Bottom of housing market expected to be reached this year due to rapid improvement in affordability

20 March 2023 14:30 RaboResearch

House prices are expected to fall 4.2 percent this year and 1.5 percent next year. With existing homes for sale rapidly becoming more affordable and the market still tight, the number of transactions in particular is picking up after this year.

Beautiful young couple buying an apartment with a help of a real estate agent.

The 2022 housing market was a year of extremes

The development of house prices last year was characterized by extremes (see Figure 1). The year began with the highest house price increase – of 21.1 percent – since the start of the Existing House Price Index in 1995. But during the year, house price growth fell rapidly. Starting in August, house prices have been falling. Existing home sales were 4.5 percent cheaper in December than at their peak in July 2022. Compared to a year earlier, however, owned homes are still slightly more expensive. In January 2023, house prices rose somewhat again, but this by no means marks the end of the period of house price declines. Part of the difference in price development is due to seasonal effects, and in addition, the month-on-month development of house prices is quite erratic.

The cause of the turnaround is well known: sharply higher mortgage interest rates have allowed households to borrow less – and thus pay less – for a home (see Figure 2). In addition, inflation also shot up, allowing people to (or want to) spend less on the monthly mortgage. As a result, interest in homes for sale declined sharply during 2022: realtor Makelaarsland and housing platform funda saw a sharp drop in the number of viewings and the number of contact requests per home. But at the same time, more homes were put up for sale (see Figure 9). The combination of falling demand and increased supply results in falling prices.

Figure 1: House price growth down hard

Source: CBS/Kadaster

Figure 2: Interest rates have risen sharply, but are still historically low

Source: CBS (through 2002), DNB (from 2003)

House prices fall sharply in 2023, stabilize in 2024

We expect prices of existing owner-occupied homes to continue to substantially fall in price this year (see Figure 3), and to be 7.6 percent cheaper in the fourth quarter of this year, compared to the July 2022 peak. On an annualized basis, home prices are expected to fall by 4.2 percent in 2023, where we assumed 3.0 percent in our previous forecast from December last year. Home prices fell sharply in the fourth quarter of 2022, and the market currently has clear downward momentum. We expect this downward trend to continue in the first half of this year. We also expect capital market rates to remain high for longer than previously anticipated.

If capital market rates and the economy develop as in our most recent forecasts, we expect the housing market to bottom out this year. The transition from a down housing market to an up market usually begins with more transactions. Recovery in house prices generally follows later. Therefore, we expect house prices to remain more or less stable in 2024. On an annual basis, prices do still fall by 1.5 percent. This is due to the spillover effect (illustrated in Figure 3): price declines that occur during 2023 cause average prices to be lower in 2024.

There are three factors that lead us to expect house prices to bottom out as early as this year: the affordability of owner-occupied houses will improve in the coming years, the labor market remains relatively strong, and we expect capital market interest rates to fall again somewhat. In addition, new housing production is likely to decline in the coming years, as the construction industry faces lower home sales, while interest rates and construction costs have risen.

Housing affordability improves

As homes become cheaper and homebuyers need to borrow less as a result, they will be better off by the end of 2023 than those who bought a comparable owner-occupied home at the market's peak. Affordability is also improving because wages are now rising rapidly in response to inflation. Although collective wage increases are not yet keeping up with inflation, they have already increased substantially in euros. People have also started working much more. This allows households to spend more on housing (see section "Spotlight: real house prices have already fallen sharply due to high inflation").

Strong labor market

We also expect the house price decline to end fairly soon due to the relatively favourable macroeconomic conditions. Although the momentum is off after years of recovery growth, the Dutch economy is expected to continue to grow. Moreover, unemployment is only slightly increasing to about 4 percent in 2024, remaining historically low. Due to the combination of a growing economy and falling house prices, the affordability of owner-occupied homes at the end of 2023 is expected to be significantly better than at the beginning of last year, despite the still high interest rates (see section 'Spotlight: real house prices have already fallen sharply due to high inflation').

Falling capital market interest rates

We foresee capital market interest rates peaking this year and then declining somewhat thereafter. These rates determine the funding costs of mortgage lenders, and therefore largely determine the level of mortgage rates. Although capital market interest rates are expected to remain higher than in 2021 and early 2022, they are expected to be about 0.6 percentage point lower than today by the end of 2024. In our estimate, this decline in interest rates also contributes to a recovery in the housing market beyond 2023. However, uncertainty about interest rate trends is high. Therefore, we also calculated a scenario with higher interest rates.

Figure 3: Significant price declines this year, but stabilization in 2024

Source: CBS/Kadaster, RaboResearch

Housing market might pick up faster than expected

The housing market is still quite tight, despite the recent drop in demand. We do not expect the market to tighten beyond this year, precisely because affordability is improving significantly this year. Fewer rather than more new homes are likely to be built in the coming years, which means supply will again lag behind demand.

