Looking for a flat

Maybe it’s not a perfect moment, but I’m taking the moment and trying to make it perfect to revisit my post on property market published two years ago and find out what has changed on the marketplace since then.

The best answer to the question above is: “nothing, except for rising number of transactions”. In October 2013 I predicted a 3% y/y drop in property prices, while in reality prices were, despite small fluctuations, flat.

The graph to the right shows average property prices (per sqm) in Warsaw over the last 3 years (source: NBP). Cursory analysis of the graph tells you that: (1) sellers have begun to realise the boom is over and asking prices had to be adjusted down to lure buyers, (2) difference between asking prices and transaction prices narrows, (3) primary market witnesses a revival, while secondary market is featured with more price stability.

A careful analyst will scratch beneath the surface and discern two other regularities that need to be taken into account. Firstly, each quarter sample of properties making up the average is different. In one quarter properties of higher standard in better location could be traded, thus inflating the average price, in another quarter there could have been higher turnover in poorly located or rundown flats, sending the average price down. Secondly, the difference between asking prices and transaction prices does not show how steep discount a buyer can expect, since samples used to derive the averages are totally different.

Since primary and secondary property markets in Warsaw are worlds apart (to be elaborated on down the post), they behave differently, yet analysing the property market in Warsaw as a whole, judging by AMRON-SARFiN data (gathered from notaries), transaction prices are flat as a pancake, ranging between PLN 7,100 and PLN 7,400 per sqm over the last 3Y, a variation that is negligible. These figures however also need to be interpreted with caution, since samples of properties being composites of the average vary from quarter to quarter.

While looking at the post from October 2013, it does not hurt to review the factors which could drive property prices up and down.

The factors meant to increase property prices:

1. Interest rates – today NBP’s prime rate is 100 basis points lower than 2 years ago. This has not boosted much demand for mortgage loans, however distorted creditworthiness criteria at some banks. This is a trap, since if a household can afford repayments today, it might fall into troubles if interest rates revert to where they were in 2008 (which could mean nearly two times higher instalments).

2. Income brought by bank deposits is even lower that 100 basis points than 2 years ago, on account of overliquidity in the Polish banking system. According to press information, the outflow of money from banks into the property market is taking place, since greedy depositors keep chasing higher return. Frankly speaking I do not understand their rationale for investing on the property market (other than the fact property is tangible). If after-tax rental yield is now in Warsaw some 4%, while after-tax return on a decent bank deposit is 2% (absolutely attainable), the extra income is 2 percentage points (no, not two times higher, you should calculate it as percent of capital invested). Now from the two additional percentage points per year of the yield you should deduct:

I) one-off transactions costs incurred at the purchase of a flat (ca. 3% for notarial charges, transaction taxes and entry in the land and mortgage register + potential commission for estate agent of another some 3%),

II) inevitable costs of void periods, i.e. when a flat is empty and not only does not earn income, but generates fixed costs, and cost of finding a tenant (additionally inflated, if you entrust the task to an estate agent),

III) cost of wear and tear,

IV) premium for uncertainly regarding price appreciation / depreciation – at exit this will materialize,

V) liquidity premium (compare how easy it is to convert a flat and a bank deposit into cash).

I deliberately do not count in problems with rent collection and damages done by tenants, since these can be covered from cash bail paid up-front, as well as all the hassle letting a property involves.

I can also reiterate the question how the increase supply of flats for rent will be met by demand from tenants, in the long run I do not see a balance here…

3. Cash buyers, who have waited for the perfect moment, keep generating demand. On top, I see these days lots of people who are at the process of upgrading to a more posh property (the question is whether they plan to dispose of previous flats).

4. In October 2013 supply of flats under construction was shrinking, today it is back rising and record-high. In two or three years, I foresee a supply overhang…

5. The government-run borrower-support scheme in Warsaw had little impact on primary market, because of the low price limit, however in the outer districts, prices of some flats were adjusted up to fit the limit, while in those more attractive downward adjustments were witnessed. Since September 2015 MDM covers also secondary market, however with price cap of some PLN 5,200 per sqm, only a tiny minority of low-standard flats fall under the scheme.

The factors that were meant to decrease property prices:

1. Demographics – does work, but to minor extent. Two years ago I mentioned it as the most important factor in the long-run. We need to wait five to ten years to observe its impact on property prices.

