NEW YORK & SAO PAULO--(BUSINESS WIRE)--A drop in mortgage funding will likely accelerate real house price declines in Brazil's main metropolitan markets, Fitch Ratings says. So far this year, a record net outflow of savings deposits is depleting Brazil's supply of its cheapest mortgage funding source and forcing banks to restrict lending and increase mortgage rates. Recent measures by the central bank to reduce reserve requirements for savings deposits and increase their availability for mortgage lending may temporarily give relief to the market but are unlikely to reverse the overall trend.
More expensive and restrictive lending adds to the other factors pushing the property market down. Brazil's economic challenges, which combine negative growth, increasing unemployment, high debt levels and stubbornly high inflation with monetary and fiscal tightening, led average offer prices for residential units in large Brazilian cities to start decreasing in August 2014. Since then, they have declined by 4% in real terms, based on data from FIPE-ZAP. In our view, closing prices may have declined more as sales volumes have dropped and the high new home stock has led to discounts over 30% for some new units. New mortgage loans funded by Brazil's Savings and Loans System (SBPE) rose only 3.4% in nominal terms in 2014, the lowest level since 2003, and declined in 1Q15 by 4.6%.
The net savings withdrawals have decreased savings deposits to a level equal to 9.2% of GDP in March, compared with 9.5% in December 2014. Although the central bank recently reduced reserve requirements that increased the amount of savings deposits that can be used for mortgage lending, this measure is expected to have only a temporary effect. Further large net withdrawals of savings deposits are probable in the next months as rates on savings accounts are capped at 6%-7% per annum. The Selic rate, which serves as benchmark for fixed-income instruments, including alternative funding sources for mortgages, has been increasing since 2013 and reached 13.25% in May. Also, high household debt levels and decreases of disposable incomes are taking a toll on savings.
Because of the limited availability of cheap funding, government-owned Caixa Economica Federal (CEF), which originates around 60% of unsubsidized mortgages, drastically reduced its maximum LTV limits for average existing properties in April 2015 from 80% to 50% while focusing new lending on new properties. CEF has also increased mortgage rates twice since January, especially for more expensive housing units.
Other important lenders are also facing reduced availability of savings deposits, but so far, CEF's main competitors have maintained LTV limits of 80%. However, these banks tend to be more selective and more expensive and have started to raise mortgage rates. If other large lenders follow CEF's example and sharply reduce LTV limits, the resulting lower affordability of mortgages would imply price declines of around 40% for most existing housing units. This is based on a LTV reduction from 70% to 50% and initial equity and borrower income remaining unchanged. If banks do not alter LTV limits but average mortgage rates rise to 13% (from the current 9.5%), house prices would decline by approximately 13%-14%.
Residential property prices are also pressured by high housing price to income ratios and low rental yields and the challenging macroeconomic environment. However, in the mid- to long-term, housing prices may benefit from the improving macroeconomic environment and lower inflation and interest rates, which we expect to begin in 2016. And existing supply-demand imbalances in large cities may limit broad-based price declines.
Fitch revised its RMBS Rating Criteria for Brazil in February to reflect the increased probability of significant real property price declines in the near- to mid-term. For properties located in the state of Rio de Janeiro, Fitch's real house price decline stresses range from 20% for a B(bra) scenario to 55% for a AAA(bra) scenario. For other regions, Fitch applies house price declines of 15% to 50%. Additionally, a quick sale adjustment of 30% is applied to stressed property values to account for the limited liquidity in Brazil's property market.
Additional information is available on www.fitchratings.com.
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