Will the Interim Return of the Low-Interest Rate Regime Fire Up the Philippine PSE’s Property Index?

The main problem with the accumulation of debt at low rates is that it has the same effect as a real estate bubble. It disguises real liquidity and solvency risk, because borrowing costs are too good to be true. And they are not true—Daniel Lacalle 

 

In this short issue 

Will the Interim Return of the Low-Interest Rate Regime Fire Up the Philippine PSE’s Property Index? 

I. As Financial Conditions Substantially Eased, Global Markets Celebrate with a Melt-Up! 

II. In November, the PSEi 30 Surfed the Global Equity Boom Despite Hurdled with Low Liquidity  

III. The PSEi 30’s Changing Market Leadership: From Finance to the Property Sector? 

IV. Divergent Performance Among Developer Member Firms of the Property Index 

V. Since 2019, Changes in BSP Rates Immaterial to the Property Index Slump 

 

Will the Interim Return of the Low-Interest Rate Regime Fire Up the Philippine PSE’s Property Index? 

 

The Property Index has been a primary beneficiary of the recent bounce in the PSE brought about by expectations of financial easing.  Is this sustainable? 

I. As Financial Conditions Substantially Eased, Global Markets Celebrate with a Melt-Up! 

 

Inflationary biases unleashed! 

 

Massive short squeezes, unwinding of hedge positions, and yield-chasing trend-following crowds have sent a flurry of bids across global asset classes.  

 

Markets have interpreted global central banks—led by the US Federal Reserve—as signaling a dovish stance—which means forthcoming rate cuts!   

 

Moreover, the snowballing trend of global central bank easing has reinforced this sentiment.  

 

Under the spell of a "soft landing," the entranced global markets boomed as "Goldilocks economy meets the Santa Claus rally!" Amazing. 

 

Figure 1 

 

US financial conditions swung to an unprecedented easing last November as the US dollar sunk. (Figure 1, top two charts) 

Global bonds rallied most since the Great Financial Crisis! (Figure 1, second to the lowest graphs) 

 

Emerging Market funds reported their first inflows in four months.  (Figure 1, lowest diagram) 

 

US stocks nearing record highs! Bitcoin reached its highest level since May 2022! Gold prices soared to an all-time high! 

 

Risks have been thrown under the bus.   

 

What could go wrong? 

 

II. In November, the PSEi 30 Surfed the Global Equity Boom Despite Hurdled with Low Liquidity  

Figure 2 

 

Aside from the gigantic rally in Philippine Treasuries, the PSEi 30 reported its 3rd best November month-on-month showing in the last eight years.  (Figure 2, upper table) 

 

November's gains whittled down the YTD and YoY losses to 5.22% and 8.22%, respectively.  

 

Unfortunately, such advance emerged amidst a stunning drop in main board volume, which reached 2010 levels! (Figure 2, lower graph)  

 

Remarkably, cross-trades have padded up the thinning volume.  For instance, the December 2023 session opened with SPNEC special block sales, which accounted for 37% of the main board volume of Php 4.1 billion.  Alternatively, the total mainboard volume would have been only Php 2.6 billion without the SPNEC trade.  

 

Furthermore, the growing concentration of trading activities on heavyweights and the largest market cap issues expose the inherent build-up of risks. 

 

III. The PSEi 30’s Changing Market Leadership: From Finance to the Property Sector?

Figure 3 

 

Expectations of the BSP cuts have fueled a likely change in the complexion of the market leadership.   Rising rates have led to the outperformance of financials that have recently cushioned the PSEi 30 from a substantial decline.  (Figure 3, upper window) 

 

However, easing financial conditions has strengthened the performance of the two-PSEi 30 property firms.  The public has been impressed by the idea that low rates would reinvigorate the property bubble. 

