Sofia Lettings Market Report 2012
Through the course of 2011 we have witnessed a welcomed stabilisation in the lettings market, a return to more regular market forces and a healthier consistency in the rental rates. Although most owners still find returns disappointing it is clear to us that the rates have stopped falling for a variety of reasons, indeed in some areas we have seen gratifying and long awaited increases. This article considers the recent shifts and trends in the Sofia lettings market, the effect of migration and population changes, recent occupancy rates, the benefits of basic furnishing to cater for the current demand, why tenants rent instead of buy and all the key impacts these factors have upon foreign landlords.
Mortgages and affordability of buying, its impact on the lettings market:
In most parts of Europe the culture of owning one’s home or getting your ‘foot on the property ladder’ is commonplace, family-centric philosophy regards it as key to personal financial stability and future financial gain. However, to take example in Sofia; the cost of buying a 50,000 Euro 1 bedroom apartment apartment based on a 10% deposit and a 25 year mortgage, repayments would be in the region of 350-380 Euros / month + maintenance costs. Whereas to rent this same property, furnished, with no further outlay and no risk to the occupier, the cost is 250 Euros /month. One might argue that any tenant’s real risk is that not having ownership denies them any chance of capital appreciation or profiteering. However, by costing an additional 40% per month it is hard to see the benefits of ownership right now, between the extra expense and the risks it is not commonly regarded as beneficial by younger first time buyers. The end result is fewer tenants ‘progressing’ to become owners, thus their rental demand doesn’t evolve into buying demand and over time this causes natural growth in rental demand.
Naturally the situation was different before; the same apartment cost 450 Eur / month to rent in 2006 and thus investing and owning made much more sense, but today’s rental climate is wildly different and a lot more affordable. With a constantly growing pool of tenants with minimal incentive to own, this is unlikely to change until prices go up (allowing landlords to sell and exit the rental market, incentivising the benefits of ownership above tenancy) or lending goes down (making ownership more affordable to current tenants by comparison to renting). Combined with the expected migration trends (see below), the lettings demand looks to be definitively progressive in both the short and medium term.
Migration, Population trend shifts and its impact on rental demand:
Bulgaria has the most negative natural growth rate of all countries in the world, according to the 2011 report by the United Nations Population Fund (UNFPA), it is expected to average just 0.7% until 2015 (2.4% is the minimum to achieve a sustained population figure). The population at the fall of communism in 1989 was just over 9 million, according to the 2011 census it is now 7.3million, however the UN projects that the Bulgarian population will be a mere 5.4 million by 2050.
So what does this mean for landlords? At first glance it is frightening; less people means less demand and a future dominated by stagnation or an oversupply of properties. However, the most likely scenario is that rural decline will account for much of that population shift. Unless agriculture begins to re-employ people in rural areas, many villages across the country will become ghost towns similar to those resulting from America’s gold rush era. With an aging rural population and very little reason to improve rural infrastructure and opportunities, young people will continue to migrate out of Bulgaria entirely or be drawn to the opportunities and lifestyle of the bigger cities within Bulgaria, with Sofia being the main recipient of this movement.
Two thirds of Bulgaria’s population now live in cities; Sofia’s population grew by 10% in the last decade as a result. Sofia is now the 12th largest city in Europe, larger than both Milan and Munich.
All of this is good news for property owners in this capital. These are the shared reasons why so many new shopping malls continue to be built and heavy foreign direct investment keeps coming, surprising to some but actually Sofia is a much larger and more populace place than many expect. With any young population comes rental demand, typically at lower levels of affordability but solid demand nonetheless. The outlook for long-term rental stability for Sofia is excellent, any new and well positioned property is very unlikely to suffer vacancy if offered at the going market rate.
What has changed: supply or demand?
Simply put, the volume of fresh stock coming to Bulgartian property market has decrease dramatically. In any market, when the supply booms and the demand stays the same, the price inevitably falls. That is the succinct synopsis for the Sofia market for much of 2009 through to the end of 2010. The past year has seen that boom tail off as each owner came to their own conclusion; either to sell at the current rates and make a loss, to become a landlord and make a smaller than expected return or to leave it empty and accept the annual maintenance costs. Over the past 24 months almost every owner accepted one of these scenarios, as such less and less now rush to the lettings market which has notably stemmed fresh supply. Very few are still pitching at yesteryear prices in order to hold out for that allusive ‘breakeven buyer’, regardless of which their numbers are now insufficient to have a significant market impact.
