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With so many conflicting opinions circulating with regards to Brazil’s property market, it is often difficult to draw a clear cut conclusion – particularly as the sector is relatively young and, with no established sales index / registry.  Yet, whilst it is clear that demand for real estate is likely to remain particularly strong due to factors such as lower unemployment, a rising middle class and wide scale industry growth – the price movements in recent years have even got the most bullish investors questioning the realism.  Please see the latest arguments for and against the potential of the Brazilian real estate bubble bursting:

A Brazilian Property Crash – For

(1) Prices are increasing at an over-accelerated rate: according to research by Exame / Ibope, asking prices have risen by 24.7 percent in São Paulo in the last 12 months and prime valued property in regions such as the South Zone of Rio de Janeiro match those of luxury stock in Miami and New York.  The low income housing sector (where 90.3 percent of the country’s deficit is located) – despite the Minha Casa, Minha Vida (My House, My Life) subsidy initiative – remains in a bottleneck position throughout the country as prices have gone beyond the real time earning levels of the target market despite what remains a demand of a minimum of 6.9 million housing units (excluding the favelas).  Leasehold figures for commercial property are amongst the highest in the world, with Colliers pointing to the average price per metre square in Rio de Janeiro being US$ 85 per m² per month and US$ 75.60 per m² per month in São Paulo (compared to the per m² per month prices being US$ 94.20 in Tokyo, US$ 91.60 in Paris, US$ 89.50 in London, US$ 58.30 in New York and US$ 57.80 in Sydney) – as a result, many companies are looking to more peripheral regions for their business operations.

Nevertheless, evidence has appeared of an apparent slow down of these rapid, and debatably over-excelled, price rises – with the Brazilian Company of Patrimonial Studies pointing that between February and June 2011, for example, prices per metre square in São Paulo had risen by an average of 1.56 percent compared to a monthly average of 5.93 percent over the whole of 2010.  Celso Petrucci of the São Paulo Housing Syndicate illustrated in an interview with the Seu Bolso supplementary of the Estadão newspaper that there has been a 34 percent fall in sales in the region, stating: ´there is no more space for prices to rise like they did in 2010.´  An extended article written by Dr. João da Rocha Lima Jr of the University of São Paulo for the PINI Web magazine describes in detail how residential real estate prices in São Paulo (the largest internal market in Brazil) – at 14.4 percent (using the Fipe-zap measurement) – have increased at a considerably faster pace than compared to the costs of construction at 5.6 percent (using the Getúlio Vargas Foundation INCC index) over the first 6 months of 2011 – stating: ‘such data is showing that the price of residential housing is above its fair value’

(2) With the rapid increases in the level of home lending – which grew by 65 percent in 2010 – concerns have appeared with regards to the limited supply of wholesale finance available via the national savings and FGTS (the ‘guaranteed employment’) http://goo.gl/3tLQ fund.  Whilst there is a growing appearance of alternative finance mechanisms, such as Certificates of Real Estate Receivables, the mainstream banks  need to find other forms of capital to feed the rising demand and, with limited supply, it is debated that prices will continue to remain elevated as a result;

(3) The Brazilian buy to let strategy has shown signs of weaknesses – according to research conducted by William Eid Junior of the Getúlio Vargas Foundation (publicised in the Exame magazine), the rapid rises in prices have not corresponded proportionately with rental receipts meaning yields have dropped.  Using the FipeZAP measurement of asking prices (July 2011), Eid Junior demonstrates that a house or an apartment can be rented for an average of 0.57 percent of its value in São Paulo and 0.43 percent in Rio de Janeiro.  In the past, rents formed over 1 percent of the value and anything under 0.6 percent makes an investment for buy to let purposes unviable;

(4) Another popular investment strategy has been the purchase of small office spaces of between 40 and 200 metres squared in the major metropolitan regions.  The Exame magazine also spoke to João da Rocha Lima of the Polytechnic University of São Paulo, who believed that  there is going to be a massive influx of such property coming on to the Brazilian market up until 2013 and – whilst demand is undoubtedly going to be high – people’s expectations are reaching unrealistic levels which has meant that over-valued prices are being paid for such units;

