German property market ripe for serious price correction, economists warn

The German housing market has been remarkably strong for decades, but faces a severe price correction over the next two years, analysts say.

Mortgage rates have soared, with the 10-year fixed rate rising from 1% to 3.9% since the start of the year, according to Interhyp data, which generally leads to lower demand as less people can afford to take out loans.

House prices have already fallen about 5% since March, according to Deutsche Bank data, and they will fall between 20% and 25% in total from peak to trough, predicts Jochen Moebert, macroeconomic analyst at the German lender.

“If you are thinking of 3.5% or 4% mortgage rates, you need higher rental yields for investors and given that rents are relatively fixed, it is clear that prices have to come down,” says Jochen . Rental income is a priority for German investors, with around 5 million people in Germany deriving income from rentals, according to the Cologne Institute for Economic Research, and the country with the second-lowest proportion of homeowners of all OECD countries, according to the Bundesbank.

Although Deutsche Bank does not have precise data on when the bottom will be hit, Jochen said he would not be surprised if it was within the next six months.

“We’ve already seen the steepest price declines if you look month over month – that was June and July…In August, September and October the price declines are already less than 1%… So there’s positive momentum here if you look at it from an investor’s perspective.”

Holger Schmieding, chief economist at Berenberg, predicts house prices will fall “by at least 5% if not a bit more” next year.

“The housing market is softening significantly,” he said, citing a sharp drop in demand for loans and a drop in housing construction.

And while the language used may vary, many analysts predict a downturn in the German property market.

“We expected that if there was no energy crisis, no recession, prices would rise more. We are now in a situation where we are facing a very dramatic adjustment in conditions,” Michael said. Voigtländer from the Cologne Institute for Economic Research to CNBC.

A recent UBS report went so far as to place two German cities – Frankfurt and Munich – in the top four of its Global Housing Bubble Index for 2022, as places with “pronounced bubble characteristics”.

UBS defines “bubble” qualities as a decoupling of house prices from local incomes and rents and imbalances in the local economy, including excessive lending and building activity.

The definition, however, does not suit the German real estate market as a whole, Thomas Veraguth, UBS real estate strategist, told CNBC.

The situation in Germany “will not be a typical bubble burst like we experienced during the financial crisis … but rather it will be a correction,” Veraguth said.

“In real terms, a bubble burst would represent a price drop of more than 15% and that would be a very, very bad scenario, a very strong high risk scenario which is not the base case at the moment,” he added.

A Reuters poll of property market experts last month predicted that German property prices would fall 3.5% next year.

A “vulnerable” market

But not all financial institutions agree that the German housing market is about to undergo a major correction.

“We are seeing a slowdown in the growth of house prices, but it is not that the overall dynamic has reversed,” Bundesbank Vice President Claudia Buch said in an interview with Joumanna Bercetche de CNBC last month.

“Overall, house prices continue to rise, albeit at a slower pace,” Buch said. “That said, there are no signs of a severe drop in house prices or a pullback in overvaluations.”

The Bundesbank will continue to monitor the housing market closely because it is “vulnerable”, according to Buch.

S&P Global analysts also dismissed the idea of ​​a “severe crisis” in the market. In fact, the financial analyst firm said the outlook was stronger than its most recent forecast, released in July.

“It is likely that we will have to revise our price forecast for Germany upwards for this year,” Sylvain Broyer, chief EMEA economist at S&P Global Ratings, told CNBC.

“We still have very strong demand,” he said.

Broyer also said it will take time for a change in financial conditions and fiscal tightening to trickle down and affect housing demand.

“More than 80% of mortgages in Germany are financed with fixed rates, so many households have blocked [in] the very favorable financing conditions that we had until very recently for five to ten years,” he said.

The Association of German Banks Pfandbrief (VDP) uses information from more than 700 banks to produce its house price index, and data from the last quarter shows prices rose 6.1% from the quarter. previous.

The organization predicts that we have already seen the peak in property prices in Germany “for now”, but market fundamentals are still working well, according to VDP CEO Jens Tolckmitt.

Scarcity of housing, rising rental prices and a strong labor market will continue to support the market, Tolckmitt said, and even if house prices fall, that wouldn’t necessarily be a bad thing.

“If house prices fell by 20%, which we don’t expect at the moment, then we would be at 2020 price levels. Is that a problem? Maybe not,” Tolckmitt said. .

“This is the price level we have reached after 10 years of price increases,” he added.

The labor market is essential

Movements in the labor market will determine the evolution of the real estate market, according to some analysts.

“If the labor market proves resilient to the technical recession that we’ll have at the end of this year into next, that’s a strong positive for the housing market,” Broyer said.

Schmieding made similar comments but over a longer period, saying the medium to long-term outlook for the German property market “will be good, as long as the country has a buoyant labor market.”

Employment in Germany is at an all-time high at 75.8%, but with the country likely to slide into a “mild recession” in the coming months, that figure could be impacted.

German GDP figures released last month raised hopes of a milder-than-expected recession as the economy grew slightly more than expected in the third quarter.

Germany’s economy grew 0.4% from the second quarter and 1.3% year-on-year, according to the Federal Statistical Office.