Especially if interest rates do not rise further or even fall slightly, the rapid improvement in the affordability of homes for sale could cause the housing market to pick up faster than we currently assume. In the past, it took years for house prices to start rising again after a big house price drop. But the situation now is different than in the past. For example, in 2013, when home prices stabilized after a long period of house price declines, there were more than 200,000 homes for sale, about four times as many as there are today. Although the number of homes for sale is expected to rise slightly this year, the difference from the situation in 2013 remains large. House prices have fallen considerably faster during this cooling down than in the aftermath of the financial crisis, so sales have held up better. As a result, the market may also be picking up faster.

Dependence on capital market interest rates creates uncertainty

We currently see the development of capital market interest rates as one of the most important determinants of house prices. We have therefore also calculated scenarios in which the 10-year euro swap rate from the end of 2023 is one percentage point lower than in the base path or, conversely, one percentage point higher (see Figure 4). In the base path, house prices fall by 4.5 percent in 2024 compared to January 2023. If interest rates fall more than expected, the decline is expected to be only 2.8 percent. The market then picks up earlier, causing house prices to rise as early as next year. In the scenario with higher interest rates, house prices still fall by 6.1 percent until the end of 2024. Moreover, they still show a downward trend at that time, so house prices may fall even further. This could happen, for example, if high inflation is more persistent than expected.

Figure 4: Price trends depending on interest rate movements

Source: CBS/Kadaster, RaboResearch

Featured: real house prices already down sharply due to high inflation

Although existing owner-occupied homes were only 3.1 percent cheaper in January 2023 than at the market's peak in July 2022, the decline is already much larger when the effect of inflation is taken into account. As home prices fall while prices of goods and services – and now wages – have risen sharply, homes for sale are rapidly becoming cheaper relative to the general price level. Real house prices – house prices adjusted for inflation – already reached their peak in the first quarter of 2022. Since then, they have fallen about 7 percent. By the end of 2023, that decline is expected to rise to 14 percent, and even more than 17 percent by the end of 2024.

While real house prices are falling sharply, the size of the Dutch economy continues to grow. Dutch GDP – a measure of the money earned within the economy – per capita is growing faster than inflation. According to the latest available CBS figures on real household disposable incomes, they were 0.8 percent higher in the third quarter of 2022 than a year earlier, despite high inflation. This is linked to wage increases and the fact that people have started working more. Collective bargaining wages are also expected to rise sharply by 5.6 percent this year, followed by another 3.8 percent next year. Plotting the development of real house prices against real GDP per capita (Figure 5), it is noticeable that the high valuation of housing has already largely disappeared by 2024.

Figure 5: Real house prices fall sharply in coming years

Source: CBS, RaboResearch

With high inflation, real net monthly expenses are also falling at a rapid pace. Figure 6 shows both nominal net monthly expenses (in current prices) and real net monthly expenses in constant 2022 prices. The monthly costs shown in the figure assume a purchase home with an annuity mortgage of 100 percent of the purchase price of the average home sold. Based on our estimates of house prices, inflation and capital market interest rates, someone buying a house in late 2024 will have about the same real monthly expenses as someone who bought a similar house in late 2020. Because mortgage costs play an important role in homebuyers' purchase decision, and also determine their maximum mortgage, we assume that this improvement in the affordability of owner-occupied homes will help restore demand for owner-occupied homes.

Figure 6: Real monthly cost of buying a home at the end of 2024 back to level at the end of 2020

Note: Concerns net mortgage expenses in first year after mortgage closing - Source: CBS, RaboResearch

Large house price differences between regions

Strong decline in and around Amsterdam

In all provinces, prices of existing homes for sale fell in the fourth quarter of 2022 (see Figure 7). This was particularly so in Utrecht, with a 3.9 percent quarter-on-quarter decline. In straggler Limburg, the price decline was limited to 1.2 percent. This is a substantially different picture than in the third quarter of last year. Back then, house price growth was still modestly up in most provinces.

If we zoom in a little further, on NUTS3-regions, it is striking that especially in regions in the northern wing of the Randstad (Utrecht, Amsterdam and regions around Amsterdam) prices fell relatively sharply in the last quarter of 2022. When house prices were rising, these regions led the way, and now house prices there are actually falling sharper than in other regions. In Amsterdam, prices fell by as much as 4.8 percent. Compared to the same period last year, existing homes for sale there were still 2.0 percent more expensive.

