The Icelandic Housing Market Still in Search of Equilibrium

The Icelandic Housing Market Still in search of equilibrium

Highlights of the Icelandic Residential Housing Market Report

Arion Research February 2017

1 The Icelandic residential housing market at glance

Mortgages account for 31% of bank lending

• Around two-thirds of Iceland‘s population lives in Greater Reykjavík (Capital region) which makes it by far the largest housing market. About 78% of the population lives in Reykjavík or in less than an hour drive from the capital. • There are 136 thousand residential houses (homes) in Iceland, which translates in to 2.4 persons per home • Around 65% of Greater Reykjavík‘s residential buildings are apartments while 35% are single-family dwellings. The distribution is nearly opposite in other regions. • Home ownership in Iceland is relatively high and was 78% in 2015. The common rental market is relatively small with only 12% of households paying market rate for rent. • Real estate is households‘ primary asset, contributing to 77% of their equity in 2015. • Household leverage is currently historically low and loan-to-value ratio was 37% in mid-2016 • Half of mortgages in Iceland are provided by banks, 12% by pension funds and 38% by The Housing Financing Fund. Net new mortgages originate roughly 50-50 from banks and pension funds.

2 Housing prices continued to rise in 2016

And at a faster pace than before – 15% YoY increase in Capital region (Greater Reykjavík)

Housing prices Housing prices in 2016 and in Januar 2017 - YOY changes - YOY changes 20% 20% 20% 18% 18% 16% 16% 16% 15% 14% 14% 14%

12% 12% 12% 11% 10% 10% 8% 8% 8% 8% 6% 6%

4% 4%

2% 2% 0% 0% 0% -1% -2% -2% 2011 2012 2013 2014 2015 2016

Capital region - multi family dwellings Capital region - single family dwellings Capital region - total Outside of Capital region CPI excl. housing

3 Sources: Statistics Iceland, Registers Iceland, Arion Research. Housing prices vary massively between towns and regions

Downtown Reykjavík and other areas in the Capital region lead the pack

Housing prices per square meter by regions Housing prices per square meter by towns - thousand ISK, multi family dwellings ion 2016 - thousand ISK, multi family dwellings in 2016 550 550 Capital region 500 500

450 450 Thousands 400 400

350 350 300 300 250 250 200 200 150 150 100 100 50 50 0 0

4 Source: Statistics Iceland Household debt has dropped significantly but might have reached the bottom

Household debt in Iceland as a proportion of disposable income is at a level not seen in almost two decades

Household debt/GDP Net new mortgages - bn. ISK., new lending less repayments 140% 60% 20

120% 55% 15

100% 10 50%

80% 5 45%

60% 0 40% 40% -5

35% 20%

-10

júl15 júl16

0% 30% júl14

jan14 jan15 jan16

sep16 sep14 sep15

nóv 14 nóv 15 nóv 16 nóv

maí 14maí 15maí 16maí

mar 16mar mar 15mar 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 14mar Banks Housing Financing Fund Household debt/GDP (l. axis) Loan-to-value ratio (r. axis) Pension Funds* Total net new mortgates

Sources: Central Bank of Iceland, The Housing Financing Fund, Arion 5 Research. *Change in total domestic lending to households used as a proxy Continued positive economic outlook is likely to push real estate prices hager

We forecast 5,1% GDP growth in 2017, 3,1% in 2018 and 2,2% in 2019

Increase in number of jobs Real wages, income and house prices -thousands -indices, 2010=100 10 160

8 150

Thousands 6 140

4 130

2 120

0 110

-2 100

-4 90

-6 80

-8 70

-10 60

2009 2001 2002 2003 2004 2005 2006 2007 2008 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 -12 2000 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Disposable income per capita Real wages Real house prices

6 Source: Statstics Iceland, Arion Bank Research Lack of housing investment is a strain on the market and has had a large contribution to rising house prices

We suspect that population will continue to outgrow housing supply this year and potentially in 2018

Increase in no. of residential housing units Number new homes needed until year-end 2019 - thousands - thousands, given population projections 6 12

5 10

8 3

2 6

1 4

0 2 -1

0 Capital region Other towns in South/Southwest Same no. of people per Less no. of people per Arion Research forecast Reykjanesbær (Keflavík) Akureyri home - same shortage* home - shortage Other decreases*

Sources: Statistics Iceland, Registers Iceland, Arion Research. *Compared 7 to number of people per home in 2015. We expect housing prices to continue to rise over the next three years

Increasing population, lack of housing investment and favorable economic outlook are the main drivers. Changes in the forecast‘s assumptions can have a large impact on the outcome Residential housing prices Residential housing prices - YoY change by quarters - YoY change 50% 16%

40% 14%

Forecast Forecast 30% 12%

20% 10%

10% 8%

0% 6%

-10% 4%

-20% 2%

-30% 0%

2002 2012 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2011 2013 2014 2015 2016 2017 2018 2019

Nominal prices Real prices Nominal prices Real prices

8 Sources: Statistics Iceland, Registers Iceland, Arion Research. Is the housing market overheated?

Not yet, but if our price forecast will materialise it probably will become overheated. In our forecast, housing prices will rise by 11% more than wages until 2019 Housing prices relative to fundamentals Housing prices relative to fundamentals - indices, 2000=100 - indices, 2000=100 170 0% 170 160 160 1% 150 150 140 140 ? 2% ? 130 130 120 3% 120 110 110 100 4% 100 90 90 5% 80 80 70 70 6% 60 60 50 7% 50 40 40 30 8% 30 2000 2002 2004 2006 2008 2010 2012 2014 2016* 2000 2002 2004 2006 2008 2010 2012 2014 2016* Residential housing prices Residential housing prices Construction costs Domestic expenditure per capita Rental prices Wages Unemployment rate (r. axis inversed) Disposable income

9 Sources: Statistics Iceland, Registers Iceland, Arion Research. Disclaimer

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