Ignacio de la Torre. Professor. IE Business School
30 November 2015
The behavior of house prices depends on the type of house, its location, and size… but right now property prices in Spain and elsewhere are generally on the rise, and are likely to continue to climb over the next few years.
Winston Churchill once said “I only believe in statistics that I doctored myself.” When looking at figures on real estate prices, the variation in data is surprising, and could be used to confirm two totally contradictory realities. It’s only human to fall into the “cognitive bias” trap of assimilating only those figures that serve to further one’s own self-fulfilling prophecy. It’s perfectly possible to find two people who vehemently defend opposing views of the same reality based on contradictory data.
Part of the confusion lies in the fact that that the price per square meter of houses can vary greatly, depending on the location and size of the house in question (larger houses tend to be cheaper in terms of price per square meter, and vice versa). Let’s suppose, for example, that in Spain only two houses measuring 100m2 are sold in a given year. One is a three-bedroomed flat in the Salamanca district of Madrid, sold, at let’s say, €4,000 per square meter, and the other in the provincial town of Puertollano, at €1,500 per square meter. The following year, three houses are sold, the same house in Madrid for the same price (€4,000 per m2), while the other two houses are sold in Puertollano, both at the same price per square meter for the area (€1,500). The reality of this situation is that house prices have neither risen nor fallen. Nevertheless, many statistics will show a fall in house prices in Spain of 15% (based on an average price of the three operations, instead of two as per the first example) - and that’s without introducing differences in size…
In order to eliminate this apparent paradox, at the end of the 1980s in the US the Case Schiller method was developed, which sought to protect statistics from these two factors. In order to achieve this, the prices of house sales involving homes with the same number of bedrooms in 20 cities across the US were used as controls to ensure that only the price of houses of similar size and in the same city were compared. The result of this effort was the “SP Case Schiller” indicator of house prices in the US, which is by far the most widely used in North America. According to the latest figures published using this method, house prices in the US have gone up by 5.1%.
Unfortunately the quality of statistics is not quite as high in many other countries. When all is said and done, we know that house prices are rising on average by 1% in the Eurozone, with German house prices rising by 3.6%, while they’re falling by 3% in China, and going up by 5.6% in the UK.
In Spain, there are plentiful statistics for house prices. Hence, there are house price indicators issued by private sector companies (Tinsa, Fotocasa index, etc.), and public statistics. The most widely used public sector index is that of Spain’s National Institute for Statistics (INE), which is drawn up using data provided by the Association of Notaries based on house sales made using notaries (which applies to practically 100% of house sales in Spain). Then there is the statistic of the ratable value of the house, published by Spain’s Ministry of Development, using data supplied by Associations of Registrars, based on the registration of house ownership in over 1,100 property registers (which tends to take place around 45 days after the house sale is formalized by a public notary). It could be deduced that the first of these indicators (INE) is closer to reality than the second (Ministry for Development) given that the Ministry for Development has to wait a month and a half longer for its figures. INE shows us that at the end of second quarter of this year, the prices of new houses in Spain were rising by 4% on a year-over-year basis, with new-builds rising at 5%, while second-hand house prices were climbing at a rate of 3%. The rate of increase has risen since the first quarter, during which houses went up by just under 1.5%. The more tardy of the indicators (Ministry for Development) states that house prices went up in the second quarter by 1.2% on a year-over-year basis (and hardly at all during the first quarter), which is closer to the figures published by INE for the first quarter, which makes sense given the time lapse involved. Mind you, these statistics are skewed in the same way the example of house prices in different locations in the first paragraph is, with the added complication brought by different sizes.
In Spain we also have access to a house price index produced using the Case Schiller method (separating houses according to location and size), which, therefore, offers an extraordinary level of quality. It is the Repeated House Price Index, compiled each quarter by Spain’s Association of Registrars in collaboration with a team of researchers from the University of Zaragoza. (*) The conclusion of the report pertaining to the second quarter of this year (**) is that house prices in Spain are now rising at a year-over-year rate of 5.1% (the rate of growth for the first quarter was 2.6%).
From these data we can reach two important conclusion. First, that according to the Bank of Spain, if the rise in house prices is added to the theoretical profitability of renting out a house, a house let now provides an annual return of 8.6%, which beats bonds and shares hands down. Second, house prices in Spain are now going up at the second fastest rate of all large countries in the western world, beaten only by those of the UK, and at the same as those in the US (also 5.1%).
Given that the starting point in the case of Spain is very low (a house here costs around €1,500 per square meter, which is 37% less than when house prices were at their peak), that interest rates are lower, that employment levels are improving, and there is more money available for mortgages, the conclusion is that prices will continue to rise over the next few years.