In the shadow of the reform in the legal system, the real estate sector, whose share in GDP is estimated at 11.5%, is showing the first signs of distress. An analysis by Dunn & Bradstreet shows that despite an increase in the rate of construction starts in 2021-2022, during which we crossed the threshold of 60,000 construction starts for the first time, the industry is currently characterized by a moderation in demand, as a result of the high price of the apartments and their removal from the reach of certain audiences, along with a decrease In the part of the investors and the increase in interest rates on mortgages.
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Dunn & Bradstreet estimates that the moderation in demand may also signal the pace of construction starts, which as mentioned increased in 2022 in an annual perspective, but slowed starting in the fourth quarter during which the construction of 14,000 new apartments began, a decrease of about 23% compared to the data of construction starts in the last quarter of 2021.
So where do you build?
In keeping with the high concentration of the population in the central region, Tel Aviv and the central districts collectively constitute a source for 46% of construction starts in 2022, similar to some of them in 2021. The southern district is a source for 18% of construction starts and the northern district for 13% of construction starts. The Jerusalem district recorded an increase to 11% of construction starts in 2022, compared to 6% in 2021, as a result of extensive construction of projects in the city of Beit Shemesh as well as an increase in construction starts of urban renewal projects in the city of Jerusalem.
Close to a quarter of the construction starts are in urban renewal projects, which reflects the increase in the rate of construction starts in the area when in 2022 the construction of approximately 16 thousand housing units in the area began. This increased the share of construction starts in urban renewal of the total construction starts to a rate of about 24% in 2022.
In the field of urban renewal, Tel Aviv and the center are collectively the source of about 70% of construction starts in 2022, slightly lower compared to 2021, when their share was collectively about 72%. In the medium term, according to plans on the table of the planning institutions, in the coming years the share of the Jerusalem district, the southern district and even Judea and Samaria are expected to increase.
A construction site in Tel Aviv (Photo: Mark Israel Salem)
On the demand side, after the peak year of 2021, the industry is currently suffering from a drop in demand, which is reflected both in the decrease in the purchase of new apartments and in the decrease in the scope of the new mortgages that the public takes out, in proportion. This is as a result of the rising prices of apartments and their removal from the reach of certain target audiences, the increase in the purchase tax on investors at the end of 2021 (from a rate of 5% to 8%) which resulted in a decrease in the share of investors in transactions (from a rate of approximately 24% of the total number of transactions in 2021 to a rate of of about 16.6% at the end of 2022), the increase in interest rates on mortgages (as a result of the increase in interest rates in the economy) and against the background of the decrease in the marketing of discounted apartments in the past year.
Thus, after about 58 thousand new apartments were sold in 2021, an increase of about 40% compared to the amount of new apartments sold in 2020, in 2022 only about 40.5 thousand new apartments were sold, a decrease of about 30% compared to the record figure of 2021. The low rate of sales also continued at the beginning of 2023, when only 2,600 new apartments were sold in January.
In line with the decrease in the sale of new apartments, a slowdown is felt at this time also in the mortgage market. In an annual calculation, the volume of new mortgages in 2022 amounted to a similar amount to the volume of new mortgages taken out in 2021 (a total of approximately NIS 117 billion), but this with a difference between the two halves of the year. If at the beginning of 2022 an all-time record for a single month When in March of last year the public took out new mortgages to the extent of approximately NIS 13.4 billion, starting from the second half of 2022, against the background of the series of interest rate increases in the economy and the rise in mortgage prices, there was a decrease in the volume of new mortgages. The low level also continued at the beginning of 2023, when in February 2023 the volume of new mortgages amounted to only about NIS 5.7 billion.
The new market conditions, and mainly the decrease in demand in the face of the increase in interest rates, have led to a moderation in apartment prices recently. Thus, according to the most recently published indices, in the last twelve months reviewed (February 2022 – January 2023), apartment prices rose by 14.6% (and the prices of new apartments by about 17%), a lower rate compared to the October 2022 indices, which then indicated the increase in apartment prices At a rate of about 20% (and the prices of the new apartments at a rate of about 27%) in an cumulative calculation of twelve months preceding this month.
In order to encourage sales, contractors at this time offer financial benefits, such as a low down payment and the balance upon or after occupancy, exemption from linking to the construction input index (which is also currently limited in linking to up to 40% of the unpaid balance), subsidizing mortgage costs for a specified (fixed) period and more. Alongside these, there are also projects where discounts are offered, usually as part of presale promotions (at the beginning of sales), which are very common in the industry, but until the activity slowed down in recent months, they hardly included actual discounts.
Against the background of the decrease in demand and the uncertainty under the current conditions of the industry, in recent months the inventory of unsold apartments in the hands of the contractors rose to a record of nearly 53 thousand unsold apartments as of the beginning of February 2023. For comparison, at the beginning of 2022 the inventory of unsold apartments amounted to approx. 44.5 thousand apartments. This inventory, according to the current sales rate, constitutes approximately 20 months of supply, after at the beginning of 2022 under the high sales rate in the industry at the time, the inventory constituted approximately 10 months of supply.
