Produced by the Economic Research Unit June 2011 A quarterly analysis of trends in the Irish property market CSO index to provide more timely information on prices Group Chief Economist: Dan McLaughlin New data still pointing to price falls Uncertain economic conditions trump improved affordability The CSO s new monthly house price index is welcome as it will provide timely data on the market, and the dearth of such information has compounded the uncertainty surrounding residential property in Ireland. Although the new series shows a somewhat lower fall from the peak than other data sources it is similar in revealing further price falls in the first quarter of 2011 prices nationally fell by 4.5%. The new price index does not provide actual prices but we estimate that the March index implies a national average residential property price of 201,500 and a Dublin average price of 238,500. The 2011 Budget slashed stamp duty on existing homes, representing a potential boost to the market, but as yet there is little sign of activity picking up new lending for house purchase in the first quarter was just 466m, or some 50% down on the previous year. Net mortgage lending is also still falling according to the Central Bank, so the stock of outstanding mortgage debt is contracting as redemptions outstrip new loans. House Prices New CSO Index House Completions Under 2800 in Q1 Mortgage Lending Weak trend continues Affordability Best since 2001 Interest Rates ECB embarks on tightening cycle Page 2 Page 5 Page 7 Page 9 Page 10 There are some positives which may act as supports for the market. Private rents have stabilised, judging by the CSO data, with the first quarter seeing a modest rise. Affordability has also improved substantially despite the fall in incomes in 2010, and has not been better since 2001 on our model, thanks to the scale of the fall in house prices and the corresponding decline in the size of a new mortgage. Interest rates, too, are much lower than they were in 2008, although the recent upward move is likely to continue as the ECB appears set on tightening monetary policy. Commercial Property Flat returns in Q1 Page 11 Contacts Page 12 The number of new houses being built has also plunged to record lows, with under 2,800 completed in the first quarter implying a total of around 14,000 for the year as a whole, which is less than the depreciation figure assumed by the Department of the Environment (DoE). Moreover, over half of completions are now individual houses, presumably built to demand, so the flow of new houses available for sale is minimal. The uncertainty about the economic outlook in general and employment in particular, is likely to remain a key factor dampening demand. The consensus view is that the economy will return to growth this year but few envisage a pick up in employment in the near-term. Consequently, we doubt if prices have bottomed yet, and expect a further fall of 8% in 2011 as a whole. In the commercial property market the equivalent yield is now in excess of 8%, which in a normal cycle would probably prompt investor interest, but low investor confidence, limited activity and uncertainty about rent reviews act as factors dampening investor demand.
House Prices New CSO data provides monthly price series Analysts and media alike have bemoaned the absence of timely price data on Irish residential property, and the absence of up-to-date information on price trends is also likely to weigh on potential buyers, particularly following a long period of falling prices. The permanent tsb / ESRI index had been the main reference point, but it has lately moved from a monthly to a quarterly basis, and the lender has now decided to cease publication altogether. Fortunately, the CSO has started to publish a monthly price series, based on mortgage draw-downs as supplied by eight of the main lenders, and mixadjusted to allow for the influence of different property types. The first release included back data to 2005 and it is interesting to compare this new series with the housing picture as revealed in other data sources. with no indication yet that prices have stabilised. Residential property prices changes (%) 20.00 15.00 10.00 5.00 0.00-5.00-10.00-15.00-20.00-25.00 2005 2006 2007 2008 2009 2010 2011(e) Source: CSO The trend in national property prices shown in the CSO series is broadly similar to that of the permanent tsb / ESRI index in that prices in the latter fell by 38.3% from the peak to end-2010, against a 36.6% decline from the CSO and 39.5% to end March 2011. There are some interesting differences, however. The permanent tsb / ESRI index placed the peak of the house price cycle in the first quarter of 2007, as does the Daft.ie index (based on asking prices on that website) whereas the CSO index puts it later that year, in September. Dublin prices did peak earlier, in February, according to the CSO, perhaps indicating that the permanent tsb / ESRI index was biased to the capital. 2 Bank of Ireland Global Markets
