Residential

Key takeaways

1. In 2023, higher mortgage rates are likely to subdue activity in the housing market. This presents a significant challenge for first-time home buyers, as obtaining financing is difficult in the current economic climate.
2. The housing market is projected to experience a period of decreasing prices in correlation with a broader economic slowdown. However, stricter mortgage regulations will provide a buffer against distressed sales and mitigate excessive price declines.
3. The rental market is expected to remain robust in 2023 as rising interest rates impede the housing market. Occupancy rates will likely increase as more individuals opt for renting as a result of the flexibility it provides, particularly in an uncertain economic climate.
4. A persistent imbalance between supply and demand is expected to sustain rental growth throughout 2023. However, it is worth noting that this trend does not hold true in cities that have experienced an over-supply in recent years. 
5. Last year, the government implemented a temporary cap on residential rent increases for unregulated properties. As a result, rent adjustments for lease agreements following the NPI are capped at 4% in 2023. The impact will be less pronounced in the new year as inflation normalises.
   
   

Activity on the housing market to weaken further

The Danish housing market has undergone a period of volatility in recent years. In 2021, the market witnessed a record number of transactions. However, a rapid increase in financing costs and a heightened level of economic uncertainty resulted in a substantial decline in market activity during 2022. This led to the lowest number of transactions in eight years. Additionally, the market saw an influx of supply and longer sales times, with an increasing number of properties offered at discounted prices. Consequently, house prices declined by 6% throughout the year.

An uncertain economic outlook for 2023 is expected to bring some continued instability to the housing market in the coming year. Persistently high mortgage rates will continue to make it challenging for individuals to obtain financing for housing, and house prices have not yet decreased enough to compensate for the increased interest expenses. This effect is particularly pronounced for first-time buyers, as they tend to have less equity to provide as collateral.

Consequently, it is projected that the housing market will continue to experience a significant decline in activity and, subsequently, house prices. This is particularly the case in high-priced areas, such as owner-occupied apartments in major metropolitan areas where prices have seen the most substantial growth.

It is not anticipated that the housing market will experience a full-scale collapse due to several mitigating factors. Firstly, nominal income growth and high inflation will provide some support to house prices. Furthermore, Danish households are well-positioned and have utilised the low interest rates to reduce their debt, resulting in the lowest average loan-to-value ratio in recent history.

High interest rates offset decreasing house prices 

Despite a 6% decrease in house prices in 2022, purchasing a new home has not become more accessible for individuals. The sharp increase in interest rates has significantly elevated the costs associated with obtaining a mortgage. Consequently, the current decrease in house prices has not been sufficient to offset the impact of increased financing costs, resulting in an overall increase in the costs associated with buying a new home. 

The rising cost of living combined with decreasing affordability of home ownership have made renting a more viable option for many individuals. This trend is particularly pronounced in regions where property prices have increased significantly, such as Copenhagen. Additionally, the flexibility offered by renting, as opposed to the commitment of a long-term mortgage, is particularly desirable in an uncertain economic environment with the potential for declining property values. As a result, we anticipate a positive trend in the demand for rental units throughout 2023, as renting may be viewed as a more favourable option. 

The declining affordability is further reflected in the Nursing Affordability Index (see Figure 10), which shows the proportion of houses that a person employed as a nurse in Denmark can obtain financing for. Despite the decreasing house prices in 2022, the index illustrates that higher interest rates have in general made financing more expensive, thereby further diminishing the affordability. In 2022, a person working as a nurse was able to secure financing for approximately 10% of listings in Copenhagen, 14% in Aarhus, and 43% in Odense. 

Demand for rental units to remain robust as long as interest rates are elevated 

Increased construction costs and financing expenses have created less favourable conditions for new construction projects. As a result, construction activity is expected to decrease, impacting thus the supply of residential units. This is likely to result in a heightened demand for existing properties, particularly in urban areas such as the city of Copenhagen. 

It is important to note that the projected growth in the market may not be distributed evenly across regions in Denmark. Specifically, the market in Aarhus has experienced an oversupply in recent years, leading to an increase in vacancy rates throughout 2022. Furthermore, the pipeline for new developments in Aarhus remains high, indicating a continued elevated supply in the coming years. As a result, the outlook for rental growth in Aarhus has deteriorated. 

Pricing expected to adjust further 

In 2022, the residential sector remained the largest in terms of transaction volume in Denmark, despite a significant decline in the latter half of the year. This was in line with the rising interest rates, which led to repricing in the market, resulting in a 70bps expansion of the prime residential yield over a six-month period. 

The economic conditions may lead to a further expansion of residential yields as the yield spread decreased significantly in 2022. It is anticipated that any further repricing is likely to occur in the first half of the year.

Less significant impact of temporary rent cap 

In 2022, the significant rise in inflation greatly impacted the cost of living and diminished the purchasing power of households. As a result, there was a notable increase in the number of tenants unable to pay rent. 

The Danish government, therefore, implemented a temporary 4% cap on residential rent increases for unregulated properties to prevent disproportional rent indexations. This cap will be in effect for 2022 and 2023 and replaces the previous policy, which allowed for annual rent increases based on changes in the net price index. 

Commercial real estate has historically been a reliable form of inflation protection as rental income is often tied to a price index. The implementation of the temporary cap did reduce some of this protection. However, with a moderate inflation forecast for 2023, the impact of the temporary cap on rental increases is anticipated to be less significant. 

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TRENDS TO WATCH
Pricing disparity 
Pricing disparities between the listed and non-listed sectors can result in buying opportunities for well­-capitalised (equity) investors, mainly through direct property acquisitions or M&A activity. 

The retrofitting challenge 
A clear strategic, long-term opportunity lies in renovating the outdated stock. Recent market developments are accelerating this. The steep rise in energy costs makes a case for investing in green alternatives and energy savings incredibly compelling