We are no longer seeing ‘price jockeying’ within complexes; during a 9 month period from 2010 to mid 2011 we saw prices plummet due to the process exemplified below, fortunately this is now rare.
Whilst owners remained in disbelief and the market in shock, price jockeying would take place on a micro scale within each and every complex. An apartment that once rented in the peak times for 450 Eur / month would become available and only rent for 300 eur / month, within a few weeks the tenant would complain that the apartment next door is available for less and they will move there if their rent isn’t lowered to match. They move, the original apartment remains empty and after a month or so an effective loss of 10 Eur / day motivates the landlord to lower his rate to 230 Eur / month, which will cost him less over the course of the annual tenancy than holding out for more. A new lower rate for the building is set and its impact is soon felt by all landlords, much to the pleasure of the tenants.
Meanwhile, these unheard of rates for newly built and newly furnished properties provided a considerable pull factor for new source of tenants across the city. Those who previously hadn’t been able to move out from their parent’s homes, from older communist buildings or who simply couldn’t afford the previous higher rates were suddenly able to afford options. Tenant enquiries increased dramatically within the low price bands, with so much new demand the market found its new balance at these revised lower levels.
However, it is also true in some cases that a number of tenants are still paying 2007-2008 rates. Most likely they are out of touch with current rates, disinterested or happy paying more, but whatever the reason there are many fortunate landlords who rented earlier and are still achieving yesteryear prices as their tenants continue to renew their tenancies at the original rate. If you are such a landlord, be sure to address any and every minor complaint, repairs or concerns, keep them happy and accept that you are amongst the lucky ones achieving above what is possible if they moved out.
Have rental rates increased?
In short, in some cases yes they have. Unfortunately it is not true in the majority of areas or for the vast majority of landlords, however we can say with absolute certainty that in 2011 no rental rates decreased and 12% of owners achieved an increase. Of those rental rates that increased most were tenancies signed in early to mid 2010 when the market suffered over supply and subsequently bottom end rates, an average of 8% nominal increase was achieved for these owners bringing them out the worst of the dip up to today’s rates.
There is no real consistency in which apartments benefited from the above, some were at the top end, some at the bottom; the rule of thumb is better gauged by the date or period of the let rather than the amount or the property itself. In any case, tenants were served notice and rates increased within 30 days, around a third moved out refusing to accept the rate change, all were swiftly replaced with higher paying tenants.
The question everyone asks is when will market rates go up as a whole? Without a crystal ball is impossible to say with any certainty, the best indications are that prices will stay as they are with only pockets of increase for the next two years at least. Such areas are only likely to be those below the average right now; areas dominated by incomplete building sites and poor road networks, or those that don’t currently have a local metro station but will soon. These infrastructure improvements naturally increase rates and are separate influencing force to those of the actual marketplace.
Looking at the past 12 months of our own data of more than 150 managed properties, we can see that at no point in the year did we have less than 97% occupancy. In real terms this meant that we never had more than 5 properties vacant, under notice or available on the market at any one time, the rest were always occupied and rent being paid.
In this buoyant tenant market there is absolutely no reason for any rentable apartment to be left empty, every property has its price and Sofia’s tenant spectrum covers every type of demand. If your agent is excusing vacancy due to market conditions, change them quickly.
From our industry perspective the strongest indictor for real occupancy rates is the ‘time to let’; the length of days that we have stock available from listing to rental tells us either that demand has changed unexpectedly or simply that the price is wrong. Hitting the right price and filling immediately is a constantly moving target for agencies and is entirely dependent on their knowledge, experience and marketing budget. In reality, this is why they have a purpose and a place in the market beyond the day to day management etc, to achieve the most possible income with minimal vacant days to get the maximum possible return for the owner and of course make a fee themselves in the process. Any agent that is motivated by ancillary services, by furniture or kitchen sales, by exclusivity contracts, by the keeping the apartment empty to encourage you to sell or by making a management fee when the apartment is vacant is never going to achieve high occupancy.