 

The free float market pie of the two property members of the PSEi 30 has started to gain ground against the three banks and the PSEi 30 composite. (Figure 3, lower chart) 

 

IV. Divergent Performance Among Developer Member Firms of the Property Index 

Figure 4 

However, in the context of property developer members of the PSE Property Index, except for Double Dragon [PSE: DD], the focal point of most of the weekly rally has been on the two PSEi 30 issues: SM Prime [PSE: SMPH] and Ayala Land [PSE: ALI].  The rest of the developer members of the index showed modest monthly gains (Megaworld PSE: MEG & Robinsons Land PSE: RLC) while Filinvest Land [PSE: FLI] has lagged horribly in all categories. (Figure/Table 4 upper chart) 

 

Using the pretext of low rates, index managers have attempted to shift the market's attention towards the embattled property sector—the reason the PSEi 30 remained afloat at the 6,250 level.   

 

Yet, their price charts reveal the disparate paths. (Of course, past performance does not guarantee future results) (Figure 4, lower graph) 

 

Divergent and concentration activities among members of the property index have signified a consequence of the low-volume market. 

 

Let us see if the pumps would draw or attract foreign money. 

 

V. Since 2019, Changes in BSP Rates Immaterial to the Property Index Slump 

Figure 5 

 

Of course, the most critical question is:  Will low rates benefit the Property Index? 

 

If recent history should rhyme, the answer is negative.  

 

Since 2019, the bear market of the property index and its diminishing returns occurred despite historically low rates and the massive liquidity injections by the BSP. (Figure 5, top and middle windows) 

 

It only worsened during the latest inflation spike and the BSP rate hikes.  

 

Its falling share of the total PSE volume highlights the ordeal of the property index, which means the sector's liquidity drought has not been confined to the financial conditions but has diffused into their stocks. (Figure 5, lowest chart)  

 

We recently delved or wrote an exposition of this.  

 

Or, recent changes in BSP rates have had little influence on the financial and market entropy experienced by the sector.   

 

If my humble guess is correct, any interim boom may represent a dead cat's bounce, a bear market rally, or a bull trap. After all, no trend moves in a straight line.  

 

Sure, one can trade the momentum.   

 

But caveat emptor.  

Powered by Bank Credit Expansion, Philippine Real Estate Prices Surged in Q1 2023

It was still necessary to reassure those who required some tie, however tenuous, to reality. This process of reassurance eventually achieved the status of a profession. However, the time had come, as in all periods of speculation, when men sought not to be persuaded by the reality of things but to find excuses for escaping into the new world of fantasy—John Kenneth Galbraith 

 

In this issue 

Powered by Bank Credit Expansion, Philippine Real Estate Prices Surged in Q1 2023 

I. BSP’s Real Estate Prices Surged in Q1 2023: Prices in Areas Outside NCR Accelerated 

II. Horizontal Single Homes Powered Price Surge  

III. Construction Permits and Q1 2023 GDP Diverged from the Real Estate Price Index 

IV. A Comparison Between the RREPI and the BIS NCR Property Data 

V. The Structural Flaws of the RREPI, the Fragility of the Property Sector to Stagflation 

VI. The RREPI’s Deviation from the PSEi Embodies Speculative Mania  

 

Powered by Bank Credit Expansion, Philippine Real Estate Prices Surged in Q1 2023

 

Bank credit-driven Philippine real estate prices surged in Q1 2023.  Single homes in and out of the NCR signified the epicenter of manic speculation.  Stagflation magnifies the sector's fragility.  

I. BSP’s Real Estate Prices Surged in Q1 2023: Prices in Areas Outside NCR Accelerated 

 

The BSP reported a boom in property prices in Q1 2023.  Has this upsurge signified economic advancement? 

 

Philstar.com, July 28, 2023: Housing prices soared in the first quarter as the real estate sector reaped the benefits of the reopened Philippine economy, with expectations to rise further before the end of 2023. Data released by the Bangko Sentral ng Pilipinas on Friday showed the Residential Real Estate Price Index, a measure of the average change in the prices of various housing units, leaped 10.2% year-on-year in the first quarter. This was faster compared to the 5.7% rate recorded in the same period in 2021. On a quarterly basis, it rose at a slower pace of 1.4% compared to the final quarter of 2022.  

 

Let us start with the BSP's real estate index. 

 

The BSP's Residential Real Estate Index (RREPI) "is a measure of the average price change of the different types of residential properties in the country over time." 

 

It represents two classifications: regional and sectoral.  

 

There are two categories in the regional class: the National Capital Region (NCR) and Areas outside the NCR (AONCR). 

