Despite many of the leading agencies and developers already reporting drops in 2012 sales volumes, it is arguably still premature to affirm that the Brazilian house price crash is well underway considering the convoluted and inefficient data collection methodologies used to measure the market.  Nevertheless, there continues to remain some who are adamant that no such event is occurring nor will happen in the foreseeable future.  One of them is Claudio Bernandes, civil engineer and president of the São Paulo Housing Union (Secovi-SP) whose comments made in the Folha newspaper were compiled on the Capital Social site besides the contrasting views of William Eid Júnior, finance professor at the Getúlio Vargas Foundation (translated below):

Claudio Bernardes: There is no housing bubble in Brazil. The structural conditions of the country’s property market are very different to those that existed in the United States when the crisis broke in 2007. For a housing bubble to exist, prices need to be artificially inflated, which is not happening in our market.  It is important to understand the facts in order to be able to compare and draw the correct conclusions. The U.S. economic crisis originated from the so-called “subprime” lending mechanisms whereby home buyers refinanced their mortgages – backed by unrealistic market values.  The high leverage, based on the “paper” issued against over-priced real estate, led to the system’s collapse. What came after is well known: the world economy suffered a blow.  Recently, we were with representatives of the major U.S. financial groups who revealed some of the details of this disastrous situation.  With funding for purchase corresponding to 100% of the total open market value, homes were refinanced at 100%, and sometimes more.  High risk operations of this sort are not practiced here in Brazil where the scenario is quite different. The consistent growth of real estate can be attributed to a number of specific facts such as reduced interest rates, wider purchasing power ability and the expansion of the housing finance sector after what was a lag of almost 20 years.  These positive factors are owed to a new framework of guarantees to buyers, property developers and financiers.

William Eid Júnior: For some time we have seen an intense discussion about the existence of a housing bubble in Brazil, particularly in São Paulo.  Most people think it does not exist, which is easy to understand.  The media, when talking about any given topic, often approach the so-called “experts” – for example, if you are looking for advice on the stocks and shares market, a broker is spoken to.  Similarly, an article on real estate will speak directly to a developer or other specialist.  However, the problem is that these experts are usually involved on the “seller side” of the process and cannot review the facts in a neutral way.  A journalist friend always says to me that it’s always better to publish positive news such as a rising stock or real estate related factor – whether it is true or not does not matter.  Remember the author is just a public informer and does not deal with real estate, so great care needs to be taken. That said, let’s think about what causes a housing bubble: it happens by excess demand – i.e. a lot of people wanting to buy real estate. But just increasing the number of buyers does not lead to a bubble. If there are rising incomes or populations, then this demand can be absorbed and the market would be stable.  Is this what has happened in São Paulo?  The city’s population over the last ten years has increased by just over 10% (indeed, there was a decrease from 2010 to 2011). The national per capita income from 2005 to 2011 increased by 20%. During this period, the cost of construction – the INCC [Índice Nacional de Custo da Construção / National Index of Construction Costs] – rose by 35%.  Therefore, using this data, there is nothing to justify such a large increase in house prices – which have risen by 132% since 2008 (according to the FipeZap Index).

Claudio Bernardes: Brazilians, after many years staying clear of the real estate sector, “went shopping” and realised the dream of home ownership, made possible by these basic conditions. The market then endeavoured to achieve an adequate balance between supply and demand.  Production resumed, impacting the economic growth of the country including bringing employment at scale.  Financial agents, who previously did not have housing credit as a strategic part of their business, developed more of an interest.  Yet none of this resulted in relaxation of the requirements for loans.  In fact, 100% financed units are still rare.   On average, housing finance accounts for 60% of property value. The detailed monitoring procedures when granting credit, which may even be exaggerated, bring tremendous bureaucracy – although there have been improvements.  The number of documents required has fallen from 52 to 14, but nevertheless remain high – largely due to the lack of integration between the various government agencies.

William Junior Eid: Besides the increase in house prices, the gap in rents is also a very clear indicator of the real estate bubble. An investor expects a monthly rent of somewhere around 0.6% or 0.7% of property value. An apartment valued at R$ 1 million must therefore have a rent of around R$ 6,000 or R$ 7,000 – if not, it is better to invest in something else. The FipeZap index indicates that from 2008 until now rents have risen 70.5%.  Considering this, house prices have risen 90% more than the rent. What was the cause of the price increase?  The growth in credit: real estate loans in 2011 were 500% higher than in 2005. Is this sustainable? No – and it’s hard to see how credit can continue expanding the way it is. Besides being a utopian environment, there are several negative impacts on monetary policy – particularly inflation.

Claudio Bernardes: Real estate registries in Brazil are not yet fully computerised – unlike the banks that have invested heavily in technology. Moreover, we do not have a culture of mortgage refinancing (further secured loans used against property’s equity).  Brazilians generally want to pay off the debt immediately and have the deed to the property so it can be used as the family home and children’s inheritance can be assured.  In the current phase of our economy, there is still room for significant increases in real estate, but there is no risk of falling prices.

William Eid Junior: The problem is that with biased information provided by vendors, people come to believe that this time will be different and that prices will keep rising.  But one must wonder: can prices keep rising if incomes are not proportionately moving in the same direction?  How can Brazil already have real estate prices higher than those of developed countries?   The higher construction costs of property do not justify these increases. One last point: it is likely that the price drop will be smooth, because, unlike other real estate bubbles, (such as in Japan, Dubai, Ireland, England and USA) the banking system here is not as fragile.  But the worst thing to do at the current time is to buy real estate in Brazil.

Ruban Selvanayagam www.brazilinvestmentguide.com