The price of real estate market instability and how to reduce it

The real estate market cycle is characterized by a slow turnaround after a period of upward momentum, when the number of transactions first falls to zero due to buyer and seller expectations. Subsequently, amidst increasing caution, banks begin to tighten lending conditions: raising interest rates, requiring additional collateral, and initiating forced sales. The wave of forced sales then aligns buyer and seller expectations again, usually leading to a restart of the real estate market cycle at significantly lower price levels. The cost of this instability is always borne by the population, the least informed and least prepared group of investors. Therefore, reducing real estate market volatility is a national interest and a regulatory task.

Approximately 50% of household savings are held in real estate, amounting to around 40-50 billion HUF. Supporting investments in PV-EV-PW, as presented in my previous article, can contribute to making energy supply competitive and stable, thus protecting real estate assets and household wealth. A stable real estate market also supports the security of approximately 10,000 billion HUF in mortgages. Since the Swiss franc lending, the rules of the central bank have almost entirely ruled out foreign currency borrowing for the public. However, non-residential real estate (office, warehouse, retail) is typically financed with EURO loans and collects EURO rental fees. Nonetheless, at a macro level, this still carries HUF/EURO exchange rate risk, the reduction of which would contribute to the overall stability of the real estate market.

Even in fundamentally stable real estate markets, volatility can arise during international economic crises when temporary transaction scarcity occurs due to divergence in buyer and seller expectations. In times of transaction scarcity, annual revaluation of mortgages becomes mandatory. During these evaluations, appraisers must consider 1-2 actual, "controlled" forced transactions, which, through "marked to market" GAAP requirements, devalue both owners' and banks' mortgage collateral.

Annual revaluations reprice the entire market, meaning that the valuation of properties, mortgages, and bank collateral worth billions of Euros can be forced through relatively small transactions. This is because appraisers heavily weigh recent transaction prices in determining value, and market making for properties is extremely costly due to taxes. Lowering the costs of market making can be achieved by making property sales more favorable for domestic investors and increasing exemptions for taxes tied to sales within 2 years, as it is in everyone's interest to have genuine (non-forced) pricing of market transactions.

Due to transaction costs, only major international corporations are capable of manipulating the market, as they can establish interests in both real estate and the markets influenced by real estate. It is easily understandable that due to the repricing of properties, real estate investment and banking and financial companies active in the real estate market also see their share prices adjusted. This enables massive financial leveraging and speculation.

Annual valuations primarily rely on market prices, hence it's crucial to ensure that the real estate market, stabilized by household investors, cannot be artificially manipulated.

One possibility for achieving this is the efficient channeling of domestic savings towards REITs (Real Estate Investment Trusts) on the stock exchange, allowing them to perform the role of "market-makers" with their discounted tax positions. REITs represent a crisis-resistant form of real estate ownership and are accessible to small investors as well. Another possibility within annual revaluations is considering a 3-5 year average value change effect, i.e., smoothing the value change over a period of 3-5 years. This would mitigate the impact on bank balances both during appreciation cycles and downturns. It would eliminate the formation of bubbles during rising prices and the forced sales during downward cycles, which shrink bank mortgage collaterals, lending, real estate values, thus causing extraordinary loss of wealth for society and savers.

The third possibility for strengthening stability lies in increasing market transparency. By introducing a "disclosure act" that mandates the publication of basic data on every real estate transaction as part of regular financial reports, transparency would be enhanced. Of course, business confidentiality would be ensured so that this data could only be disclosed in aggregated form, with regional identification by postal code and aggregation.

All of this would ensure a level of transparency in real estate markets where banks and investors would require less provisioning. Increased transparency leads to reduced risks, and reduced risks result in lower transaction costs. The pricing advantage of Vienna-Prague-Bratislava properties over Budapest could disappear. Everyone benefits. The capitals of the Carpathian Basin, along with Belgrade, Zagreb, and Ljubljana, would move towards unified real estate evaluation and pricing. Just as the energy market and infrastructure intertwine, so would the real estate market.

In summary:

The elimination of real estate market risks (price, cyclicality, GAAP accounting, "marked to market" valuation rules, secrecy) is impossible, but reducing them is a common interest of all domestic real estate owners. The MNB (Hungarian National Bank) has almost entirely ruled out EUR (formerly CHF)/HUF risk from household lending. However, the non-residential real estate market (office, warehouse, factory, hotel, etc.) is largely financed in EUR, and consequently, its rental fees are linked to EUR. This relieves real estate owners of EURO/HUF risk, but it's evident that the risk hasn't disappeared; it has simply shifted to the balance sheets of tenants. This risk could be eliminated by making competitive, long-term HUF financing available on the market and linking incentives (tax, duty) to HUF financing. The real estate market cycle cannot be eliminated, but the "boom-bust" effect can be mitigated by averaging value changes over 3-5 years in accounting records on both the owners' and creditors' balance sheets. Reducing transaction costs (tax, fee, and duty) for HUF-financed transactions among domestic owners, whether directly or indirectly through REITs, would allow them to perform the "market-maker" role among the largest portfolios. This would exclude external manipulation of the market according to RICS rules. The general release of higher-quality aggregated real estate transaction data would make the entire real estate asset inventory more transparent. Over time, increased transparency would eliminate the evaluation differences between Vienna, Bratislava, Prague, and Budapest, and with rule harmonization, the real estate market, energy infrastructure, and logistics infrastructure would unify throughout the entire Carpathian Basin.

Household savers' presence in the real estate and PV-EV-PW markets stabilizes these markets because family wealth management thinks in generations, not political or management cycles. However, this requires long-term predictable rules and governmental cooperation, just as seen in the treasury bond financing of the budget. This practice needs to be further developed and expanded over time. The strengthening domestic middle class, as the most important saver, can gain and maintain financial trust through such governmental steps.

The above has been translated from Hungarian to English with the use of AI.