Figure 7: Home prices declining in all provinces

Source: CBS/Kadaster

Regional house price forecast

We expect house prices to fall in all regions this year (see Figure 8). In Utrecht, house prices will fall the most sharply at 7 percent, closely followed by Amsterdam, Gooi and Vechtstreek, Zaanstreek and Haarlem. In Zeeuws-Vlaanderen, the decline in house prices is smallest. There, owner-occupied houses are expected to become only 1 percent cheaper. House prices in many other peripheral parts of the Netherlands are also falling less sharply than average. That house prices in regions outside the Randstad decrease less rapidly, may be because houses there are much cheaper – and therefore more affordable – than houses in the Randstad.

Regional house price differences in recent years contributed to an increasing demand for houses outside the Randstad by Randstad residents; they more often bought a house further away from the Randstad, rather than one in their own city. It is uncertain whether this migration out of the Randstad will continue now that house prices are falling hardest precisely there where affordability was an issue in recent years. If owner-occupied houses become cheaper in their own city, Randstad homebuyers may be less likely to move elsewhere.

Figure 8: Home prices falling this year in all regions

Source: RaboResearch

More homes for sale, fewer transactions

Supply of housing increased, increase flattens out

Last year marked the end of a long period in which the market for existing owner-occupied homes continued to dry up. For the first time in a long time, more houses were put up for sale than were sold (see Figure 9). In the second and third quarters of last year, according to the NVM, as many as 24 percent more houses were put up for sale than in the same quarters a year earlier. The main cause seems to be the changed sales strategy among homeowners with a desire to move. They now prefer to sell their house first before buying a new one. There are currently more than twice as many houses for sale as a year ago.

However, it does seem that the wave of additional supply is now behind us. Earlier this year, we saw a clear decline in the number of homes for sale, although in recent weeks the supply seems to be falling less sharply. Still, we assume that the drop in supply is temporary. The extremely tight market in recent years forced a large group of potential homebuyers to postpone their plans to move again and again because they could not find a suitable home or were repeatedly outbid. Now that the housing market is cooling, some of this group has probably finally succeeded in buying a home. However, we expect this group to become smaller now that the housing market has been more expanded for a while.

Figure 9: Supply did not increase further

Source: funda.nl

The average selling time of existing homes for sale increased further in the fourth quarter, according to figures from the NVM. It took an average of 30 days to sell a home, up from 23 in the same quarter a year earlier. So when homes are sold, it still happens quickly. However, the duration of supply – the number of days that have elapsed since homes that have not yet been sold were put up for sale – is increasing a lot faster. Some homes are harder to sell in the current market. Consider, for example, poorly insulated homes, which are less attractive due to the energy crisis.

Sales decline further weakened

In recent years, the number of transactions of existing owner-occupied homes decreased significantly. This was mainly due to the lack of supply. In 2022, the counter remained at 193,000 homes sold, 14.6 percent less than in 2021. It is noteworthy that the number of home sales has been declining at a much slower rate in recent months despite falling house prices (see Figure 10).

Especially compared to the 2008-2013 crisis, when the number of sales dropped much further, this is striking. One possible explanation is that there is still relatively high demand for housing: unemployment is historically low, and this is not expected to change any time soon either. Many people who failed to do so when the market was overheated still want to move. They may now rate their chances higher because of the additional supply and falling prices. Also, homeowners now have much more home equity than they did in 2008. As we wrote earlier, the large price increases in recent years, the tightening of lending standards and the repayment obligation have given them a lot of surplus value. As a result, we expect them to be more likely to accept lower offers on their current homes, keeping sales going.

Figure 10: Decline in sales flattens out

Source: CBS/Kadaster

Meanwhile, in all provinces, the number of transactions is declining at a slower rate than in 2021 (Figure 11). In some provinces, there were even more transactions in the fourth quarter of 2022 than in the same quarter a year earlier. In Gelderland, the year-on-year increase in the fourth quarter was as high as 5.7 percent. For all of 2022, fewer homes were sold in all provinces and the four major cities than in the previous year. The decline ranged from 10.9 percent in Flevoland to 17.8 percent in North Brabant.

Figure 11: Decline is slowing everywhere

Source: CBS/Kadaster

Low point of home sales in sight

We expect that the number of transactions will decline a little further, but will stabilize during 2023. 183,000 existing owner-occupied homes are expected to be sold this year, followed by 193,000 in 2024. With the improved affordability of existing owner-occupied homes, the market is tentatively picking up. We have revised our estimate slightly upward from our previous quarterly report, when we still assumed 179,000 transactions this year and 184,000 next year. This is because the number of transactions for the time being remains slightly better than we expected.

We anticipate that the housing market will pick up next year, but the flow in the housing market will stall as fewer newly constructed homes are sold, resulting in fewer moves from existing homes into new construction. As a result, the market for existing owner-occupied homes is likely to tighten. Although the number of transactions is expected to rebound somewhat despite this development, the increase would be larger if new construction production had been maintained.