Residential Property Prices (annual % change, National) 20.00 15.00 10.00 5.00 0.00-5.00-10.00-15.00-20.00-25.00 06q1 06q3 07q1 07q3 08q1 08q3 09q1 09q3 10q1 10q3 11q1 Average prices now 201,500 nationally and 238,500 in Dublin The CSO also offers a number of breakdowns alongside the national trend, including apartments and houses. The former has seen the largest fall from the peak, at 48.8% to March 2011, with Dublin apartments down some 52%. The fall in houses is less pronounced, at 37.7% nationally and by 34.4% outside the capital. The new series does not provide data on actual prices but we have derived these using the CSO indices and the permanent tsb prices in early 2005 as the base. On that basis a representative price for Irish residential property in March 2011 was 201,500, with a price of 238,500 in the capital. Irish Residential Property Prices (end-year) National ( 000) Dublin ( 000) 2005 284 382 2006 325 447 2007 330 441 2008 290 372 2009 236 283 2010 211 253 2011 q1 202 239 Source: ERU estimates with prices down 4.5% in Q1. Standard & Poor s recently put forward the view that Irish house prices may have bottomed but there is no published evidence to support that contention. The CSO index showed prices falling 1.7% in March 2011, following a similar fall in February, bringing the decline over the first three months of the year to 4.5%, from 2.6% in Q4 2010. Mortgage lending is also still falling, according to the Central Bank, and although affordability is now at levels last seen in 2001, the uncertain outlook for the economy in general and employment in particular remains a key impediment to a housing recovery. It is true that rents appear to have stabilised (rising in the first quarter of 2011 according to the CSO, and broadly flat on an annual basis), which implies some areas of the market are around an equilibrium. In addition rental yields on our model have risen to 4.5%, the highest since 2003. Transaction costs have fallen substantially given the recent slashing of stamp duty, but it still seems too early to call a bottom of the cycle, given the price and lending data. 3 Bank of Ireland Global Markets
DoE data looks anomalous. Finally, it is worth noting that the Department of the Environment (DoE) data on house prices does show prices rising sharply in 2010, by an annual 11.4% in Q4, and by 18.8% in Dublin, but this data is not mix-adjusted and based on the mean of prices notified in the quarter. This can make such measures unreflective of the actual market particularly in periods of low turnover, when a high-priced property can seriously distort the average. Private Sector Rent (% change) 15.00 10.00 5.00 0.00-5.00-10.00-15.00-20.00-25.00 11q1 10q4 10q2 10q1 09q4 09q3 09q2 09q1 08q4 08q3 08q2 08q1 07q4 07q3 07q2 07q1 06q4 06q3 06q2 06q1 4 Bank of Ireland Global Markets
House Completions Less than 2,800 houses completed in first quarter The DoE collates monthly data on Irish house completions, and the latest figures show a total of 2,766 in the first quarter of 2011. This compares with 3,800 in Q4 and 3,600 in Q3 2010, implying that our previous expectation that completions had reached a cycle floor has proved premature. Nevertheless, the pace of decline has clearly slowed, with the Q1 figure some 26% down on the previous year, against 37% in the previous quarter and a pace of over 50% annual declines in 2009. House Completions 100,000 90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0 2011 (e) 2010 2009 2008 2007 2006 2005 2004 2003 2002 2001 2000 1999 1998 1997 1996 1995 1994 DoE and most built to demand... The Q1 figures also confirm another recent trend the growing importance of single houses in the total and the corresponding decline in housing developments, the former presumably built to demand. At the peak of the boom individual houses accounted for a quarter of all completions but this had risen to 54% by 2010 and to 55% in the first three months of this year. This change may partly account for another recent phenomenon the growing divergence between bond registrations and house completions. Such registrations, an insurance bond taken out by builders when embarking on a development, were generally seen as a proxy for housing starts and as such a good estimate of future completions. That relationship has collapsed. Registrations amounted to only 3,700 in 2009, for example, against completions of over 14,600 in 2010 and the predictive power of the former appears to have diminished further of late; registrations fell to only 304 in the third quarter of 2010, implying a very weak completion figure for the first quarter of 2011, and not the 2,766 total that emerged. An additional explanation for this divergence relates to the measurement of house completions, which are counted when the house is connected to the electricity grid. On that basis some of the more recent completions may have been finished for some time but only connected when sold or when put more actively on the market. 5 Bank of Ireland Global Markets
