In some cities around the world, the rise of home prices is astonishing even as such price rise is being witnessed in most major cities around the world.
The home prices are at a far greater risk of correction when they reach the so-called bubble territory, that is, overvalued in relation to fundamentals like income and employment. Identifying the bubbles early can offer insight and protect investors even while it is hard to pinpoint exactly when that correction will occur.
According to a new report from UBS, bubble risk has grown significantly in several cities in the last five years. According to its Global Real Estate Bubble Index, laying at risk of a bubble are home prices in Toronto, Stockholm, Munich, Vancouver, British Columbia, Sydney, London, Hong Kong and Amsterdam
Since 2011, there has been a rise of nearly 50 percent in the real house prices in these cities. While incomes and rents have risen less than 10 percent in these cities during the same period in these cities, this rise is far higher than local economic growth and inflation rates.
San Francisco and Los Angeles are considered “overvalued”, even though no U.S. cities make that highest “bubble risk” category in the index. According to the report, given its strong economic fundamentals amid the astonishing boom of tech companies”, prices in San Francisco are up almost 65 percent since 2011.
There are varied reasons for the strong price appreciation. Historically low mortgage rates have been the risen for the prices have been able to rise swiftly in Canadian and European markets. Homeowners’ annual payments are below their 10-year average in European cities, while prices are higher. But while the real driver of prices is very low supply of homes for sale, low mortgage rates are also helping buyers afford more homes in the U.S.
U.S. homebuilders are not back to producing even the historical average of new homes, never mind all the pent-up demand and they still have not recovered from the housing crisis that began in the late 2000s. In the U.S. market investors have turned homes into lucrative rentals and have thus effectively removed them from the potential for-sale stock which has also resulted in a loss of about a million homes to investors.
While history proves the risk to these markets when home prices are decoupled from economic fundamentals of a local market, but a bubble can’t be proven until it bursts.
“A change in macroeconomic momentum, a shift in investor sentiment or a major supply increase could trigger a decline in house prices,” according to UBS researchers.
And then there is the “Superstar” scenario. there are certain superstars, that will dominate, even when prices are out of whack with fundamentals according to this theory. For major metropolitan cities and for movie stars alike, this holds true. And “superstars” are Hong Kong, London and San Francisco, suggests UBS researchers. As long as supply doesn’t exceed demand, prices are at less risk of weakening and high net worth investors will always flock to these cities.
(Adapted from CNBC)