The number of cranes on the skyline can be a clear sign of a country’s economic vitality, and the Kirchberg business district in Luxembourg is bristling with them. Yet look closely and you will see that some lie still, belying a real estate sector that is not dynamic but dormant – mired in a downturn with implications for the broader economy.
After years of interest rates at close to zero, the European Central Bank (ECB) rapidly hiked rates by 4.5 percentage points from July 2022 to September 2023. As in the rest of Europe, higher financing costs have taken the heat out of Luxembourg real estate. Home prices have fallen, along with commercial property values, especially offices. Residential prices were down 13.6% in the 12 months to the third quarter of 2023, according to data from Eurostat.
Yet there are signs that the market might bottom out in 2024, according to experts attending Quintet Private Bank’s Real Estate: Towards a new direction panel debate, held on 1 February 2024. With inflation retreating from its peak following the pandemic and Russia’s invasion of Ukraine, the ECB is widely expected to start reducing rates this year in a move that should support real estate prices. Equally significantly, Luxembourg’s new coalition government, formed in November 2023, has moved quickly to introduce a package of measures designed to revive the housing market.
“We have already seen a rebound in listed property markets following the earlier correction,” remarked Nicolas Sopel, Quintet’s Head of Macro Research & Chief Strategist, Luxembourg. “Physical properties may continue to face downward pressure in the short term, but expected lower interest rates should ease financial constraints and provide a tailwind for the sector.”
The combination of lower interest rates and business-friendly policies may well allow Luxembourg’s property prices to stabilize later in 2024 before activity revives, possibly in a way that starts to tackle problems of affordability. This could lead to opportunities for investors, according to the expert speakers. In the longer term, the government package could also help to provide more affordable accommodation, benefiting the economy and society as a whole.
Luxembourg’s real estate correction follows more than 10 good years when low financing costs and high demand from occupiers continually fueled higher values. But then came the 2020 spike in inflation caused initially by the pandemic, disrupting supply chains and leading central banks to inject emergency monetary stimulus to support economies. This was compounded by Russia’s 2022 invasion of Ukraine. To choke off inflation, central banks quickly lifted interest rates and the music stopped.
Striking a reassuring tone during the debate, Sven Rein, Senior Partner at PANDOO Management, a fund administrator, explained to the audience that the current downturn bears little resemblance to the 2008 global financial crisis. Unlike in 2008, he said, the real estate sector is not today overleveraged. Instead, it is simply “out of balance” – in other words, buyers and sellers have widely differing price expectations. What’s more, real estate investment managers with surplus cash are not investing because they believe prices will fall further.
“I don’t have a crystal ball, but I would say we need at least six months to bottom out the situation before capital will be invested and the market starts to go up again,” noted Rein. He added that the likelihood that the US Federal Reserve would cut rates more slowly than markets previously expected would delay, but not derail, Luxembourg real estate’s recovery.
Describing the impact of higher interest rates on a home buyer, Martine Gerber-Lemaire, Head of the Real Estate Practice at Dentons Luxembourg, said that someone who might previously have bought a 120m2 flat could now only afford an 80m2 property for the same amount of borrowing. That partly explains why home prices have fallen sharply, she said, adding that this occurred against a backdrop of a residential property shortage. “Luxembourg’s population is growing year after year, yet the government and the private sector do not build enough homes. There is a gap between supply and demand.”
Low confidence has led to low transactions levels across the real estate market. In the third quarter of 2023, for instance, the number of housing transactions in Luxembourg fell by 41%, according to Eurostat. Commercial property sectors such as offices have experienced similar declines, according to a range of sources.
But in a sign that the market may be close to the bottom, Gerber-Lemaire highlighted interest from distressed real estate funds. “I think in 2024 we will have some investors that can’t refinance at interest rates of 7-8% and their properties will be acquired by distressed real estate funds,” she explained. “These funds could renovate buildings, making them more sustainable. Luxembourg is the perfect market for this; it’s just that we haven’t experienced the full price correction yet.”
