Can the market cope with an interest-rate rise?

As expected, the rise in house prices we saw last autumn has continued into 2021. The effect of the interest-rate reduction, which has been the most important driver over the past 12 months, is now largely absorbed. So the question becomes: where do we go from here?

Published 12.05.2021 19:19

Last changed 02.06.2021 15:23

Great uncertainty prevails about when the first interest-rate increase will come, but a broad consensus holds that the base rate is going up from today’s level. Statistics Norway expects Norges Bank to raise the rate to 0.25 per cent in the second half of this year, followed by a gradual increase to 1.50 per cent by 31 December 2024. That would return it to the level at 1 January 2020.

The interest burden on households will obviously increase as the central bank lifts the base rate, but is likely to remain moderate by historical standards. However, the debt burden – which includes instalments – is record-high. The gap between the two has increased a great deal in recent years and is also a record.

Debt service ratio and interest burden for Norwegian households

Although the housing market is sensitive to interest rates, a rise in these will not automatically reduce house prices. On the last occasion when Norges Bank increased its base rate, by 100 basis points (bps) from September 2018 to October 2019, house prices rose by 4.2 per cent in Oslo and 2.4 per cent nationally.

Employment will improve in the time to come, which is positive when viewed in isolation. However, the housing market has been strong during the pandemic – in part because young people and the low-paid are strongly over-represented among those who have lost their job. These groups have a smaller presence in the housing market, and are unlikely to be crucial when this reverses.

A more important consideration is that the supply side will probably be tight for the foreseeable future. The number of secondhand homes for sale is still lower than usual. At the same time, few construction starts have occurred over the past year and sales of new homes have been relatively slow. This means it will take a long time before many units are being completed.

We and several others have conducted careful reviews of Oslo’s stock of building land. Although this theoretically provides space for 27 000 homes, the real reserve is probably closer to 6 000 when “commercially realisable” becomes a criterion. By comparison, some 3 100 homes have been completed annually over the past 10 years.

Many headlines have reported high migration from Oslo over the past year. Although the figures show higher-than-normal net departures, they are by no means frighteningly high. Net domestic migration from Oslo is not unusual from time to time, and certainly not during economic downturns.

Net domestic migration to Oslo (four quarters rolling)

Looking at the City of Oslo in isolation, immigration and the birth surplus have accounted for the entire growth in its population over the past 15 years. Net domestic migration is virtually zero. The reason is naturally population leakage from Oslo to municipalities in the former Akershus county. So looking at the figures for Oslo in isolation is not very informative. 

Population growth in Oslo by various components (cumulative 2005-20)

Net migration from Oslo is very likely to reverse once society reopens. Students and economic immigrants will probably flood back.

What does pricing of residential accommodation look like from an investor perspective? Calculating the implicit fall in yield using indices from Eiendom Norge for rents and house price developments gives us a fall of 42 bps since the first quarter of 2020. That lies between the declines seen for offices and logistics respectively. However, residential yield is the lowest of the three at an estimated 2.80 per cent.

Development in implicit residential yield

Construction costs
When we interviewed housing developers about construction costs in January, they reported that a m² of usable floor space (UFS) typically costs NOK 44 300 in a turnkey contract for a standard project in Oslo’s major Hovinbyen development area (including parking). If we include construction client costs, the figure rises to NOK 51 300/m² UFS.

Half the respondents in January expected construction costs to fall within 12 months. Only one anticipated a slight rise, while the rest believed they would remain unchanged. Many expected that sub-contractors would need to reduce their prices somewhat to fill their order books if the rate of construction starts declined.

However, raw material prices have risen significantly in recent months. According to Statistics Norway, they are up by 8.9 per cent. Steel and wood are among the products to have become substantially more expensive.

Housing development market
We have registered five transactions so far this year involving housing development properties. Avantor has acquired 75 per cent of Slemmestad Brygge. The local plan for Slemmestad allows up to 1 300 flats and 55 000 m² of commercial space.

Obos has bought Ensjøveien 8-10 from Hilleren Eiendom, and already owns the neighbouring property. It has also acquired an 0.9-hectare site near the train station in Ås together with Løvenskjold. The plan is to develop 160-180 homes.

Broadly speaking, few properties have been for sale in the market in recent quarters, and many developers would like to acquire more land.