Streetwise Professor

October 21, 2008

Moscow Housing

Filed under: Economics,Russia — The Professor @ 8:36 pm

I don’t have systematic statistics at hand, but a handful of sources allow me to piece together that Moscow real estate prices rose 288 percent from 2000 to 2005, and 30 percent in the first half of this year. (Haven’t found a good source for 2006-2007, but what I have found suggests that the rate of appreciation was smaller during that period.) In Moscow, rental yields at the beginning of 2008 were around 5.2 percent (i.e., rent divided by price) and by this June had fallen to 5.03 percent; yields are somewhat higher (around 9 percent) in St. Petersburg. But given that inflation is running at around 15 percent, even the higher St. Petersburg real yields are substantially negative. This suggests that prices are capitalizing an expectation of substantial continued growth in future prices. Moscow real estate is the third most expensive in Europe behind only London and Monaco.

All of these statistics are suggestive of a bubble, and in fact a more extreme bubble than occurred in the US and UK. The latter two bubbles have burst, clearly and painfully. There is some anecdotal evidence of a housing slowdown in Moscow, and with the current banking situation there, those stories are credible, and the situation is likely to get worse. A key question (to which I do not know the answer) is how leveraged Moscow real estate is. My guess is that, especially for the premier properties, the leverage is quite high.

A combination of a bubble with high leverage with financial turmoil is quite dangerous–as we have all observed up close and personal recently. I don’t know enough about the Russian (especially Moscow) real estate situation to do anything more than say that the situation there seems suggestive of Japan circa the late-80s, and the US, UK, and some other markets (e.g., Spain) circa mid-2000s. That is hardly good company to be in.

I’d appreciate comments from anyone with more detailed knowledge of the Russian/Moscow housing markets, and housing finance there, as to whether (in your opinion) there is a danger of a substantial price decline there, and whether such a price decline would pose a broader systemic challenge.

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8 Comments »

  1. 1. Here’s a graph of Moscow prices from 1999 to today (http://www.irn.ru/gd/?class=all&type=1&period=0&step=week&grnum=1).

    2. Over leverage is certainly not a problem since the mortgage market is very undeveloped in Russia and household debt is extremely low. Speculative activity has been discouraged by a high tax (10%, IIRC) on properties sold within 3 years of buying them. So overall the bubble is certainly nowhere near US/UK/Spanish levels.

    3. My own guess is that prices will fall substantially (20-30%) for perhaps a year before recovery. Since consumption in Russia however depends little on drawing on home equity it will not “pose a broader systemic challenge”.

    Comment by Da Russophile — October 22, 2008 @ 12:53 am

  2. Correction – the tax is on properties REsold within 3 years of buying them.

    Comment by Da Russophile — October 22, 2008 @ 1:14 am

  3. A lack of mortgages and low household debt do not mean that housing prices are not overinflated. What is the value of any piece of property? One can say that “my house” or “my apartment” is worth X, but such numbers are meaningless until you find a buyer willing and capable of buying the house or apartment at an agreed upon value. A bubble is in large part fueled by collective hysteria whereby people fear that if they do not buy now, they will never get a chance to buy or they fear that if they do not buy now they will lose out on an opportunity to make a large sum of easy money. Such thinking can quickly push prices up and such thinking can also quickly push prices much lower as people rush to sell because they fear that they will lose if they do not sell now.

    What is the scenario in Moscow? Well, most people who own apartments as Da Russophile likes to point out do not have a mortgage. But, if they sell, what other options do they have? If they sell, and do not buy something else, they risk losing their valued Moscow “propiska.” As most high paying jobs tend to be concentrated in Moscow, they are unlikely to move if they live in the capital. As a consequence, you have individuals living in apartments on paper valued in the hundreds of thousands, but they can’t really sell even if they decided to cash in on the apartment’s alleged value, and as long as they think prices are going up they have no real motivation to sell either.