(5) With a national interest rate that has increased from 8.75 to 12.25 percent within the last year in an attempt to stem the effects of an inflationary market, many Brazilians are taking advantage of what are competitive savings levels being offered by the banks.  William Eid Junior of the Getúlio Vargas Foundation (in the Exame magazine) stated: ‘if someone has R$ 1 million to invest, they can place it into savings and earn R$ 6,000 per month – or they can purchase a property and make R$ 3,000 to R$ 4,000 per month – but what would be the logic of running the risk of the latter at the present time?’

A Brazilian Property Crash – Against

(1) The rapid prices form part of a natural correction of a market that was deflated for over 20 years.  Research by JP Morgan showed that the average value of property in Brazil corresponds to 5.5 times the income level of families, compared to 11 times in both Singapore and China.  Alberto Azjental, professor from the Getúlio Vargas Foundation in the Brazil Journal newspaper stated that whilst prices are above the equilibrium level, they have not reached bubble like proportions – also commenting that prices will reach a more ´normalised´ trajectory and ´there will be not many major fatalities imminent with, at most, a few defaults.´

(2) Brazil’s economy is in a healthy position and, despite concerns over inflationary pressures, looks set to continue this pattern.  Eike Batista, the richest man in Brazil and executive president of the EBX group, recently stated to the BBC that he envisions at least 20 years of sustained growth.  It is likely that the housing market will broadly follow suit and the issues above are more likely to be in the short to medium term;

(3) Demand remains high and supply low – the Exame magazine referred to the ‘One World Offices’ development in Barra da Tijuca, Rio de Janeiro that saw the sale of 830 offices valued at R$ 220 million sold within 5 days after release.  Jones Lang LaSalle research has recently shown that in São Paulo (South America’s largest city based economy) the total area of office stock totals 2.6 million m² – in comparison to 22 million m² squared in New York, 16 million m² in Washington and 8.6 million m² in Boston.  The research also showed that any available real estate is purchased quickly with an average 6 percent vacancy rate across the high end commercial sector in the major cities of Brazil (30 percent is considered to be at equilibrium) and even with the increased supply coming on to the market in 2011 and 2012, the patterns are likely to remain broadly similar.  Issues related to the limited supply of land have forced up prices in order to achieve sufficient margins – particularly in the large metropolitan regions where stocks have become increasingly depleted.   Related to this, strict laws and zoning regulations that exist in regions such as São Paulo and Rio de Janeiro over the acquisition and licensing of land as well as their associated cost implications also ultimately means that subsequently price rises need to be applied.  Nevertheless despite these rises, according to specialists at Jones Lang La Salle (interviewed in the Exame magazine), there are few delinquencies – particularly in the commercial market where most contracts have ‘early termination’ clauses (subject to the leaseholder paying a pre-established fine);

(4) The Brazilian housing credit market remains low, forming an estimated 4 percent of GDP in compared to its Latin American counterparts – with Mexico possessing 11 percent and Chile with 8 percent.  Housing credit portfolios are also not highly geared – Brazil Finance & Real Estate (BFRE) pointed out in the Estadão newspaper that the average Brazilian mortgagor has borrowed 62 percent of the property’s value with the remainder 32 coming from his/her own savings.  The organisation also stated that financing periods average at 15 years; it is not possible to finance property on the base of its future value and the underwriting process used by all Brazilian home lenders is particularly rigorous;

(5) Exchange rates are painting a picture of overvalued prices – according to Fernando Fario of CBRE in the Exame magazine, many perceived comparisons of real estate prices between the US and Brazil, for example, do not take into account the large post crisis devaluation of the dollar.  It is also not a fair analysis when commentators compare Brazilian real estate prices with countries worst hit by the global recession due to the large drops in valuations that have been witnessed in recent years.