 

Meanwhile, four constituents represent the sectoral class: single/detached, duplex, townhouse, and condominium.   

Figure 1 

 

In Q1 2023, the national RREPI index surged by 10.2%, the highest rate since Q2 2020.  The NCR grew by 7.3%, while AONCR buoyed the index with its stellar 11.4% growth.  (Figure 1, topmost pane) 

 

Since the Q3 2022 acme of 17.5%, NCR's growth rate has slipped for two consecutive quarters.   

 

In contrast, since the Q2 2022 low, the property price inflation accelerated in the AONCR.  

  

It stands to reason that the surge in real estate prices has spread from the NCR to the AONCR.  

 

II. Horizontal Single Homes Powered Price Surge 

 

Which sector has led this growth surge?  

 

There seems to be a common denominator for both regions. 

 

The answer: single (attached/detached) houses and duplex homes reported stunning growth spikes of 26.2% and 70.8% in NCR and 15.6% and 19.4% in AONCR, respectively.  (Figure 1, middle graph) 

 

As such, the national data reported a 17% and 22% surge, with the single housing accelerating off the Q2 2022 trough.  But price inflation of duplexes moderated from 42.9% in Q4 2022. 

 

Townhouse and condominium units exhibited a paltry growth of 1.8% and 1.2%, respectively.  (Figure 1, lowest chart) 

 

Prices of condominium units deflated by .8% in NCR but grew by 6.6% in AONCR.  Meanwhile, townhouses surged 13.1% in NCR but shrank by 2.7% in AONCR.  

 

In a nutshell, single housing signified the most influential growth sector that drove residential real estate prices in Q1 2023.  

 

Broadly, most sectors indicate a demand spillover outside the Metropolis.  

 

Remote or hybrid work could have represented a crucial factor in this diffusion in consumer preference towards AONCR properties.  

 

And we might add that arbitrages of lower-priced properties in AONCR could have also accounted for this diffusion. 

 

III. Construction Permits and Q1 2023 GDP Diverged from the Real Estate Price Index 

 

Next, the possible circumstantial events that led to this expansion.  

 

Figure 2 

 

From the supply side, using construction permits as a proxy of upcoming supply, single housing permits in nominal units and floor areas have barely grown for most of 2022, possibly indicating a supply slack amidst an explosion of demand.  (Figure 2, topmost graph) 

 

On the other hand, apartment permits have been on an uptrend since Q2 2020. (Figure 2, middle window) 

 

In contrast, condominium permits have stagnated since the emergence of the pandemic. (Figure 3, lowest chart) 

 

By inference, property prices have guided the construction markets to pull back on condominiums and increase the supply of apartments. But the recent price surge signified a "demand shock" for single housing.   

 

As noted above, the increased investments in residential leasing via apartment buildings showcased another hotbed of speculation.   

 

Figure 3 

 

But has the GDP supported this thesis? 

 

The real estate sector reported a 3.8% "real" GDP in Q1 2023.  

 

Since the sector returned to posted positive growth from Q2 2021 to Q4 2022, Q1'23's GDP was way below the 7-quarter average of 6.5%.  

 

Between the two segments, the GDP of "ownership of dwelling" barely grew at 2% Q1, while the GDP of real estate activities slowed to 5.8%, the lowest since Q2 2021. (Figure 3, topmost window) 

 

The data indicates that the various real estate activities dwindled.  Real estate activities include but are not limited to brokering, buying and selling, appraisal, leasing, developing and subdividing, and other services.  

 

That said, the Q1 2023 GDP seems to support the tepid environment of the construction permit data.  Ironically, it didn't match the exuberance of the national RREPI index.   

 

It's either that rampant speculation diffused into specific sectors of the real estate industry, which the GDP didn't capture via expenditures, or that the price levels indicated by the RREPI index were far off from reality. 

 

IV. A Comparison Between the RREPI and the BIS NCR Property Data 

 

A comparison with several property benchmarks of the Bank for International Settlements (BIS) with the RREPI provides a clue. 

