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UBS reported Wednesday that an analysis of residential property prices in 25 major cities around the world found that seven cities in Europe, North America and Asia are in bubble-risk territory.

Despite the current global recession brought on by the coronavirus pandemic, inflation-adjusted house price growth in the 25 cities, on average, accelerated in the last four quarters, which UBS considers unsustainable.

“It is uncertain to what extent higher unemployment and the gloomy outlook for household incomes will affect home prices,” Mark Haefele, chief investment officer at UBS Global Wealth Management, said in a statement.

“However, it’s clear that the acceleration over the past four quarters is not sustainable in the short run. Rents have been falling already in most cities, indicating that a correction phase will likely emerge when subsidies fade out and pressure on incomes increase.”

The eurozone stands out as the region with the most overheated housing markets. Munich and Frankfurt top the UBS Global Real Estate Bubble Index ranking. Bubble risk is also high in Toronto, Hong Kong, Paris, Amsterdam and Zurich.

Eleven cities on the new index are on the overvalued range of the spectrum, including in the U.S., San Francisco, Los Angeles and, to a lesser extent, New York. Boston is among six cities considered fairly valued. Chicago has the distinction of being the only market on the scale that is undervalued.

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On average, inflation-adjusted annual price growth rates in the cities analyzed have accelerated in the last four quarters. In many European metropolitan areas, prices shot up by more than 5%, led by Munich, Frankfurt and Warsaw, which was included in the study for the first time.

Price growth in Asia/Pacific and American cities, with the exception of Sydney, remained in a low-to-mid single-digit range. Madrid, San Francisco, Dubai and Hong Kong were the only cities that experienced a decline in prices. The last time fewer cities had negative price growth was in 2006, according to UBS.

The UBS bubble index traces the fundamental valuation of housing markets and the valuation of cities in relation both to their country and to economic distortions — lending and building booms. Tracking current values, the index uses the following risk-based classifications: depressed, undervalued, fair-valued, overvalued and bubble risk.

The index score is a weighted average of five standardized city sub-indexes: price-to-income and price-to-rent (fundamental valuation), change in mortgage-to-GDP ratio and change in construction-to-GDP ratio (economic distortion) and relative price-city-to-country indicator.

UBS noted that researchers cannot predict whether or when a correction will happen, so “bubble risk” refers to the prevalence of a high risk of a large price correction.

Governments Support, Looming Uncertainty 

Despite the pandemic, housing markets remained resilient in the first half of 2020, UBS said. The study discerns three main reasons for this outcome.

First, home prices are a backward-looking economic indicator, and are able to reflect an economic downturn only with a certain delay. Second, the majority of potential homebuyers did not suffer direct income losses in the first half of 2020. Credit facilities for companies and short-time work schemes mitigated the fallout from the crisis.

Third, governments supported homeowners in many cities during the lockdown periods by increasing housing subsidies, lowering taxes and suspending foreclosure procedures.

“The current cities at bubble risk seem to be weathering the coronavirus crisis relatively well,” Matthias Holzhey, head of Swiss real estate investments at UBS Global Wealth Management and the study’s lead author, said in the statement. “The local economies in Munich, Toronto and Hong Kong will likely recover quickly.

“But even in the absence of a broad market correction, the potential for further capital gains seems depleted. In particular, the prospects for buy-to-let investments are poor given the record-high price-to-rent ratios.”

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