sell, even if prices continue to climb for a while before levelling off or dropping back.


Healthy boom, or dangerous bubble?

Let us know what you think in the comments below. Sustainable boom, price corrections or imminent crash – how do you interpret recent developments and what do you think will happen next?

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