    Here are scenarios whereby housing prices quickly deflate in Moscow. The first is a general slowdown in the economy leaving few jobs. This would mean fewer people seeking to move to Moscow and more people moving out of Moscow. With economic difficulties, more people need cash, and the speculators who bought apartments to make money have to sell even if they have to pay some taxes. If they bought when prices were still quite low, they will figure that the profit they will make will still be worth the sale even if they do not get as much as they would have hoped for in the past. The push to sell before losing too much money quickly pushes prices downwards if it creates a panic. The popping of the American and other housing bubbles has demonstrated how quickly prices can fall when the process starts. You then add to these apartments the small numbers of apartments that are repossessed by banks. All told, you wouldn’t necessarily need large numbers of apartments being bought or sold on the market, simply enough to create a surplus of desperate owners seeking to sell to push prices down quite quickly.

    Comment by Michel — October 22, 2008 @ 5:07 pm

  4. This quote is from Russia Economy Watch. The post from which it was taken mysteriously disappeared, but I was able to retrieve this from my RSS feed: “The global financial turmoil will cause companies in Russia’s construction industry to ‘face difficulties,’ Kudrin said at a meeting of ministers from the Commonwealth of Independent States. `Growth of construction wasn’t supported by long-term demand for this real estate.’ Loan growth for construction companies was 80 percent last year, compared with a 64 percent increase in borrowing for real estate purchases, a sign that building is overdone, he said.”

    From this, it is clear that there is considerable leverage somewhere in the real estate chain. Certainly at the construction companies, but a 64 percent increase in borrowing for real estate purchases is pretty staggering in itself. I understand that the base is probably relatively small, but the increase suggests that leverage in the housing sector is more than de minimus.

    More generally, given the prices of real estate in Moscow (thanks, btw, DR, for the chart), I find it beyond hard to believe that new purchases (of new construction or purchases of existing properties) are not financed to a considerable degree by borrowing.

    Light and late posting tonite because I participated in a panel discussion on the financial crisis at the university. I have a bunch of things to comment on, but will probably have to parcel it out between now and Sunday given other demands on my time. And don’t worry, DR, I will get to your question re oil supply and demand curves.

    Comment by The Professor — October 22, 2008 @ 10:00 pm

  5. So, where is Da Russophile with his unbridled optimism?

    In the meantime, another sign that the Moscow housing/real estate market/bubble is at risk. According to Russian Business (rb.ru):

    Агентства недвижимости сворачивают бизнес из-за падения спроса на квартиры

    Ð’ Москве появилась первая жертва финансового кризиса среди риелторских компаний. С 1 декабря 2008 г. и “до лучших времен” сворачивает свою работу бюро недвижимости “Агент 002”. Сокращения затронули и другие компании. Причиной тому называется падение спроса на квартиры и последовавшее снижение цен на них. Конкуренты признают сложности, но следовать примеру пока не собираются.

    С 1 декабря 2008 г. бюро недвижимости “Агент 002” приостанавливает деятельность “до окончания финансового кризиса”, сообщают “Ведомости” со ссылкой на гендиректора компании Леонида Меньшикова. По его словам, за полгода количество покупателей квартир сократилось в несколько раз, и, скорее всего, в будущем их станет еще меньше.

    (Source: http://www.rb.ru//topstory/business/2008/10/21/083042.html)

    So you have a large real estate company closing shop because of the crisis. The reason they are closing shop? In the last year the number of buyers for apartments has decreased a few fold and it is expected that there will be even fewer buyers in the future.

    Do you hear that sound in the distance? Methinks it is the sound of a housing bubble popping in Moscow.

    Comment by Michel — October 23, 2008 @ 12:37 pm

  6. I think what Da Russophile meant was this: in Russia both household debt and mortgage debt is relatively low as a % of GDP and, as a result, the coming housing crunch will not result in a decline of households’ net worth, which means that the average Russian will reduce spending in response. More importantly, bad mortgages were not securitized and sold as AAA rated assets, thereby infecting the entire financial system. Indeed, many over-leveraged firms in Russia will and should fail. But this will not reverberate to the ‘real economy’ as much as in the US and EU. Also, assuming the collapse of housing prices will not lower average net worth, then such a reduction in prices actually benefits the average Russian.

    Comment by Jesse — October 26, 2008 @ 3:19 am

  7. i meant to say: the average Russian will NOT reduce spending in response

    Comment by Jesse — October 26, 2008 @ 3:20 am

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