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Real estate market defies inflation and rising interest rates

Credit Suisse publishes Real Estate Monitor Switzerland Q3 2022

Persistent inflation and rising interest rates have so far had little impact on the Swiss real estate market, with property prices continuing to rise into late summer. In contrast, indirect real estate investments suffered setbacks on the stock markets. The resilience of the real estate market partly stems from the limited supply. While the number of vacant rental apartments is falling at an even faster pace, the supply of residential property remains scarce, although baby boomers will pass on a large number of owner-occupied homes to the younger generations in the coming years. In addition, the energy price shock has triggered a change in mindset in the real estate sector and has boosted investments in conversions and remodeling.

In contrast to certain foreign real estate markets, Switzerland had not yet seen any declining real estate prices by late summer 2022 – with the exception of special sub-segments. However, a drop will become more likely if the real estate market comes under pressure not only from interest rates, but also from economic factors.

Rising house prices despite higher interest rates
The interest costs for new mortgages have more than doubled since the beginning of the year and are affecting demand for residential property. The higher interest costs are primarily reducing the excess demand for owner-occupied homes. Whereas, in the past, brokers were able to select from 15 to 20 prospective buyers per property, at present that number has fallen to three or four. Since new construction activity is continuing to decline, a certain excess demand will remain. As a result, competition for the limited supply will cause prices to keep rising for the time being. However, it seems likely that the price trend has reached its peak. Due to the fall in demand for residential property on the back of rising interest rates, Credit Suisse real estate economists expect significantly lower price momentum in the coming quarters.

A larger supply of residential property thanks to baby boomers
Due to the shortage of available building land and a preference for constructing rental apartments, the number of owner-occupied homes being built in recent years is a sliver of what it was in the past. As a result, these properties are in short supply, which has constantly pushed up prices to new highs and left many people unable to afford to buy a home of their own. For numerous households, taking over a house or apartment from an older person therefore remains one of the few ways to obtain any type of residential property at all. This is increasingly likely to become an option in the future as the high-birth-rate cohorts of the baby-boomer generation, who currently own more than 40% of Swiss owner-occupied properties, gradually enter the age groups with high mortality rates. This means that more and more properties are likely to come onto the market or be passed on to the younger generation. While over 3,000 properties a year are currently transferred from the baby-boomer generation, this number will rise to around 42,000 by 2045. This could help to ease the strain on the housing market slightly in the longer term.

Number of vacant apartments in free fall
All the indicators on the rental apartment market were already predicting that the number of vacant apartments would fall sharply again in 2022. Indeed, the figure of 9,869 fewer vacant apartments actually represents the largest decline since 1978. Although the vacancy rate of 1.31% (previous year: 1.54%) is still above the long-term average of 1.11%, it is rapidly approaching this level. The turnaround that began in 2021 has therefore accelerated. The decline is broad-based and affects all segments, all apartment sizes, and a large majority of the regions. Reduced construction activity and the rise in demand as a result of economic growth and immigration are the causes of the lower vacancy rate. Immigration is being driven by the booming labor market and the widespread shortage of skilled workers; against this backdrop Credit Suisse real estate economists expect net immigration of around 75,000 for the current year (previous year: 60,600). The fact that construction activity has still not shown any response to the high demand suggests that structural factors are to blame: Densification within existing building zones, which is being hampered in many different ways, is clearly not enough to compensate for the restricted rezoning.

Energy price shock triggers change of mindset
The construction industry has long been hoping that energy-related renovations would fuel investments in conversions and remodeling. The sharp rise in energy prices now seems to be making itself felt in this area. In the last six months, the volume of applications for building conversions was 22% higher overall than the ten-year average. It is likely that energy-related renovations have contributed to this increase because such measures can significantly improve the impact of converting to heat pumps and solar energy. Both technologies are experiencing a veritable boom and providers are currently struggling to meet demand, resulting in waiting periods. The reasons for the change in mindset among many property owners are obvious. End users are beginning to feel the pinch from the spikes in energy prices. For example, in the first eight months of 2022, the average price of fuel oil for end users was around 60% higher than the 2021 mean, while the average price of gas over the same period was 43% higher than the 2021 mean. As a result, the cost advantage of heat pumps rose to 65%, from only 48% in the previous year. Although this advantage is likely to fall again slightly in the coming year, as electricity prices are also up by an average of 27%, a substantial cost advantage of 54% remains. This will significantly shorten the payback period for the typically higher investment costs.

Figure: Baby boomers will pass on around 420,000 homes by 2045 Predicted number of owner-occupied properties (houses and apartments) that will become available by 2045 due to death (by generation)

Sources: Credit Suisse, Swiss Federal Statistical Office

The full study "Real Estate Monitor Switzerland Q3 2022" is available in English here.