Safe as houses? Rising prices fuel German 'bubble' angst

Tue May 8, 2012 8:45am EDT

* German property prices buoyant, central bank on alert

* Investors lured by German "safe haven" status

* German prices and yields still below EU average

By Peter Dinkloh

FRANKFURT, May 8 (Reuters) - Einar Skjerven wants to spend 71 million euros ($93 million) on apartments in Berlin for German and Austrian clients, but decided to hold off after prices surged in a city long famed for its cheap, abundant housing.

House prices elsewhere in Germany have also accelerated after years of stagnation, prompting fears in some quarters of a real estate 'bubble' in a country deeply sensitive about any sign of inflation. Germany's central bank, the Bundesbank, has said it will monitor prices "very closely".

Others take a more sanguine view, arguing that conservative German banking rules and demographic factors will prevent the kind of boom and bust cycle that has ravaged Ireland and Spain.

"Particularly in the second half of last year some houseowners had crazy ideas about the value of their property," said Skjerven, the 46-year-old head of Berlin-based Industrifinans Real Estate.

"We have given it a year longer than originally expected to invest our clients' money," said Skjerven, whose company bought no apartments in Berlin in the second half of 2011.

Residential property prices in German cities rose 5.5 percent last year, after 2.5 percent in 2010 - hardly a 'bubble' compared to the double digit increases seen in parts of Europe before the 2008-09 global credit crunch but quite heady by German standards.

Prices of newly built flats jumped more than 10 percent in Berlin, Frankfurt and Duesseldorf in 2011, DZ Bank economist Thorsten Lange said. By comparison, house prices in Spain were down nearly 20 percent at the end of 2011 from their pre-crash peak and in Ireland they had almost halved.

Given the continued uncertainty over the fate of the euro zone and choppy equity prices, German real estate has seemed a safe and attractive option for investors, not least for affluent Greeks and Italians anxious to shield their hard-earned savings from economic crisis at home.

"Right now we see money fleeing from other assets into real estate," said DekaBank chief economist Ulrich Kater. "That led to the first movements of prices and those movements can take on a life of their own."

Echoing that concern, Steffen Sebastian, head of the Institute for Real Estate Finance at Regensburg University, said: "Prices are moving into an area where they do not make sense any longer. We see the beginning of a bubble."

STRONG DEMAND

The value of houses and flats traded is set to reach a five-year high of more than 6 billion euros ($7.8 billion) this year, said Jones Lang Lasalle, which provides real estate services.

Underpinning demand is Germany's strong recovery from the global crisis. Its economy grew by 3 percent last year and economists see it expanding by a further 0.9 percent in 2012, avoiding the recession engulfing the euro zone periphery.

German unemployment has dipped below 7 percent to its lowest level since reunification more than two decades ago.

In a sign of booming property demand, the state courthouse in Frankfurt, Germany's financial centre, moved to a larger auction room to accommodate 30 percent more people than usual attending forced sales of houses and flats, one official said.

The Bundesbank's vigilance is understandable. House price bubbles are more harmful than those in other asset classes - it was sub-prime mortgages in the United States that triggered the biggest global financial crisis since the Great Depression - and even in Germany - with its relatively low owner occupancy rate - far more people are invested in housing than in, say, stocks.

Germans have a visceral aversion to rising prices, rooted in the hyper-inflation of the early 1920s under the Weimar Republic that wiped out the savings of a generation.

Germans are also less keen than other people to own houses: Only 46 percent own the property they live in, the lowest rate in the European Union. The quality of flats for rent is high and tenants are well protected against rent increases and evictions.

Germany's last real estate bubble in the early 1990s demolished parts of Germany's construction industry and led builders such as Hochtief and Bilfinger Berger to drastically shrink their residential construction business and move into such areas as building services.

But there is a fundamental difference in today's situation.

The earlier boom was driven by tax breaks - now scrapped - that encouraged investment in eastern German property after reunification. The boom proved short-lived and prices have been mostly stagnant or falling for much of the past two decades.

Today there is real demand for housing because the number of households is still rising as more people live on their own, even though Germany's population has been shrinking since 2003.

"Right now we have a split market: people move from rural areas into cities where they find jobs and universities," said Franz Eilers, economist at the association of mortgage banks.

"In the countryside prices are stagnating and in the cities they are rising."

Given demographic projections in a fast-ageing society, investors realise this bottleneck will not last forever.

"People definitely want to have earned their returns before 2020," said Konstantin Luettger from CBRE, an adviser to institutional and other large-scale investors in residential real estate, referring to the declining population.

CONSERVATIVE LENDING

Germany's population, the largest in the European Union, is expected to fall to 79 million by 2025 from 82 million now and to as low as 70 million in 2050, according to official figures. Offsetting that, at least in the shorter term, is an expected increase in the number of households due to social changes.

Eloed Takats from the Bank for International Settlements, the central bank trusted with overseeing international financial stability and one of the few institutions to warn of a housing bubble, estimates that house prices will fall "substantially" over the next 40 years.

The BIS also said housing price bubbles "were generally associated with credit booms".

Easy credit, however, is hard to come by in Germany where banks are quite strict in their lending practices.

It is common in Germany to buy a property with at least 20 percent equity, the Cologne Institute for Economic Research said, which restricts the number of people buying houses as well as the overall value of loans outstanding.

Equally important is the fact that banks base secondary loans to houseowners not on the market value of the property, as in the United States, which can further inflate prices. They are based on the collateral value, a value that can be generated even in adverse economic circumstances, said Michael Voigtlaender from the Cologne Institute.

"Fortunately banks don't finance very aggressively in Germany," said DekaBank's Kater. "More debt and easier credit would be the prerequisite for a bubble."

In a recent study of house price gains in Germany, Unicredit Bank economist Alexander Koch presented an "Overheating Barometer", an index of five real estate market indicators measuring market excesses on a zero to five scale, with five signalling the highest alert. Germany scored just one, below France and in line with Britain and Italy.

Investors' expectations themselves run counter to a bubble in Germany, as many do not expect to benefit from rising prices, but are seeking a reliable place to keep their money.

"I don't care so much about rising prices, it's the fact that the downside is limited," said Joe Valente, who helps manage $1.3 trillion for JP Morgan from London.

The Global Property Guide, a website for investors in residential property, shows central apartments in the main German cities are the cheapest among Europe's five largest economies.

But even these comparatively low prices only allow rental yields of 3.7 percent, roughly in the middle range of eurozone countries. That reduces the scope for further house price increases because they would further reduce yields.

BulwienGesa, a real estate agent cited by the German central bank, forecast price increases will slow this year and DZ Bank sees prices growing at 2 percent, just below the ECB's projected inflation rate of above 2 percent.

Einar Skjerven said he was ready to buy again in Berlin.

"We have to get some houseowners' expectations down to realistic pricing, but it's working and we are therefore back in investment mode." ($1 = 0.7603 euros) (Editing by Gareth Jones and Giles Elgood)