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What Could Curb the Real Estate Market?

Credit Suisse Publishes Its 2013 Study on the Swiss Real Estate Market

It is not so much the current surge in prices that has provoked regulatory intervention, but rather the prospect of further years of unchecked acceleration in prices in the housing market. Yet it is likely that, except for the stricter self-regulation, the impact of regulatory intervention will be limited, meaning it will not be able, as intended, to cool the real estate market. Demand remains too dynamic for that. Only a sharp increase in interest rates could lead to a reversal in the price trend. The situation in commercial real estate markets is also increasingly challenging, although in different ways. Investors must understand how to read the signs of the times in order to position themselves correctly. Against the backdrop of a significant expansion in office property, the trend towards new, space-saving working environments is becoming an increasingly hot topic. The long-term effects of e-commerce on the retail property market, although the market is still quite stable today, are likely to be no less far-reaching.

For years there have been discussions about overheating in the real estate market, without any effect on the upward trend in prices. Fundamental factors continue to be strong drivers of demand. Due to low interest rates, which are likely to persist for another year, marginally lower levels of immigration, and the intact income situation among Swiss households, demand for housing will weaken only slightly in the current year. Marginally weaker demand will not be enough of a reason to bring the upward trend in prices to a standstill. The economists of Credit Suisse forecast that there will be a positive, just slightly slower increase in prices of 3-5% this year – meaning the risk of setbacks will grow. They expect that unless there is an unexpected recession, only a sharp increase in interest rates will put a stop to the upward trend in prices.

Real Estate Market in the Grip of Regulatory Attempts to Curb the Boom
The real estate market, while on its way towards overheating, has not yet reached the last and most decisive stage, in which experience shows that the most devastating effects occur. Three dams are still holding. First, the number of speculative transactions is still limited. Second, many financial institutions are curbing lending against the backdrop of stricter regulation and growing risks. Third, surplus supply does not yet exist in the housing market because structural weaknesses have made it impossible for the construction industry to produce more housing, even though the supply pipeline is more than full. In addition to these three stabilizing factors, there are also the recent regulatory attempts at curbing the boom. The anticyclical capital buffer primarily contributes to financial stability. In contrast, its impact on the upward trend in prices in the real estate market is likely to be limited. The modest increase in the cost of mortgages will not have any meaningful effect in an environment of low interest rates. Thanks to these rates, residential property, despite its high prices, can appear from a short-term perspective to be the clearly more advantageous form of housing in financial terms, since the low rates make it the more affordable alternative. The tightening of financial regulations is more likely to have an effect, albeit initially only in the upscale segment of the residential property market. Many aspiring homeowners no longer fulfill the stricter owner-equity requirements for more expensive real estate and are forced to settle for property in a lower price category, curbing prices in the upscale segment. But interest rates are still so low that the financial burden, despite the sharp increases in real estate prices in recent years, is in fact not a problem. That would change abruptly if there was a sharp increase in interest rates. Only a rise in interest rates will feed through to current costs, suppress demand, and provoke vacancies. At the moment, increasing vacancies are only noticeable in peripheral and rural regions, while the tense housing situation in urban centers persists.

Little slowdown is expected in the market for investment properties, too. The difference in yields to alternative investments remains high, enticing investment-seeking capital to flow into the real estate segment. Given the high prices for existing properties, demand will focus primarily on projects for new buildings. The recent increase in planning applications outside of tourism regions is clear evidence of this.

Office Property Market: The Revolution at the Workplace Exacerbates Surplus Supply
Unlike the overheating of demand in the residential segment, the office property market is characterized by growing amounts of vacancies. Financed with low interest rates, office space for service providers is enticing one large company after the other to relocate to more affordable but still well-developed locations outside the city centers. Companies use such relocations to consolidate multiple locations in order to save money and use space more efficiently. Admittedly, with time the gaps created by this trend in inner cities can be filled again, but that usually involves price concessions. The growing trend towards new workplace concepts is exacerbating the situation. Desk-sharing, in particular, enables companies to manage their office space needs much more flexibly. The movement away from physical workplaces towards mobile working is revolutionizing the way we work – made possible and accompanied by the most modern forms of information and communication technology. Functional office space enables employees to always be able to select the optimal work environment for their activities. With desk-sharing, 10-20% of office space can be saved on average. The benefits of this approach are indeed so convincing that it is being implemented by a growing number of companies, with noticeable effects on the macroeconomic demand for office property. In combination with the fully stocked pipeline of supply, it is likely that the higher existing supply seen at the end of 2012 is just the precursor of looming future oversupply and rising vacancies in the office property market. This oversupply will be alleviated by the ongoing tertiarization process within the industry. The increasing service orientation of industrial companies increases their need for office space.

E-Commerce Poses a Threat to Retail Property
Sentiment among retailers is not as good as you might expect from the recovery in last year's retail sales figures. Against the backdrop of sustained structural change and the threats from shopping tourism and e-commerce, retailing has become cautious. This is holding back demand for retail space, which is likely to remain only modest. On the supply side, caution in the planning of new space is also quite noticeable. As far as the economists of Credit Suisse are concerned, there must be some question marks against the numerous current projects where retail space is planned in mixed-use buildings. In the coming years, this traditional usage of ground floor space is increasingly likely to fall victim to structural change. Demand will probably concentrate more on highly frequented locations and shopping centers. The remaining areas are likely to come under even more pressure from the growing volume of e-commerce. The benefits of e-commerce in terms of transparency, flexibility, and lower transaction costs are ensuring that a growing proportion of retail sales is migrating to the digital distribution channel. Indeed, mobile internet use means there are no longer any limits to online shopping. Credit Suisse economists expect that within the next 15 years up to one-third of today's retail property space is at risk from e-commerce.