Given that we have been away for a while we thought it would be a good idea for a round up session to see where we currently stand. We will cover, briefly, the following areas:
– First public default
– Court ruling
As we have noted before, supply is coming – the main source is completed new-builds, but also from the existing stock. The train, ie. construction that started in the past 3 years and is now completed, has already left the station and there’s nothing we can do about it. In our report (p.13) we presented some historical data on housing starts and completions. In 2016 and 2017, for example, the number of housing starts exceeded the number of completions by about 20k per year and longer-term average levels by about 30-40k units per year, almost exclusively driven by multi-family houses. This is over a third of the average number of transactions in a typical year in the housing market (ca 65k flats, 30k houses – can be estimated from booli data). Let us look closer at the magnitude of this boost in supply.
(As a parenthesis, the most reliable source for supply data seems to be www.booli.se. The following webpages use booli.se’s data:
http://www.bostadspriserna.nu – in Swedish
http://www.penates.se – in Swedish
https://husmask.se/home – available in English
There is also similar data on www.hemnet.se, but that is only available to members of the press.)
(Visible) Supply – what we can see in the market
According to Di.se the supply of co-ops in June was 17% higher than June 2017, for single-family homes the increase was 12%. The top line in the below graph shows the total number of co-ops for sale, the bottom one representing single-family houses. In June there were 18 505 co-ops for sale and 15 886 houses. This includes new-builds, but most of them are pre-sold and don’t hit the (visible) market. Instead, their effect is generally that some existing properties have to be sold to “make room”. However, some of these will be sold straight away, for whatever reason (profit/loss taking, buyer walking away etc.). It is evident that the levels in 2018, especially for flats, are elevated compared to 2016 and 2017 (perhaps excluding the last quarter of 2017, which is when prices started going down), although we are heading into the summer and supply should be reduced as sellers remove their ads due to vacation and reduced activity in general.
Shadow supply – supply that’s could be there but we don’t know for sure
According to data from Hemnet quoted in Privata Affarer the share of sold co-ops across Sweden has fallen to 68%, i.e. 32% of all ads that are removed from Hemnet are unsold. Hence, the expression “shadow supply” – these are objects that are waiting to be sold but are not formally being offered. Up until mid-June this number was 81% (of course, there is a seasonal pattern in this as well). However, during the first half of 2016 and 2017 the numbers where 93% and 92% respectively. The graph below shows this development clearly – it seems that the running difference with previous years is of the magnitude 10-20%.
Looking at Stockholm in particular, during the first half of 2016 93% of all co-ops were sold, in 2017 it was 92%. During the first half of 2018 that number plummeted to 75%.
Of course we can only speculate whether these co-ops will come to the market again or if the potential sellers have decided to not sell. However, given the function (or lack of function) of new production, where the potential buyer signs up circa 2 years before delivery while keeping their existing property, we think it’s fair to assume that some of these objects will reach the market again.
Let’s put some of these numbers together. If the typical turnover in the co-op market is 70k per year and the share of sold units goes from ~90 to 70% it means, all else equal, that 15k units are in added to the “shadow” supply every year. We suspect this number captures the excess supply of the market pretty well (it represents about half of the “excess construction” versus earlier years when construction was at a low base). Please note that this doesn’t mean that the overall market is over-supplied in number of units, but that ca 15,000 too many have been built and offered at the wrong price point. Also note that this number does not come from laws of physics, but merely serves as an estimate of the magnitude of the issue.
Turnover – going down as supply is going up
At the same time the number of transactions are decreasing which indicates that the market is not clearing perfectly inside the current bid/offer levels. The first graph shows the 34-day moving average the number of sold co-ops, which is has been around 5.5k. Assuming no new supply that means it would take about 115 days to clear the inventory of co-ops for sale.
For single family houses it’s about 3k transactions (per 35 days, below). With 16k units in the market it would take about 180 days to clear the inventory, assuming no new supply.
This is a seasonal effect, but the effect is exacerbated as the transaction speed is also slowing. The following graph shows the development for co-ops in Stockholm
The blue line shows the price per square meter on the left axis, the red dotted line shows number of days it takes to sell the object on the right axis. The below graph shows the data for single family houses in Stockholm, although prices seems to have stabilized, the number of days it takes to sell seems to be on an upward trend, both for co-ops and single family houses.
