What Contributes to Housing Prices?
Updated: Jun 21, 2020
“Buy land. They ain't making any more of the stuff.” – Will Rogers
Investing in housing is always said to be a fantastic idea, as its value will always appreciate in the long run. This is evident by tracking the various price indices in Singapore.
For example, one of the most common methodologies of accumulating wealth in Singapore feeds into that impression. That is – once your HDB reaches its Minimum Occupation Period (MOP), sell it away to purchase a private property. This is because private properties tend to appreciate much faster as compared to HDB flats and home prices will always go up. However, how much of this statement holds true?
Although it is true in most cases, you should still always exercise caution, as this can be a costly mistake due to poor analysis.
In this article, we will examine the driving forces of Singapore’s Real Estate market, which are Rental Price and Supply and Demand. Followed by other measures which are placed in effect by government policies to ensure that the market will always remain competitive.
The Influence of Rental Pricing on Housing Prices
How do you come up with a rental price? It is important to understand how your rental value is derived from. There are many factors which can affect this, but one which you should consider strongly is “land potential”.
This “land potential” has to be derived with justification, for example, what makes the area in the Central Core Region (CCR) more valuable than the area in Outside Core Region (OCR) in Singapore? For some, they prioritize location as convenience is a valuable criterion. Most commercial offices are located within this region.
Translating the location factor into a monetary sum, that is the rental price. There are many other reasons that determine eventual rental pricing, such as the state of the property, facilities of the development and its surrounding amenities.
On a larger scale, rental prices are also shaped by indirect factors like wages. For example, expatriates coming into Singapore are usually given a housing allowance to find a suitable rental. This population causes a significant impact on the luxury home rental market as money outside Singapore will have an influence on our internal markets.
Understanding current rental pricing will provide a solid foundation on how property prices would be affected in the long run.
The Influence of Housing Supply on Housing Prices
Real Estate is a tangible product that will naturally encounter wear and tear. There is a need for it to be rejuvenated overtime to make it a safe place to live, work and play in. In the long run, all existing real estate developments will eventually be replaced by new constructions.
In Singapore specifically, due to our limited land area, careful restructuring of this resource is required. This is where en-bloc or government land sales (GLS) come in – this is where a plot of land is being bid for by the private industry. In the context of en-bloc scenarios, the asking price of the total plot is affected by how much each owner’s unit is currently valued at, which in turn correlates to the rental pricing of the unit. This was addressed in our previous point.
Upon purchase of the land by the developers, they will have to provide additional value to that piece of land. Besides obviously replacing older infrastructure with newer materials, developers bring an increase to land value is by:
1) Increasing the number of dwelling units
2) Setting a higher asking price of every individual unit (Which comes to the prospective owner’s dismay)
Option 1 happens more frequently, and if the developers are intending to have an increased build up in a particular area, they will have to pay a tax called a development charge.
For option 2, these can come in the form of boutique development, which is more prevalent in the CCR due to the high land costs. These developments have their own unique draw such as exclusivity.
These means of added value do not include the profits that the developers will be earning.
The Influence of Housing Demand on Housing Prices
Demand is connected to the output supply that these real estate developers and/or construction firms provide. In addition to replacing decaying stock, there is a need to produce an added surplus. This is to meet the present demand, which increases based on government policies.
The number of available units should be controlled strictly. If there are too many units available, there will be pressure in the market to reduce the cost of rentals in the open market. The low cost of rentals will lead to a poor capitalization rate (i.e. rental yield). Investors might be forced to sell their units at a discount.
Reduced real estate prices will result in real estate developers and the construction industry being more cautious in purchasing stock as there is a lower perceived demand due to the lower prices of units in the market. This results in a decrease in new units to be sold. Although this is not an absolute case, it reflects the general consensus of the market.
In the event where there are too few units supplied to a market, an opposite flow of events will occur.
How are Housing Prices Controlled?
Similar to other economic markets, too much or too little demand will be damaging. It is crucial for the government to have good control of Singapore’s real estate market, to ensure that demand is consistent so as to predictably control its growth.
This is the reason why there are plenty of measures being implemented over the years to cool the “hot” market. Such policies, for example, are the stamp duties, loan-to-valuation limits, ownership of properties by non-citizens, etc.
The Buyer Stamp Duty and Additional Buyer Stamp Duty are taxes that buyers will have to pay based on the count of their residential properties.
The Seller Stamp Duty is a tax which controls the rate in which properties are bought and sold within a three-year timeframe. This adds consistency to the overall housing demand but harms the motivations of the investors who are interested in flipping the property for a quick profit.
Flipping a property without additional work being done is overall harmful to the real estate market, as it causes prices to inflate. (In another article, I explain why working on turnkey projects to flip is a sound idea.)
Loan-to-valuation limits are linked to how much a property buyer can borrow based on their income. It is to prevent buyers’ over speculation by ensuring that they are able to meet their mortgage payments. This prevents fire sales, which are usually done by the banks in the event where its borrowers are unable to keep up with mortgage payments. Although fire sales are a fantastic way for property buyers to secure good deals, it might be harmful to the housing market as most units are sold around 10% below valuation.
Further, the ownership of Singapore properties by non-citizens is controlled to prevent the uncontrolled demand of Singapore real estate. A spike in foreign demand will cause a shock to housing prices.
Buying a property will require more than analyzing its current state of repair, design, and surrounding amenities. As a property investor, you should also keep track of what contributes to its value from its macroenvironment. Neglecting to do is risky because your home will likely be the most expensive purchase in your lifetime; which would bring about exorbitant losses if you are not careful.
Savvy investors, however, will take into consideration the current market forces which can affect their future property price.
To put things into context, the price of your property can have the ability to impact your life in other ways. Take, for example, realizing your paper gains on a good property investment can simply pay off your children’s university fees or for more lavish expenses, that sports car that you have always been eyeing on!
For those who are interested in the complete science behind this article, check out this link.
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