The UK economy has long held its crown as one of the leading economic forces in the world to be reckoned with, arguably the leading force in Europe. Growing faster than Germany, France and the Eurozone for the 2years leading up to Covid-19, the UK’s unbounded prosperity certainly takes some beating.
Going from strength to strength and showing every indication of carrying this momentum for many more years, the UK property market has been the catalyst to all of this success! So much so, property investors from all around the world line the streets of the country to snap up the most lucrative property investments available. This is because of the rental market which has been a huge driver for the interest due to the greater returns and potential above anywhere else in Europe. To truly grasp how red-hot the rental market is in the UK, let’s look no further than the other superpower in Europe, Germany.
Understanding the model above, it is clear that there is a huge difference between the rental markets in the UK and Germany. Take a look at Berlin in Q1 2020, where the average rental yields for an apartment were just 2.40% while rental yields are expected to fall anywhere between 0 and -10basis points. In fact, any of the German cities measured by Catella are going to struggle in attracting interest from property investors anytime soon, with yields projected to fall even less than they already are.
Then as we move towards Manchester in the UK, one of the core cities in the Northern Powerhouse, rental yields are leaps and bounds ahead of the German capital, climbing to an impressive 4.25%. In a market such as today following the coronavirus crisis, investors of all markets are branching towards real estate in the search for stable returns without the volatility of stocks and shares. Manchester not only offers up some of the best rental yields in Europe, but rental prices are to remain stable at the time of recording. Following the economic aftermath of the pandemic and lockdown measures, economists and experts are widely expecting a shift in rental demand which is likely to boost rental prices.
The answer to this is somewhat multi-layered so we will do our best in explaining all of the contributors for the great disparities between the two European giants.
For a very long time, the German government have encouraged renting and continue to do so today (will get to this later), which is why home-ownership rates have always been stunningly poor. This all began at the end of World War 2, where almost 6.5 million out of the 16 million apartments that existed before the war had become inhabitable from being bombed during the conflict. This called for action from the German government, which responded by building affordable homes to provide the impoverished population with temporary housing. And since 1951, a resounding 30 million new homes have been built across East and West Germany, compared to 16 million in the UK.
Fast forward to the 1980’s in the UK, the infamous Margaret Thatcher era. Following the enforcement of the Housing Act 1980, a building boom was fuelled which ultimately laid the groundwork for home-ownership figures to rocket to a national high of 71% in 2003. Over this time, the UK joined most of Europe in the pleasures of a housing boom during the last decade.
Apart from Germany, where house prices had actually fallen since the mid-1990s, says the RICS European Housing Review 2011, an authoritative annual study of Europe's property markets. "With long-term falling house prices, it is unsurprising that there hasn't been a rush towards owner-occupation over the past decades, because of the potential capital losses from purchase," the report states.
Since 2003, the UK figures have been in steady decline and as of 2018, approximately 65.1% of people owned their own home. While this may seem high, keep in mind that the home-ownership figure in Germany is only 51.5%, the lowest in Europe.
Take a look at the home-ownership rates across Europe in2018:
At first glance, it might be a surprise to see the UK and Germany are at the bottom of the table, along with other European powers like Sweden, France and Denmark. Rest assured, more developed countries will generally have a lower home ownership rate compared to the frontier countries, such as Lithuania or Slovakia.
This is because the average cost of housing in less developed countries is considerably cheaper than that of the UK, Sweden andGermany. For example: The average transaction price per square meter in 2018for a new dwelling was more than three times higher in the UK compared to the likes of Poland and Hungary.
As mentioned before, the German government has expended a wealth of time and money into the rental market and continue to do so today. This is why as many as 56% of Germans live in rented accommodation and only 46% own a home or apartment. For this reason, the market is highly regulated to ensure tenants are completely protected. Here, landlords must give tenants at least six months’ notice if they want them to leave.
One of the main reasons for why rental yields are so low for property investors is because of the rent control (Mietpreisbremse) which drastically inhibits opportunity for growth. Introduced to Germany in 2015, the rental price brake was devised to protect tenants from disproportionately high housing costs. Instead, the price that landlords must charge is calculated by typical local rents limiting rents on new tenancies to 10% above existing rental benchmarks.
While voluntary, Mietpreisbremse applies in twelve federal states and comprises cities such as Berlin, Munich, Cologne, Frankfurt as well as many small/medium towns and municipalities. This would explain why people in Germany are typically less willing to spend on housing, with renters in Berlin, Cologne and Frankfurt only paying around 21% of their income on rent. Even in Munich, renters only pay around 25% of their income towards rent!
The rental price brake is widely scrutinised and often described as bureaucratic and ineffective because cities themselves decide whether or not they want to use it. Overall, it currently affects a total of313 municipalities, which equates to around 28% of the German population.However, if the governments answers to the demands of tenants’ protection associations for a reform of the German tenancy law, the market for rentals is set to become even more saturated than it already is.
Meanwhile in the UK, there is an element of rent control for social housing, however, this only makes up a tiny percentage of the UK’s catalogue of rental properties. The UK is effectively an unregulated market for landlords. Measuring the impact of this free-will to landlords proves to be difficult because it really varies from region to region as the price of living, services and goods differ in each one.