data implies housing stock now declining. In broader terms the Q1 completions figure is consistent with a further fall in the annual completion total, to around 14,000 over our forecast, although the consensus is lower still. This would be the lowest figures since modern records began and would add just 0.6% to the housing stock. This is also below the depreciation rate assumed by the authorities, implying a decline in the outstanding mortgage stock, again a novel development in recent Irish history. Irish Housing Supply Housing Completions New Home Registrations 1996 33,700 23,769 1997 38,842 27,080 1998 42,349 29,067 1999 46,512 33,852 2000 49,812 34,613 2001 52,602 28,845 2002 57,695 51,157 2003 68,819 56,859 2004 76,954 60,782 2005 86,000 62,284 2006 88,400 66,650 2007 78,027 38,352 2008 51,724 12,676 2009 26,420 3,743 2010 14,602 1,680 DoE 6 Bank of Ireland Global Markets
Mortgage Lending Gross lending falls sharply again in first quarter The combination of weak demand and supply constraints has had a pronounced effect on mortgage lending of late: gross mortgage lending fell to 4.7bn in 2010, from over 8bn in 2009 and some 40bn at the peak of the cycle in 2006. Loans for house purchase alone fell to 3.8bn last year, from a cycle high of 28bn in 2006, with the number of new mortgages in this category dropping to 18,300 from over 110,000 in 2006. The downward trend shows no signs of abating judging from the figures now available for the first quarter of the year. The value of new mortgage lending was just 576m in Q1, or some 53% below the corresponding period of 2010, with a similar percentage fall in the volume of loans, to some 3,300. For house purchases there were only 2,300 loans, of a total value of 466m, or half the level a year earlier. Mortgage Lending for House Purchase No. of Mortgages Average Value ( 000) Total Market ( bn) 2005 110,500 220 24.4 2006 110,800 251 27.8 2007 84,200 267 22.5 2008 53,600 270 14.5 2009 25,100 232 5.8 2010 18,300 207 3.8 IBF and buy-to-let lending has collapsed The property downturn has seen a collapse in buy-to-let borrowing with only 20m lent in the first quarter, a 75% annual fall. This investment demand for mortgages now accounts for only 6% of house purchase loans, from 25% at the peak, with first-time buyers now accounting for over half of house purchase loans. That share did slip in Q1, to 56% from 58%, with the share of borrowers trading-up rising to 38% from 36%. This may reflect the impact of the recent huge reduction in stamp duty, although the amount borrowed in this category was also extremely weak in the first quarter declining by an annual 45% to just over 200m. The figures also contain a further fall in re-mortgaging activity, with such loans at 40m, or 72% below in the previous year, against a quarterly cycle high of over 1.9bn. Mortgage Lending (annual % change) 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% -2% -4% 08q1 08q2 08q3 08q4 09q1 09q2 09q3 09q4 10q1 10q2 10q3 10q4 11q1 Central Bank of Ireland 7 Bank of Ireland Global Markets
and net lending is still contracting. The Central Bank produces more timely monthly data on net mortgage lending, and now produces figures which strip out the effects of write-downs. On that basis, the net monthly flow of lending (i.e. gross new loans minus redemptions) turned negative in mid- 2009 and has been trending lower since, with an odd positive month thrown in. Net lending continued to fall in the first three months of 2011, with the annual rate of change at -2.6% in March, from -2.7% in February. The data also shows that the stock of outstanding Irish mortgage loans on the balance sheet of banks has fallen below 99bn, although the total stock of mortgage debt is higher, at 134bn, the difference reflecting securitisations. The latter figure is down from a cycle peak of 149bn. 8 Bank of Ireland Global Markets
Affordability Our model tracks data from 1975 There are a number of affordability measures available regarding the Irish market and all seek to capture the cost of mortgage finance relative to income. The lack of time-series data on average earnings in Ireland (the CSO has started to produce data, but only from 2008) has meant that analysts use different income measures, with corresponding differences in quoted affordability, although the trend tends to be common. Our own approach is to seek data available over a long time frame and on that basis our income measure is defined as the annual total paid in wages and salaries to employees, divided by the average number of employees. Consequently, it is a measure of average gross income received from employment which clearly excludes the self-employed