Global real estate markets may have to hit pause on those plans to recover this year. A new report from Oxford Economics warns the global real estate recovery may be derailed by surging bond yields. The year kicked off with a sharp climb, which will have a big impact on all investments, but especially yield sensitive areas like real estate. Consequently, real estate prices may see significant downward pressure as rising borrowing costs, elevated unemployment, falling consumer sentiment, and rising loan delinquencies, materialize.
Bond Yields, Supply, Demand, & Real Estate
Bond yields are a function of supply and demand. When the supply of capital to buy bonds rises faster than the demand to borrow, the yields fall. If lenders are competing for a borrower, the borrower gets to pay less.
When demand to borrow rises faster than available capital, yields rise. If no one wants to lend a borrower money, the yield (or interest) rises since it needs to attract that capital. Think of private lending—risky borrowers pay more so investors can be compensated for the risk they take on.
The movement of yields provides complex insight when it comes to real estate. Most obvious is the impact on borrowing costs and leverage, since rising yields are passed on as costs.
- Inflation: Since investors try to make money, they tend to avoid buying instruments that yield less than their inflation outlook.
- Currency: Bond markets are global. Attractive yields sound nice, but the risk of currency devaluation can wipe out any gains.
- Risk: People flock to risk assets due to the higher returns they offer, but they also see the sharpest corrections. As those returns look extended and yields rise, many investors will look to trade in their risky stocks for higher yielding bonds. This additional demand can bring yields down for future borrowers, but it also locks up capital for a term.
Global Bond Yields Surge, Threatens To Derail Real Estate Recovery
The year kicked off with relatively weak global demand for bonds, pushing prices down and yields higher. Oxford Economics notes a rise in long-duration yields, such as the US 30-Year Treasury approaching 5%, and the UK 30-year Gilts at 5.3%—are at the highest level since 1998. It’s part of a broad global trend attributed to rising inflation expectations, weak demand for lower yields, and questionable debt service capacity. Higher yields are nice until the borrower stops paying.
Source: Oxford Economics.
Real estate has recently been in a lull due to higher interest rates. The market expected this lull to be short-lived and return to normal as soon as rates normalize. That plan’s proving overly optimistic in the face of a rapidly changing global economy.
“Surging bond yields are threatening to derail the real estate recovery,” explains Nick Wilson, Associate Director at Oxford Economics.
He adds, “ Yield spreads are now under significant pressure, signaling the potential for further yield expansion if rates are sustained. Risks to the sector are now skewed to the downside, which could lead to downgrades to our forecast.”
Rising Yields, Elevated Unemployment, & Lower Real Estate Prices
Asset markets are generally considered “efficient,” meaning current values reflect expectations. The bond market’s surprise means those expectations will update, and asset values will reflect that update. It’s bad news for all classes of assets, but yield-sensitive ones like real estate would see the biggest impact.
“These developments could delay the broader real estate recovery and exert additional downward pressure on property values,” warns Wilson.
He suggests a few triggers that can materialize with the shift, such as negative yield spreads, higher debt costs, and elevated delinquencies. The latter tends to push borrowing costs even higher or limit credit availability, potentially amplifying the problem.
“What’s more, higher bond yields have the potential to create other macro-related headwinds, associated with elevated unemployment, a reduction in business expansion, and deteriorating consumer confidence,” warns Wilson.
Higher borrowing costs, rising mortgage delinquencies, reduced business expansion, eroding consumer confidence, and elevated unemployment. Not the best outlook for 2025, but at least we’ll get a new Fast & Furious movie.