2. Situation of youngsters – has not changed much in terms of job security of salaries.

3. Recommendation S – I believe higher requirements towards buyer’s equity will be more observable, when the missing percentage of equity will not be that easily supplemented with MDM subsidy or will not be insured easily. Full impact will be witnessed in 2017, when 20% own contribution will be a must and only half of it could be covered by MDM or low-equity insurance, this will mean each buyers will need to have some 13% of property price in cash…

4. Banks have somewhat unleashed their expansion in the mortgage loans segment, however it might be curbed by the newly enacted laws after the parliamentary elections. Banks will most probably need to pay a tax on assets, which will not hurt the banking sector much, however the solution for the problem of CHF-denominated loans has not been worked out and the threat of severe losses for the sector if the most abject scenario (converting loans at the exchange rate at which there were taken out) remains conceivable. If so, the property market might go into decline for two reasons: (1) banks would curb lending on account of capital shortfalls, (2) owners of many flats currently unsellable due to LTV > 100% would be unlocked to sell their properties and swap them for bigger ones (however they would find it harder if bank lending comes to a standstill).

5. Future insecurity – no headway since 2013

6. Property prices remain steep, but flat, so if wages rise, availability of properties increases.

7. Costs of living are generally flat, with official deflation, yet prices of basis goods, including household upkeep, going slightly up.

All in all the two groups of drivers have been offsetting each other and I expect them to do so in the near future. A considerable decline of the property market, if no external shock hits, is likely around 2018, when combined forces of inevitably looming demographics, oversupply of flats on primary market, more stringent mortgage lending regulations in force, should send real property prices down.

On my own front, I began to look for a flat actively this month. My general criteria a sought flat needs to meet:

- one bedroom, between 50 and 55 sqm area,

- separate kitchen,

- garage is a must,

- built after 1995

- location: Ursynów, Włochy or Ursus,

- budget constraint depending on a district.

The last dilemma still being sorted out is between the primary and secondary market.

A flat from a property developer:

- is brand-new and you are nearly free to arrange it the way you want,

- incurs lower maintenance costs in the first years of living,

- is less likely to be a pig in a poke (defects coming into the light and requiring additional repairs)

- involves lower transaction costs at the purchase.

In turn a flat from a secondary market:

- can boast of better location and better developed infrastructure (especially in Ursynów, where supply of new flats is short),

- might be ready for moving in,

- might have more reasonable layout (easier to find two rooms above 50 sqm and separate kitchen) and might have been built from better materials (regular bricks rather than pre-fabricated blocks).

Moreover, the primary market in terms of concluded transactions is booming (both supply and demand on the rise), hence developers might be resistant to attempts of haggling down the price, while the secondary market is in the doldrums and impatient sellers, tired of putting up their flats for sale for months, or even years, are willing to make bigger concessions. I can admit to have browsed property advertisement since taking the exam (so for more than 4 months) and I have noticed several advertisements stay there intact (dates are updated so that they appear closer to the top of the page, but price stays the same). Offer of flats in Warsaw today is virtually the same as it was in early summer...

What also need to be noted on the secondary market is the extent to which it has been plagued by incompetent estate agents. I understand sellers might be too busy to deal with sale process on their own, but for a brainy and well-versed in legal matters buyer, who also has some spare time to look for a property, an agent adds no value (confirmed by brainy friends who used to make money on being well-paid intermediaries in good times). On the market which is in the doldrums, competition among estate agents is high and you can find the same flat (same photos) put up by several agencies, at different prices, with different usable area and located at different streets, which additionally proves incompetence of estate agents!

Another question I am facing is, how to buy not to lose on it. Given my relationship status and size of sought flat, the flat I’m looking for from the beginning is not the target property. If prices go down, I argue this should not be the problem, since my flat will be worth less, but in absolute number, prices of larger flats will go down by even more.

On the other hand, what the future holds is uncertain. I do not know whether a girlfriend appears in three months or in three years, when, if at all, I will get married and when my children will be born. My parents, who agreed to support me financially in my plans, think it would make sense much more to firstly find a girlfriend and then to think about a target flat or house. Nevertheless they agree there is the stage of a relationship when people should live together, but it is too early to take far-reaching decisions, such as buying a property for more than half a million PLN. And they also agree I enter the age when a male should live on his own… Something I long for, yet not at all costs.

After all young males (including me) feel a desire to be independent, have something that belongs to them, have privacy essential at such age and take responsibilities. Oddly enough, the percentage of young (aged 25-34) people in Poland living with parents keeps increasing. Not only the harsh labour market is to blame. Generation gap is waning, parents are more tolerant, so decision not to fly the nest, not to taste duties and responsibilities taking care of oneself involves, appears convenient for many adults.