and any non-wage income, and takes no account of changes on average income tax rates or tax changes on mortgage payments, but such is the data constraint that we feel the index is useful as it goes back to the mid-1970 s. affordability improved in 2009 and 2010... The numerator in our affordability measure is the annual payment on a new 25-year repayment mortgage, which is the product of the average new mortgage for house purchase and the average interest rate paid, as published by the Central Bank. The former amounted to 207,000 in 2010, for example, which with an average interest rate of 2.9% produced a monthly repayment of 966, or 28% of our income measure. This is below the 29.4% average recorded over the 35 years to 2009, indicating that affordability is not a significant impediment in the current market. That was certainly not the case in 2006-2008, when affordability deteriorated rapidly, rising to over 44% on our index, reflecting a combination of rising interest rates and a significant rise in mortgage size; the average new house purchase mortgage was 220,000 in 2005 but had risen to over 270,000 in 2008, while the mortgage rate increased from 3.3% to 5.1%. and is back to 2001 levels. Mortgage rates then fell sharply in 2009, averaging 2.9%, and although they picked up from mid 2010 the average for the year was unchanged. In addition the plunge in house prices resulted in a sharp fall in the size of new mortgages, and the affordability index improved dramatically in 2009 to 30.8%. That improvement continued to 2010 despite a fall in average incomes, as the impact of lower mortgage borrowing outweighed the income effect - indeed affordability has not been as good since 2001 on our model. The pick up in interest rates is likely to continue this year and next now that the ECB has embarked on a tightening cycle, and we expect a further fall in income this year. Against this, the average new mortgage looks set to fall further and as a consequence our affordability index is projected to be broadly unchanged on 2010, with a very modest deterioration projected for 2012. Affordability (%) 50 45 40 35 30 25 20 15 10 5 0 2011(e) 2010 2009 2008 2007 2006 2005 2004 2003 2002 2001 2000 1999 1998 1997 1996 1995 1994 1993 1992 1991 BoI Economic Research Unit (ERU) 9 Bank of Ireland Global Markets
Interest Rates Rates for new borrowers have risen Since Ireland s membership of the euro the average mortgage rate on a new loan has moved in a broad 2.5% - 5.5% range, with the interest rate cycle largely reflecting the economic cycle. The Irish banking crisis has added an additional factor, however, as domestic lenders have had to pay a premium to attract funds, with a knock-on effect for retail borrowers. Consequently, the mortgage rate on new loans has risen over the past year, from a low of 2.57% in early 2010 to over 3.0% in March this year according to the Irish Central Bank. The majority of existing borrowers were unaffected, however, as they hold tracker mortgages, which have a fixed spread over the ECB repo rate, which of course was unchanged at 1% over that period. The ECB then signalled in March that it was likely to start tightening monetary policy in the face of a rise in inflation, and duly increased the repo rate by a quarter of a percent in April. The ECB accepts that the recent acceleration in inflation (to 2.8% in April) is predominantly due to higher commodity prices (notably oil) and that there is no clear evidence of price pressures elsewhere, but clearly feels that a repo rate of 1% is now too low for a euro zone economy which has recovered from the recession in 2008/09. That recovery is uneven across the zone (Germany is experiencing an export and investment led boom, while others are still seeing muted or even negative growth), but the market expects the ECB to continue to tighten policy, albeit at a slower pace than thought a month ago, with the next move possible in July or August. The ECB never pre-commits so nothing is certain but on the basis of its past actions the market expects a repo rate of 2% by the second half of 2012, which if it materialises would imply tracker mortgage rates in Ireland 1% above that existing in the first quarter of 2011. and ECB tightening will push rates up further. The likely increase in money market rates also means that mortgage rates for new loans will also increase although that will also be influenced by the cost and availability of funding for Irish banks. The onset of a tightening cycle also tends to produce media calls for borrowers to fix rates, but one should note that the cost to a bank of borrowing 3 or 5-year money in the market, if available, has already risen to reflect the expectation of higher floating rates over that period. Mortgage Rate (%) 6 5 4 3 2 1 0 10q4 10q3 10q2 10q1 09q4 09q3 09q2 09q1 08q4 08q3 08q2 08q1 07q4 07q3 07q2 07q1 06q4 06q3 06q2 06q1 Central Bank of Ireland 10 Bank of Ireland Global Markets
