German residential real estate

In our previous piece, we laid out why the current market situation indicates an attractive entry point into European real estate markets as the cycle starts turning. This is particularly the case for those segments or markets where leasing market fundamentals are favorable. In this article, we elaborate on the market fundamentals of German residential real estate.

The German residential market has a traditionally strong rental market with more than 50% tenants¹. Over the past two years, the tenant market has received a further boost due to increased mortgage costs and further decreasing affordability of owner-occupied property despite the fall in prices observed in 2023.

In addition, strong population growth, driven by net migration, has boosted demand. Over the past 10 years, the German population has grown by 3.5 million people to around 84.7 million at the end of 2023².

However, the increasing demand meets a declining expansion of supply. The government's target of 400,000 new apartments per year has been undercut continuously with the number of newly built residential units ranging somewhere between 220,000 and 275,000 over the past 10 years. Thus, the problem of insufficient construction activity has existed for some time. It has even become significantly worse in the wake of the increase in construction and financing costs over the last two and a half years. This shows in the number of building permits, which have dropped by 42% between June 2022 and June 2024 (see Figure 1).

Figure 1: Monthly approved apartments (seasonally adjusted)

The combination of rising demand and declining supply expansion results, unsurprisingly, in falling vacancies. Over the period 2012 to 2022, the average German apartment vacancy rate fell from 3.3% to 2.5%.⁴ The low vacancy rate is particularly pronounced in key cities, which recorded a vacancy rate of only 1% in 2022.

As we learned in Econ 101, demand exceeding supply results in price increases. Accordingly, the shortage in the rental housing market is reflected in significant rental growth. From 2014 to 2023, median rents in Germany’s eight major population centers rose by around 60%, according to JLL (see Figure 2). Berlin stands out with particularly strong growth with its median rents doubling. Over the same time frame, the population in Berlin also grew by 9%, significantly more than in Germany as a whole (4.3%).

Figure 2: Development of median rents in the top 8 German cities
(Index, 1H14=100)

According to the projections of the Federal Statistical Office, the population in Germany is expected to grow by 0.7% by 2040. The number of households is, however, expected to grow more strongly due to the continued trend towards a smaller household size. This will then continue to increase the demand for housing. Furthermore, due to ongoing urbanization, household growth should be stronger in cities and their agglomerations.

In view of the projected increases in demand, while construction activity is expected to remain subdued, one can hardly expect rental growth to calm down significantly. PMA expects average rental growth of around 3.1% p.a. in the 15 largest German cities and 3.4% in the top eight between 2024 and 2028 (see Figure 3). Again, Berlin is expected to outpace the rest of the country with an expected rental growth of 4.4% p.a., followed by Stuttgart at 3.9% p.a. With a forecasted inflation rate of 1.7% p.a. over the same time frame, the segment's inflation protection should, however, be more than a given in the next years across all of the 15 largest cities.

Figure 3: Projected residential rental growth 2024–2028 (%, p.a.) in the 15 largest German cities

As discussed in our previous piece, the corrections that have taken place in the course of the interest rate turnaround are helping investors to find attractive entry opportunities. Although capital growth cannot be expected to return to levels as during the negative interest rate era, growing cashflows can still be expected to increase for real estate investors in the near future.

¹Eurostat, August 2024
²Destatis Federal Statistical Office of Germany, August 2024
³Destatis Federal Statistical Office of Germany, August 2024
⁴empirica; CBRE Group, August 2024