House prices in Portugal at risk of falling due to demand.

In an international context marked by geopolitical tensions in Ukraine and the Middle East, uncertainty about the duration of the European Central Bank's restrictive monetary policy and a worsening economic outlook, "the probability of a price correction in the residential real estate market tends to increase," warns Banco de Portugal (BdP). And all of this "increases the credit risk of the home loan portfolio." However, the limited supply of residential houses should mitigate the impact of lower demand on prices.

In its analysis of the main vulnerabilities for financial stability in Portugal, the Portuguese regulator pointed to the risk of "a price correction in the housing market driven by the realization of an uncertain macroeconomic environment" marked by rising interest rates and geopolitical instability, according to the November 2023 Financial Stability Report published on Wednesday. In addition, "the recent political uncertainty experienced by the country represents a new source of risk, even though it is mitigated by the government's expected approval of the draft national budget for 2024," it adds.

This downside risk to house prices is linked to weakening demand, which is already well visible in the country as house sales are declining: the number of transactions decreased in the first half of 2023, down 22% year-on-year (-10% in the second half of 2022); the average time to sell a property stabilized around 6 months in the first half of 2023 after the decline recorded in 2022; housing loans are declining: new home loan transactions (excluding conversions) declined by 20% in January-September 2023 compared to the same period last year. On the other hand, the demand for real estate in Portugal is supported by foreigners. "Portugal's geographical position and the conditions of security and stability that make it a desirable destination continue to support demand from non-resident and resident foreigners," emphasizes the regulator, headed by Mario Centeno.

Over the last decade, "an increase in the proportion of non-resident buyers has characterized the residential real estate market in Portugal." And in the first half of 2023, the share of buyers living outside the country in the residential real estate market increased by 2 percentage points compared to the same period in 2022 to 12.7% of transactions.

There are also those who continue to look for residential real estate in Portugal as an investment asset. Although "alternative savings investments have recently become more attractive in the face of financial market volatility and economic uncertainty, this asset remains relevant in terms of portfolio diversification," explains BdP. In addition, "higher inflation may contribute to demand for residential real estate as a means of preserving value," he adds.

The supply of new homes is limiting the impact of falling prices

What BdP also says is that "the limited supply of new homes and the lack of accumulated stock of affordable homes mitigates the impact on prices if demand falls".

In addition to the lack of supply, "construction costs have remained high, although they have fallen in recent months," so "they may continue to be reflected in the price of properties sold, particularly new buildings," he adds.

Therefore, constraints in the supply of new housing, a lack of accumulated stock of affordable homes and rising construction costs have contributed to the country's rising house prices. "The house price index in real terms continued to rise in Portugal until the second quarter of 2023, while in the euro area it has been falling since the first quarter of 2022," notes BdP. Data from the National Institute of Statistics shows that house prices in Portugal rose by 8.7% year-on-year.

In addition, "the development of the rental market follows the development of prices for residential real estate transactions. In the second quarter of 2023, the median price tag per square meter of new leases increased 11% year-over-year," the document said.