Commercial Property UK recovery not matched in Ireland Apart from the obvious difference in scale, the Irish commercial property market has differed from the UK in that the latter has attracted substantial interest from foreign investors. That external factor has been a significant feature of the recovery in UK commercial property prices, which have seen capital values rise by over 20% from the lows recorded in mid-2009. The equivalent yield on UK property at that time had risen to over 9% according to IPD which alongside a 5-year fixed interest rate that had fallen from 6% to 3% over the previous year contributed to a pick-up in investor demand. The equivalent yield on Irish property rose to over 8% in late 2009 and 5-year fixed rates fell below 2% in mid-2010 but the market has yet to clearly bottom, judging by the IPD data; capital values fell again in the first quarter of 2011, bringing the total decline in the past three years to 61%. The pace of decline slowed, however, to 2.3% from 3.3% in the previous quarter, with the deceleration most evident in the office sector (-2.0% from -3.0%) and also in retail (-2.7% from -3.5%). The income return also picked up slightly in the quarter, to 2.4% from 2.3% with the result that total returns were flat, with the office sector actually gaining 0.5%. uncertainties abound, but modest positive return likely. Yield levels in excess of 8% should be attractive in a normal environment but there are a number of additional factors at work. The yield on Irish government bonds has also risen very sharply, and so the potential return on competing assets is more attractive. In addition, the funding difficulties of the Irish banks mean that the market rate for 5-year loans is not an effective rate for Irish borrowers. Moreover, the uncertainty about the future of upward-only rent reviews has added a further degree of risk. Finally, the low level of transactions has clouded capital valuations. NAMA has acquired a sizeable number of properties and intends to sell more over the coming year so this may provide some transparency, and the consensus view is that the economy may see positive growth this year, albeit marginal. On that basis, the market may begin to see some activity this year, and we expect a modest positive return. Commercial Property Returns (%) 50 40 30 20 10 0-10 -20-30 -40 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011(e) SCS/IPD 11 Bank of Ireland Global Markets
Contacts Bank of Ireland Global Markets Chief Executive: Austin Jennings Colvill House, Talbot Street, Dublin 1, Ireland Head of Global Customer Business: Kevin Twomey Tel: +353 1 799 3000 e-mail: info@boigm.com Economic Research Unit (ERU) Chief Economist, Bank of Ireland: Dr. Dan McLaughlin Tel: +353 1 609 3341 Senior Economist: Michael Crowley e-mail: eru@boigm.com Economist: Patrick Mullane Listen to Daily Commentary on Freephone: 1800 60 70 60 Bank of Ireland Mortgages Consumer Banking Business New Century House, Mayor St. Lower, Dublin 1, Ireland Tel: +353 1 611 3000 Bank of Ireland Mortgages Fax: +353 1 611 3100 1 890 365 345 e-mail: info@mortgagelink.ie Disclaimer Produced by the Economic Research Unit at Bank of Ireland Global Markets ("GM"). Bank of Ireland is regulated by the Central Bank of Ireland. In the UK, Bank of Ireland is authorised by the Central Bank of Ireland and authorised and subject to limited regulation by the Financial Services Authority. Details about the extent of our authorisation and regulation by the Financial Services Authority are available from us on request. This document is for information purposes only and GM is not soliciting any action based upon it. GM believes any information contained herein to be materially accurate but GM does not warrant its accuracy or completeness and this information should not be relied upon for any purpose. No prices or rates mentioned are bids or offers by GM to purchase or sell any currencies, securities or financial instruments. Except as otherwise may be specifically agreed, GM has not acted nor will act as a fiduciary, financial or investment adviser with respect to any derivative transaction that it has executed or will execute. Any investment, trading and hedging decision of a party will be based on its own judgement and not upon any view expressed by GM. This document does not address all risks related to the transactions described. You should obtain independent professional advice before making any investment decision. Any expressions of opinion reflect current opinions as at 1 st June 2011. This publication is based on information available before this date. For private circulation only. This document is property of GM. The content may not be reproduced, either in whole or in part, without the express written consent of a suitably authorised member of GM staff. Bank of Ireland Global Markets