Starting in the capital city, renters in the private sector have been known to hand over more than 40% of their salary to their landlord!Travelling further afield to the North-west, tenants living in Manchester must pass a basic affordability check based on the proposed rent and their salary. In order to pass this, a tenant must have an annual gross salary of 30x the monthly rent which roughly equates to being able to spend 40% of their gross salary on rent. The willingness of UK tenants to pay more of their incomes towards homes is one of the biggest pulls for property investors from all corners of the world.
On the whole, the UK is still very much a seller’s market with tenants having to convince landlords to accept them rather than vice versa like in Germany.
As we have already established, the rental market heavily dominates the German housing market. In order to combat this, the CDU/CSU and SPD have recently agreed in their coalition pact to create more affordable housing to buy: a grand total of 1.5 million new apartments and houses are envisaged.
The graph above shows the total number of completed housing developments amongst some of Europe’s giants in 2018. Germany (DE) have been hard at work in balancing out the buying/rental markets in order to meet the rising housing demands. So much so, the European superpower recorded 5.7% more completed dwellings from the previous year, taking the total number from 284,000 to an eye-popping 300,000!
As you can see, Germanys astronomical number of completed developments is more than double the UK’s which completed just 149,500 dwellings. It is important to understand that if there are more houses being built, the only influence this is going to have is on potential buyers. Therefore, if more renters choose to buy then the rental market will shrink ultimately driving rental prices even lower.
With that in mind, just take a look at how many developments are still in the works:
In 2018, an average country commenced construction of 3.8 dwellings per 1,000 citizens. This means that Germany (DE) managed to start more than the average number of developments per 1,000 citizens, along withNetherlands, Belgium, Poland, Norway and France. Once again, the disparity between the UK and Germany is immense- from just 149,600 in the UK to an enormous 347,300 in Germany. Germany not only has much lower population density than the UK, but also has a much greater supply of high-quality housing stock, which means that tenants have a higher degree of choice.
The issue that Germany are facing is that despite clearly meeting the rising levels of demands for housing, the price of the new dwellings are very expensive compared to the UK. The table below represents the average transaction price of a new dwelling per square metre. Munich became the third most expensive city across Europe with an average price of 7,800 EUR/sq m, surpassing other large German cities like Berlin, Frankfurt, and Hamburg. Meanwhile, Manchester is almost half the price of any new dwelling within Germany’s main cities at just 2,641 EUR/sq m which makes for an incredibly enticing proposition for property investors!
There are two reasons for why purchasing a property in Germany is so much more difficult and expensive than in the UK: mortgages and taxes.
Unlike in Britain, the banking system in Germany is far more cautious to would-be homeowners hoping to be approved for a mortgage. For starters, there are much greater restrictions on loan-to-value ratios; with most mortgages only issued to people who can afford to pay 30-40% or substantial collateral of the property price up front.
German lenders are risk-averse in comparison to British lenders and are reluctant to provide a mortgage covering anything above 70% of the property’s market values. And considering how expensive properties in Germany are, it can take many, many years to save up enough money for a deposit alone.
These stringent lending requirements are done with the purpose of limiting the levels of housing finance available. Needless to say, this has proven effective with the vast majority of young workers being unable to afford the expensive fees as well as provide proof of good earnings over several years. So unless you are born from a wealthy and generous family, renting is the most affordable and realistic path for millions of young Germans. Unlike the UK, where first-time borrowers require just 5% deposit of the property’s value in order to be approved for a mortgage.
It is clear that restrictive lending is the main reason for the stability of the German property market. Taking into account that the proportion of mortgage debt to GDP in Germany is around half that of the UK. So stable in fact, that house prices in Germany have risen by just 50% since 1995. In comparison to the UK, where property investors have been able to soak up the most fantastic capital gains while house prices rocketed by 400%.
Germany is renowned all around the world for its notorious tax system. This vigorous tax regime is not particularly favourable to property owners which is another important factor for why more people choose to rent. For starters, Germany is one of the new countries where homeowners cannot deduct mortgage interest from taxes. It is also becoming increasingly likely that the Grunderwerbsteuer (property transfer tax) will soon rise to about 5% in many states. Along with Grundsteuer (annual land tax) which is also expected to follow the same path—currently sitting at around 1.3% of the value of single-residential properties. That’s just the taxes that Germans are concerned with, not to mention the agent/notary fees.
As the figure shows above, Germany is one of the cheapest countries to rent property across the whole of Europe. This is clear whenBerlin (7.3 EUR/sq m), Frankfurt (8.4 EUR/sq m), Hamburg (8.6 EUR/sq m) and Munich (10.5 EUR/sq m) all rank within the cheapest 20 cities to rent inEurope. This offers a good explanation for why rental yields are so low for investors in Germany in comparison to the UK.
Especially when you consider how impressively Manchester are performing at 14.8 EUR/sq m having already established how much cheaper it is to purchase a new dwelling within the Northern Powerhouse. Whereas, apartments purchased in Germany’s three largest cities will pay off after 28-30 years of lease for Berlin, 24-29 years for Hamburg, and 37-39 years for Munich. Mortgage rates will make that even longer!