House prices tumble in Latvia
The Financial Mirror
07/08/2007

The end of the Baltics house price boom.

House prices have begun to fall in the Greater Riga area – a fall of 3.5% in the month of June 2007, following a fall 1% in May 2007, according to the leading Latvian real estate agent Latio. Prices have fallen “for the first time in history”, says Latio, which if not quite accurate, emphasizes the sense of shock.

These figures are consistent with recent warning signs. But they are all the more shocking in that year-on-year to Q1 2007, Latvia was Europe’s strongest performing housing market with house price rises of 44.23% during the year, according to Latvia’s Central Statistical Bureau.

The Global Property Guide believes these latest figures signal the end of the Great Baltic House Price Boom. Estonia started falling before Latvia, as is normal in the Baltics. We have long suggested that low rental returns in the Baltics mean that investors should be very cautious.

The decline of house prices also reflects several serious economic problems which have accumulated in Latvia: The current account deficit rose to 26.3% of GDP in 4Q 2006, from 15.2% a year earlier. Inflation was sharply up at 8.9% in April 2007, up from 6.5% last year, and 1.9% in 2002. Loans to residents grew 60.4% in the year to Q4 2006 (58.2% and 61.7% in the previous two years). Long-term interest rates are sharply up.

Worsening Ratings

In February Standard & Poor’s (S&P) put on negative watch its rating in Latvia’s long-term forex-denominated liabilities, and then on 17 May lowered the rating from A- to BBB+. This brings Latvia back to the rating it held in 2002.

The Lats, pegged to the Euro since January 1, 2005, came under pressure in February in response to the S&P revision, and the Bank of Latvia had to intervene. The Euribor interest rate on Euro variable rate loans jumped to 10% in June 2007, from 5% this January. Obviously, this rise in interest rates has had a substantial effect. So too have government attempts to cool the market through the banking system. So too have recent legislative changes, e.g., the imposition of a 25% tax on personal income from real estate sold within a year of purchase.

Painful adjustments needed

Till recently Latvia was Europe’s No1 house price performer. Now Latvia is in deflationary mode, with house prices falling and spending restrained.

Local players can be expected to adjust to the new realities, but with a delay, which can be expected to exaggerate the downturn. In June, 2007, 19 new housing projects were announced, after 15 projects in May, April, March, and January this year (February saw a spike in apartment project launches to 26). This means that by historical standards, a very large number of new apartment projects continues to come on to the market.

Lower residential returns signal stop!

The price of good quality used apartments in prime locations in Central Riga ranges from EUR2,900 to EUR 3,143 per square metre, according to the Global Property Guide (survey conducted 24 Nov 2006). Houses in similar locations are slightly cheaper, ranging from EUR 2,521 to EUR 2,700 per square metre.

These prices are high relative to Latvia’s GDP per capita, being on a par with Scandinavian countries (see table).

In Riga, city centre average prices rose from around EUR 1,264 per sq. m. in August 2004, to around EUR 3,011 at end-2006 – a 138% increase in just over two years.
Meanwhile, in Riga average monthly rents have risen, but not nearly so much, from around EUR 8.20 per sq. m. to around EUR 12.64 per sq. m. – an increase of around 54%. Riga rental income returns (average for all sizes) have therefore fallen over the past two years, from around 7.85% to an average of 5.04% (the figures in the table above represent not average yields, but yields for apartments of 120 sq. m.).

These yields are not unreasonable. However in the particular situation of Latvia, such moderate yields, in the context of a continued very strong stream of new apartment offerings, and a sharp uptick in local long-term price of money, would make us very cautious.

Unless the economic cycle has disappeared from economics, it would seem to us that a cyclical peak has approached, and that for the moment investors should pause.

Thanks for posting this article.

I wasn’t aware of the Latvian Government increasing interest rates to circa 10% and 5/10 minutes Googling this only through up the article you have posted above. (Sites I visited still had interest rates being circa 5%, but they are largely agent’s sites – they won’t in a hurry to update them. Perhaps one or two Goverment / Embassy sites will be more helpful - will try them later if have the time.)

As I see things, the Government has become concerned that fewer and fewer Latvians can get on / progress up the property ladder. They have taken steps to cool house prices (rather than have the house price correction that the article’s tone suggests.) I imagine if we check again in 6 months time we will see that prices don’t change by any more than 5 to 10% of what they are today.

I’d love to have seen the more detailed pieces of analysis from which this report was cobbled together. I feel that the strong rises Latvia has seen over the past 2 to 3 years has been primarily in the more central and desirable areas (where good quality character buildings and new builds respectively are found.) I am not inclined to believe that less desirable areas have seen rises equal to those areas. This in turn makes me sceptical as to the usefulness of average house prices to GDP type figures quoted. (Average house prices to income ratios for people living in different types of property would be more interesting. That would probably show where prices are relatively high and where they have scope to rise further.)

I invested in Estonia and Latvia last year via a fund. I can see that the outlook for the Latvian (or should I say Riga’s) property market isn’t as strong as it was this time last year and this article has certainly given me food for thought. Thanks for posting it.

Soup, you can get a lot of info on this at http://www.bank.lv/eng/main/all/

As the Lat is pegged to the Euro and if interest rates are 10% in Latvia maybe there is more money to be made depositing your euros currency risk free at 8/9% in Latvia rather than buying property there

Even better borrow in Euros at 5/6% and deposit in Latvia at 8/9%!

Just been chatting to friend in Estonia - the market there is going down the $hitter after a price bubble caused by BTL investors pricing locals out the Market.

Where next:

Bulgaria
Croatia
Romania

Spain is already a bloodbath.