In line with the principle of not letting a good crisis go to waste, the new coalition government’s package of measures to stimulate the sector addresses not just the current downturn but also longer-term issues such as the shortage of affordable housing. Broadly speaking, it is designed to guarantee access to housing, stimulate investment in rentals and generate more building activity. With perfect timing, the package was announced on 31 January, a day before Quintet’s panel debate.
At the debate, speakers agreed that the package should mark a turning point, although some remained skeptical about whether the funding behind it would prove sufficient. Jean-Paul Scheuren, President of the Chambre Immobilière, Luxembourg’s chamber of estate agents, remarked that the government had sent a positive message to real estate investors: “The message is clear: investors are again welcome in Luxembourg.”
For his part, Jerry Grbic, CEO of the Luxembourg Bankers’ Association (ABBL), said that while the package was not big enough in terms of funding, it would nonetheless make a significant difference. “We should not underestimate the psychological effect,” he remarked. “People who are willing to invest cash will go for it this year. The private investor will come back to the market.”
He explained that while residential prices were officially down 15%, sale prices have in fact fallen by 20-25%, depending on the location. Providing greater insight into market stress, Grbic said that non-performing real estate loans were at 1.6-1.8%, below the European average. In his view, though, the residential market can stabilize at today’s prices. Further, he said he knew of investors who were just waiting for the government’s package before launching real estate projects.
But a market is made of different views, and not everyone was so sanguine. Turning to the office market, Luxembourg still does not look attractive at current prices compared with other countries, according to Morgan Mével, Senior Investment Advisor – Capital Markets at INOWAI. For instance, while buildings can be acquired at yields of 8-10% in Germany and the Netherlands, they remain at 6% in Luxembourg, she explained. “That is why for the capital markets sector we have had this stop for more than a year. 2023 was very bad for transaction numbers. We will see whether 2024 will be any better, given that interest rates will not go back to almost zero.”
To address the market’s longer-term structural problems, Jean-Paul Scheuren highlighted three key areas: increased housing density, development financing and construction. He also advocated a “massive” increase in social and affordable housing, from the 3,000 dwellings currently being built each year to the 30,000 or more required.
For his part, Michel-Edouard Ruben, Senior Economist at the Fondation IDEA think tank, indicated that if Luxembourg follows the paths of London, Paris and Berlin, the current share of owner-occupiers would likely fall from about 70% to 50%. While stimulating investment in rental property might improve mobility, it would come at the cost of wealth inequality.
Ultimately, an accessible and heathy real estate market will be critical to attract talent to Luxembourg and ensure sustainable economic prosperity, stressed both Nicolas Mackel, CEO of Luxembourg for Finance, and the ABBL’s Jerry Grbic. “We need more housing so we get more people to Luxembourg, so they are not commuters who work in their home offices 95% to 100% of the time, which will mean Luxembourg loses a lot of substance,” noted Grbic.
Ultimately, though, Luxembourg remains resilient and the real estate downturn will not undermine its large financial sector, according to Mackel. He pointed to the stability of the country’s AAA credit rating and the fact that the financial industry is diversified across not just asset management but also businesses like payments, wealth management and corporate banking.
What’s clear from the panel debate is that 2024 will prove a critical year. There may well be further declines before real estate prices stabilize. In the meantime, as a leading European business center, Luxembourg will attract investors seeking assets at distressed prices.
Luxembourg’s business-friendly government will have an important part to play. Its recently introduced package has boosted confidence but may not prove sufficient, according to the panel of experts. Equally important, the government needs to embrace fresh thinking about how to solve Luxembourg’s longer-term housing problems.
If the ECB cuts rates sufficiently and the government introduces the measures that are needed, the market should start to find a new equilibrium in 2024. But prices may have further to fall before cranes start working again and dynamism fully returns to the property market.