The first default – Axxonen
The interested reader has surely noticed the default of the small property developer Axxonen. This has not had any major repercussions, yet, however we see this as a canary in the coal mine, as it is not hard to imagine other small developers facing the same fate in the near future. As a (somewhat ironic) sign of the times, this company was funded by a crowdfunding platform where ca 300 retail investors invested a minimum of 50kSEK (USD5.5k). The total liability we can see is around 35mSEK (USD3.9m) while other sources report that Axxonen raised around 70mSEK in total. Axxonen offered to pay 11% annually to raise these funds, indicating the happy-go-lucky nature of the developers, as of now the recovery value is unclear (if any).
Axxonen bought one of their projects from Oscar Properties (OP), who will now resume responsibility for that project as Axxonen has defaulted. This will hardly have any major impact on OP as the consideration for this project was only around 125mSEK. It is worth noting that OP is just about staying afloat, the stock trading close to its recent low of SEK 21 (current share price ca SEK 24).
Of course there are plenty of similar projects and businesses, and we suspect they have yet to surface. The elephant in the room is, of course, the upcoming wall of bond maturities, in 2019 and 2020. If the market does not recover we have a hard time seeing investors being willing to lend to developers at low enough rates to maintain profitable businesses.
Court ruling – worst case scenario for developers
As you may recall we wrote a post a while back on a few (hypothetical) scenarios for the upcoming supply of new builds. Last week we got the first court ruling in one of these cases. Stockholms Tingsratt (the Stockholm District Court) ruled in favour of the buyer, essentially giving the buyer the right to walk away from a deal where delivery was delayed by 10 weeks (although, according to the ruling, 6 weeks would have sufficed to void the purchase). The developer has since appealed the ruling to Stockholms Hovratt, and it is unclear when the next court date is, but probably not until late August (Swedes love their vacation).
If the current ruling stands this would put us in the “worst” scenario according to our previous post, as plenty of projects are delayed by more than six weeks. Unfortunately for developers this would mean that the purchase agreement would not worth more than the paper it’s written on (plus the “sign-up” fee we discussed in the report). It opens the door for buyers to step away from delayed (and altered) deals.
However, as we noted in the previous post, the optimal solution for the buyer is often to team up with other buyers to minimize legal costs and renegotiate with the developer under maximum pressure. Whether this will play out on a larger scale is too early to tell but this court ruling certainly opens the door to a nasty scenario for the developers, and the system at large.
Supply is undoubtedly increasing, driven by both lower transaction volumes and increased number of dwellings for sale. In short the data indicates that that the market is not fully clearing at the current level of (asking) prices. We don’t see any reason why this should change in the short term, at this price level, given the (roughly constant) number of new builds coming to the market this year and next – in addition to the shadow inventory of unsold flats, some of which will come back. The increase in the time it takes to sell indicates that we will see more supply per time unit, all else equal. Furthermore, the first and second amortization requirements come into play as more and more people realize how limiting these restrictions are – we think this caps demand firmly at current levels, if not lower.
The shadow supply is hard to draw any conclusions from, the only thing we can say is that data seems to point to a higher shadow inventory compared to previous years, likely related to the pick-up in construction. If we assume that 10% is the normal level of unsold homes, the current level at 30% represents roughly 15k flats annually, which the seller would like to sell at current price but can’t. One would have to assume that the vast majority of these sales are long sales (i.e. the owner has somewhere else to live). This implies that if all new builds coming to market priced at current levels of asking prices, the excess construction would be 15k units per year. Of course, that is not entirely true, but we get a sense of the magnitude of the oversupply. Assuming a typical dwelling size of 100 sq m, at 50,000 per sq m, and a time to completion of 2 years, the value of the oversupply is about SEK 150bn. At that size it could definitely make a dent to society.
Also, the court ruling surprised us and opens up to a wide range of outcomes that we thought unlikely – we thought this would take longer time and that the buyer would be liable in some sense. We are watching this space closely. However, with summer upon us, we doubt that there will be any more information in the short term.
Overall SHM stays bearish on prices from here, as the supply-and-demand balance is (finally) pushing prices down towards fundamentally sound levels (which are still far far away – perhaps one for another post!). Beware that the Swedish housing short is no longer contrarian (perhaps, partly, thanks to us) – a lot of fundamental hedge funds can be found short in the shareholder registries. To us, shorting banks like Swedbank, that are closer to the highs than the lows, provide the best long-term hedge for anyone that feels over-invested in housing.
 Due to sales sometimes being reported before/after month end the share of sold co-ops can exceed 100% for a short period of time.