Occupancy rates in 2010 were lower at 90%, time to let was greater at around 14 days average. It is a micro scale survey of an otherwise enormous market, but subject to the efficiency of a lettings company we believe it should be reflective of the whole market.
Top quality furniture, does it achieve top rates of rent?
It is logical to think that if a property is furnished to a high standard that it will rent for more. Nominally it stands true, but the reality is that it still proves wildly inefficient in terms of return on your extra investment. To take a real example of two neighbouring apartments in one high class complex:
Same size, same kitchen, same view; one contains 10,000 Euros worth of 5* furniture, a full complement of household items and electrical equipment, it rents for 350 Eur / month. The other is only furnished to 3* standard, total cost 2,500 Eur, it rents for 300 Eur / month. Accepting that rates will increase in tandem over time, the difference will still take 12.5 years to pay off and reach breakeven, only after that will it become viable to have invested 7,500 Eur extra. Not only has this amount been out of your pocket for the duration, not making any interest gains etc, but the furniture is likely to need replacing anyway. Furthermore, not many foreign landlords intend to own a Sofia property for much more than 5-10 years at best, the vast majority would decide to sell long before this point.
The real advantage of superior furnishing is that a tenant is much more likely to stay (costing less in agency placement fees), to look after the apartment, to pay on time and not want to leave because they can’t find the same standard for the same price. Whilst these are certain benefits, the financial return isn’t worthy.
Naturally, when pitched to an owner by an agent or furniture salesman on percentage commission, it does sound logical and make complete sense, ‘buy good furniture and see 16% increase in rental income’. However, they will always fail to mention that the ‘good furniture’ will cost you all of the first 2.5years of income and take more than a decade to pay off. It simple doesn’t fit the market right now, not enough people can afford to pay extra for quality and thus it is not worth your extra investment. Much better is to match your investment with the demands of today, increase your yield by sticking to what the bulk of demand can actually afford; 3* new furniture will more than suffice in almost every case for the Sofia market and return the highest available yield. Don’t forget, your taste doesn’t count, you won’t be living there and even if the tenant would prefer ‘nicer’ looking furniture it is how much they pay you and how much the furniture cost that actually matters here.
We offer to finance all the furniture needed for any new rental apartment, thus no outlay is needed from the landlords’ pocket. Typically, any one bedroom apartment finished to 3* standard will cost 2,500 Eur in total. Furniture prices have tumbled in the past two years, in some cases from some producers by as much as 50%, this once expensive furniture market is no longer. However, for the high end complexes we can of course supply smarter Ikea style items to achieve the ultra-modern look, which costs around 30% more and is entirely up to the owner. Not only does this tact have the advantage of the owner not having to spend any money, but it also provides them with the complete reassurance that we too have invested in the success of their property, thus we are equally keen to get the property rented so that our costs can be recouped.
Expats and short-term lets:
The myth of wealthy ‘expats’ spending more than the real market price to rent a flash property that meets their ‘higher standards’ has never been less true. The available data suggests that there were 24,000 foreigners working in Sofia on a short to medium term basis in 2006, six years on and that number is now under 5,000. Of those that remain, it is largely accepted that these are now immigrants rather than ‘expatiates’ and most are likely to have settled for the longer term. In any case, they are much less likely to be the typical 6 month tenant willing to pay 1000 Eur / month because ‘that seems cheap by comparison to London’. Whilst there are of course some international tenants seeking higher class property and they have the deeper pockets to pay for it, they simply take the apartment for 350 Eur with the nice furniture, as given in the example earlier, instead of the one for 300 with the more basic furnishing (see above for the details of this point).
When a diplomat or a MNC manager does require an affordable apartment instead of an expensive hotel room, there are indeed some fortunate landlords who get to rent to them at higher rates. However, the chances of them staying for more than 3-6 months are very limited. Generally the months of having a vacant property, waiting for the next expat to pay top dollar, will mean that over the course of any year your average net income is either the same as or less than renting at a market rate to a full time domestic resident. During that time your risk is larger as higher spending expats are inconsistent as a source of tenants, you never know when the next one is coming, not to mention your cash flow is effectively on or off which is never ideal for anyone with a mortgage or loan repayments.
The article is prepared by Christophe Gater one of the directors of the leading Bulgarian estate agency New Estate Bulgaria.
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