A Sharp Global Real Estate Correction Is Approaching: Oxford Econ

Low rates led to a global real estate boom, now expected to correct as interest costs rise. This week, Oxford Economics warned a sharp global real estate correction is approaching. Rising rates, weak demand, and falling construction prices will take a lot of the froth out of the market.

Global Real Estate Prices Expected To Make A Double-Digit Correction

Global interest rates are close to peaking, as inflation begins to show signs of cooling. It typically takes 12 to 18 months for real estate prices to fully respond to rate changes. However, the firm sees this as an accelerated cycle that will be closer to 6 to 12 months. They attribute this to the more public awareness of policy. Households having significant leverage might have something to do with it too…

“ By mid-2023, we expect advanced economy policy rates to peak, as supply-chain bottlenecks ease and inflation falls back to near-target levels,” said Mark Unsworth, Associate Director at Oxford Economics. 

He adds, “that should gradually alleviate pressure on real estate pricing, but not before the slower-moving property market catches up with the reality of higher debt costs and a more attractive risk-free rate, prompting a double-digit valuation correction over 2022-2023.”

High Rates Will Make Real Estate Less Appealing To Investors

More directly—real estate will have reduced incentive due to leverage and returns. Higher financing costs reduce budget sizes, and therefore qualified demand. This not only removes demand, but it reduces the ability to easily absorb higher prices. It all adds up to less profit and more risk.

At the same time, fixed income returns have become more competitive. The firm points to government bonds, which now offer a similar yield as many real estate projects. Since government bonds are nearly risk free in many countries, there’s an opportunity to make more with less risk. In the medium term, small investors are likely to be deterred.

Unsworth doesn’t see all segments of global real estate doing poorly in this correction. Stretched residential and industrial real estate markets will see the largest correction. Once again, low yields and negative capital gains aren’t particularly attractive. This will divert capital into other areas.

Construction Costs Are Cooling, Which Will Help Supply 

Falling investor demand will present a supply incentive problem, but not for long. Unsworth notes that building costs are easing, and will moderate over the next year. “…we expect construction cost growth rates to normalize in 2023, allowing investors to reignite green renovations,” he explained.

Global real estate prices saw a massive boost as central banks tried to incentivize investment. Now that inflation is out of control, they need to pull it back—along with the incentives. The market is about to change very fast.