“The contractors are not in a hurry to sell apartments at any price”
Roital Roth, head of the analysis department at Dunn & Bradstreet on the inventory of new apartments for sale: “The increase in the inventory of new apartments for sale indicates that despite the special offers and the financing conditions provided, a significant part of the contractors are still not in a hurry to sell apartments ‘at any price’ and prefer to hold apartments, when possible and the existing discounts offered There is still not enough attractiveness to attract buyers in an increased manner, after real estate prices have increased to their existing high level. It will be interesting to continue to follow the trend in the coming months, which will indicate the direction of the industry, when it is possible that the deepening of the promotions or even a drop in prices is still ahead, if the low demands continue.”
Dunn & Bradstreet explains that the high inflation prevailing in the economy and in extensive economies around the world also affected the prices of construction inputs which became significantly more expensive in the previous two years, when in 2022 the residential construction input index rose by about 4.8%. Most of the increase in 2022 originates in the first half of the year, when in the last five months of last year the construction input index decreased cumulatively by about 0.1%. Just when it seemed that the increase in the input index was stopped, and contractors began to offer benefits regarding it, the index returned to increase in January 2023 at a sharp rate of an additional 1.2%. Since February, the index has again decreased by 0.2%.
To this must be added the rapid devaluation of the shekel that took place in recent weeks, which is expected to increase the cost of importing building materials and may give its signals on the upcoming index data (in our estimation, this effect has not yet been fully reflected in the latest index data). Currency fluctuations affect the prices of imported products, including iron and aluminum, finished products such as ceramics, sanitary ware, stone cladding and more. A significant part of the import of iron and aluminum to Israel originates from production in Turkey, which recently suffered a series of deadly earthquakes, which led to damage to industry and exports from the country and as a result damage to the supply chain of construction materials to Israel.
So developers do offer an exemption from linkage, but someone will have to bear the burden of absorbing the expected increase in the index, usually the execution contractors who are exposed to the increase in the prices of inputs and the supply chain and are not always protected in their contract to carry out the projects vis-à-vis the developers. Those construction contractors also did not benefit from the high increase in apartment prices that prevailed in the industry in the previous two years, when the excess profitability among the developers was usually not passed on to the construction contractors. The suppliers of inputs to the construction industry are also exposed to erosion in profitability in cases where they fail to pass on the full price increase to their customers (contractors).
The level of risk in the industry
Roital Roth, director of the analysis department at Dunn & Bradstreet, explains that “according to Dunn & Bradstreet’s indices, the real estate industry is traditionally characterized as a high-risk industry. The industry trends support the remaining of a high level of risk in the industry even in 2023, which may even increase during the year. During the year 2022, about 1,100 contractors fell into financial failure, similar to 2021. The rate of failures increased in the second half of the year 2022, against the background of the decrease in the sale of apartments and the increases in interest rates in the economy, which increase the financing costs for both the contractors and the buyers of the apartments, with a trend expected to continue in 2023 as well The changed interest rate environment challenges the industry at this time when the industry, for all its segments, is characterized by high financing needs for the benefit of the projects, when in large volumes any change in interest has a greater impact. The leverage in the industry makes some of the projects unprofitable and causes contractors to decide at this time about entering new projects, which contributes to the general slowdown in the industry.”
According to her, “it seems to be a matter of time before well-known entrepreneurial companies may fall into failure, when entrepreneurs who entered the “new era” with high leverage may find it difficult to repay the debt in the face of the expected decrease in sales. Common steps at this time include the realization of assets, the introduction of partners, the sale of projects to other entrepreneurs and more. An expected decrease in real estate may also give its signals to ancillary industries that feed from the industry, including construction inputs, finishing products, home interior products (ceramics, kitchens), furniture, etc.
She adds and notes that “at Dunn & Bradstreet we closely accompany and review the activity in the real estate industry in Israel on an ongoing basis, when in our databases there are over 30,000 businesses active in the industry. In this context, and under the increase in the level of risk, during the past year we alerted our clients about substantial changes in the level of business risk, where in a significant number of cases the analysis turned out to be a successful early prediction of a change in the business situation and helped to avoid providing risky credit in retrospect. These days we see companies that reduce exposure to contractors, companies that do not want to insure or provide financing to these companies, companies that are afraid and perform many checks against B&D’s reserves on a daily basis.
If in recent years the supply has not caught up with the demand, the housing crisis now includes high prices and contractors who are stuck with apartments in front of buyers who are unable or unwilling to buy. This is while the population in Israel continues to grow, and in the long run you will need housing solutions. After the decision of the elections at the end of 2022 and the beginning of the term of the current government, it seems more than anything that the industry, which is characterized by long-term procedures, needs a government that will put the necessary treatment on the agenda. The importance of the legal revolution stands at the same time, the industry needs immediate treatment by the government, it should put a spotlight on the industry and put its treatment on the agenda – lest we wake up to a grim reality in a few months.”
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