Looking at the 4 key Housing Market Indicators in 22 developed Economies
It’s been more than a decade since the last housing bubble collapse in the United States caused a major global financial crisis. The catastrophic economic event of 2008 had far-reaching consequences not just for the American real estate market, the contagion effect spread to other parts of the World as well. The extended tenure of loose monetary policies following the crisis & the ensuing decade long market bull run has seen capital flock to the housing sector.
Historically speaking, Real estate is considered to be the safest bet by Investors for long term investment. While there is some merit to this conclusion, things can turn ugly if the fundamentals turn south as we saw in the market collapse of 2008 in the U.S caused by the subprime mortgage lending. Experts have been watching some housing markets where there is a real risk of a bubble developing and they are overdue for a price correction before the inflating bubble pops.
Bloomberg has recently published a study by an economist Niraj Shah, who attempted to figure out which markets were most at risk of a housing bubble. The same study of 22 countries was presented in an infographic by Visual Capitalist below. The study tracked four key metrics to determine the state of housing markets in these countries. Ranking high on any one or multiple of these metrics raises a red flag for the country’s real estate market.
Let’s take a brief look at each of these housing bubble risk indicators to get some insights. Please note that the risk indicators are shown in an index form making 2015 as the base year (100).
➊ House Price-Rent Ratio
This indicator compares how quickly are the house prices rising to what income is generated by renting the same property. If the index is higher than 100, it means the housing prices are rising faster as compared to what renters are paying, which would become unsustainable in the long term. New Zealand & Canada top this ratio with the values of 196.8 & 195.9 respectively — house prices rose at almost twice the pace of rent increases.
Sweden, Norway & Australia were the other significant gainers in this ratio. Portugal, which has recently seen skyrocketing prices in the housing market still ended up with a score of 99.2, depicting identical price increase for renters. Overall, 18 of the 22 countries showed an index value of over 100 while only 4 recorded values of less than 100.
➋ House Price-Income Ratio
Comparison of how fast the housing prices are rising to how much income people make tells you if they can afford to pay off the mortgage in the long term. Here again — New Zealand, Canada, & Sweden were among the Top 3 with index values of 156.8, 155.3 & 145.7 respectively. The most affordable countries according to this ratio were South Korea & Japan recording values of 58.3 & 76.6 respectively. People in 16 countries were overstretching their income with values of above 100.
➌ Real House Prices
Inflation-adjusted housing prices ratio gives you an idea of whether the housing price increase is growing faster than inflation and by how much. Portugal, Canada & New Zealand were at the top with values of 131.8, 124.1 & 121.9 respectively. The indicator showed an increase in the real house prices across the board with the exception of Italy recording a value of 95.5.
➍ Credit to Households (% of GDP)
The crossing of consumer debt past the 100% GDP of an economy is a sign that lending is moving towards unsustainability. If the consumers start to default on their mortgages, it can lead to a significant correction or even a crash in the worst-case scenario — as we saw in the last U.S housing crisis of 2008. Switzerland, Australia & Denmark were the most overstretched with the consumer debt well in excess of their GDP, recording values of 128.7%, 120.3% & 115.4% respectively. Canada made an appearance in the Top 5 here as well with a value of 100.7%.
The study doesn’t encapsulate the whole idea of a real estate bubble but gives a fair projection of where a particular housing market is headed. Looking at the bigger picture, it is evident that Canada followed by New Zealand are most at risk of a significant correction in the real estate market, followed by Australia & Sweden which raised the second most red flags.
Policymakers have already started to take action in Canada, where a 15% tax on overseas investors has been imposed in the over-heated housing markets of Vancouver & Toronto, apart from tightening mortgage lending rules which includes the issuance of five-year benchmark qualifying rate by the Bank of Canada (currently 5.19%). New Zealand, on the other hand, has completely banned foreign ownership of domestic real estate to cool off the sector.
While these stop-gap measures may have stemmed the tide of ballooning real estate markets, for now, continuous loose monetary policies (low interest-rate environment) by Central banks to avoid a global economic slowdown may nullify the effect of these actions as easy lending sows the seeds of the next financial crisis.
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