Q&A - London residential property market

This Q&A discusses the current state of London's residential property market in the wake of last year's EU referendum

One year on from the shock result of the EU Referendum, and with political uncertainty continuing, how is the UK economy faring?

UK economic growth has been surprisingly resilient to the political uncertainty stemming from the Brexit vote in 2016 and the recent general election. This is mainly due to buoyant consumer spending growth driven by a combination of low interest rates (the base rate has been below 1% since 2009) and recent positive real earnings growth. In effect, consumers have reduced their propensity to save and increased their borrowing (credit card debt grew at its fastest rate in 11 years in April (1)). Spending by tourists has also been boosted by the depreciation of the pound, which has made shopping in the UK cheaper for international buyers.

While this might look like good news on the surface, it underlines the UK economy's growing exposure to global credit conditions and exchange rates, something the Bank of England recently highlighted as a risk (2). Furthermore, UK households are relatively downbeat about their financial prospects for the next 12 months, primarily reflecting rising living costs (3).

What about London's residential property market?

The clearest impact of Brexit in the London residential market has been the reduction of transaction volumes by 50%. This decline began in Q2 2016 and has been fairly uniform across price bands (-46% for properties less than £1m and -46% for properties £1m or higher, between Q1 2016 and Q1 2017).

Prime residential prices in central London have been declining since 2014, driven initially by stamp duty hikes and latterly the introduction of a stamp duty surcharge for second home purchases in 2016. However, with prime transaction volumes stabilising (4) we think the price adjustment has largely run its course, and that price growth in prime central London could resume next year. Indeed, there is little evidence that London's reputation as a safe haven for foreign capital has been significantly damaged by political uncertainty.

International interest remains strong, particularly from Hong Kong, partly due to the effective price discount afforded by the depreciation of Sterling over the past year. Therefore, while the Brexit process entails risks for London, its enduring attractiveness as a cultural and economic hub and its low risk in a global context are maintaining inflows of capital seeking a safe home.

And what is the outlook for the mainstream residential market?

The mainstream residential market is driven more by domestic economic fundamentals and the underlying policy and mortgage market context. Political uncertainty has had a detrimental effect on transaction volumes and price growth. Activity indicators for London are particularly weak, with new buyer enquiries down and short-term price expectations firmly in negative territory (5). With affordability stretched to an historic high (median house prices at 30 times median incomes in some parts of London (6), price growth driven by historically low interest rates and government support (Help to Buy) has started to slow.

As Brexit negotiations unfold, the risks to London from new trading relationships and immigration will come into sharper focus. At the same time, consumer spending will likely remain hampered by weak real disposable income growth. These could combine to weaken consumer confidence and put downward pressure on residential prices, which we expect to fall this year.

Beyond this, we think London's economic and cultural draw and its constrained ability to deliver affordable housing will underpin residential price growth, albeit at a slower trend rate.

(1) www.ft.com
(2) Mark Carney, Governor of the Bank of England, Mansion House speech June 20th
(3) Markit UK Household Finance Index, June 19th
(4) Savills Prime London Residential Markets, April 2017
(5) RICS UK Residential Market Survey, April 2017
(6) ONS Housing Affordability Statistics

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