 

For instance, while RREPI data showed that NCR residential properties grew by 7.3%, Makati property prices, as a proxy to NCR, expanded by 4.4% in Q1. (Figure 3, middle window) 

 

Another BIS data reported that land prices in Makati also expanded by 7.1% over the same period. (Figure 3, lowest graph) 

 

In this context, the hunt for yields in residential horizontal projects must have spurred increased demand for land, signified by price inflation, possibly confirming the RREPI index.  

 

V. The Structural Flaws of the RREPI, the Fragility of the Property Sector to Stagflation 

 

With this in mind, the goal of RREPI was to monitor the emergence of property bubbles.   The problem with the index is that it assumes that price imbalances only occur in the residential or the housing sector.   

 

And for good measure, since the contemporary "integrated community structures" includes not only housing, but other aspects of property edifices such as commercial (office, malls, hotels, etc.), industrials, and government, an increase in demand for one sector should affect prices of the others. (Prudent Investor, May 2023)  

 

To put it more precisely, one of the Achilles' heels of the RREPI index is its exclusion of the other property sectors.  

 

And prices are not the only benchmark for resource misallocations.  The more significant factor is its financing by credit or monetary expansion relative to the economy. 

 

The BSP has limited bank credit allocation to this interest rate-sensitive sector to 20%.  But this threshold level has been expanded to 25% during the pandemic.  

 

In fact, the breach of this watermark level occurred in Q4 2019, even before the pandemic.  The pandemic served as a convenient pretext to expand it.   

 

Figure 4 

 

At any rate, it has been an uptrend in the % share of bank loans to the sector.   

 

Since Q4 2019, the universal-commercial (UC) bank loans as a share of total UC loans have topped 20%.  It reached an all-time high of 22% in Q1'22 and was up 20.86% in Q1'23.   

 

Paradoxically, as its share of the GDP continues to decline, its pie of the sector's bank loans continues to test fresh highs.  And the data discussed covers only supply-side (developers, management firms, etc.) borrowing.  (Figure 4, topmost graph) 

 

Fundamentally, as the sector generates lesser value added (in the context of the GDP), it absorbs an escalating amount of debt.  The diametrical path embodies magnified risks from intensifying malinvestments (overinvestments that led to supply gluts). 

 

Supply and demand side credit to the sector doesn't seem to support the bidding frenzy in the RREPI index.  Supply-side loans grew by 4.23%, while consumer loans RE expanded by 7.5% in Q1'23. (Figure 4, middle chart) 

 

However, UC's total loan growth echoed the uptrend of the RREPI index, which soared by 10.54% over the same period.  (Figure 4, lowest window)  

 

Many borrowers could have declared RE borrowings under different categories to dodge statutory constraints.  

 

Figure 5 

Despite recent improvements in Non-Performing Loans (NPL), mainly due to various relief measures implemented by the BSP to the banks, high inflation, elevated rates, and a slowing economy are likely to re-escalate delinquencies.  

 

The RE % share of the Total Loan Portfolio remained elevated in Q1 2023 or significantly higher than pre-pandemic levels. (Figure 5, topmost diagram) 

 

As it is, the property sector remains vulnerable to an economic and financial environment of elevated rates, high inflation, and a slowing economy—stagflation. 

 

VI. The RREPI’s Deviation from the PSEi Embodies Speculative Mania  

 

Not even the YoY change (returns) of the PSEi 30 has supported the RREPI index.  

 

Though the RREPI index has soared, the PSEi 30 has been southbound. (Figure 5, middle window) 

 

Or, there has been no confirmation by the PSEi 30 of the statistical boom in property prices.  

 

With a depressed % share of volume, the Property Index has lagged the PSE, possibly even indicating increased economic or financial risks. (Figure 5, lowest chart)   

 

The inconsistency between the PSE's Property Index and the RREPI has not been anomalous. That's because the former has been on a downtrend since 2019.  

 

All that said, the surging RREPI index represents a symptom of a credit-driven speculative mania than economic progress.  

 

The differences in the maturity of debt instruments or portfolios and the interest rate cap on credit cards translate to an intertemporal (or time variable) impact of higher rates.  

 

____ 

Prudent Investor, Philippine Real Estate: Mainstream Expert Worried Over Increasing Demand-Supply Gap; Q1 2023 Data of Top 5 Listed RE Firms and the Property Index, May 28, 2023; Substack, Blogger