What's happening to rents?
The residential rental market has been running hot for 2 years, with something of a perpetual boom in residential rents which continue to run well ahead of earnings growth.
Average rents for new-lets have increased by 11.1% in the last 12 months while earnings only increased by 6.7%1. Rental inflation has slowed slightly from 12.3% in mid-2022 but there is no sign of any imminent slowdown.
Rents have risen by 20% in 3 years - an extra £2,220 a year - which is an ongoing concern for renters, especially those on lower incomes and/or in receipt of housing benefit.
Demand for rented homes, and rental inflation, took off as the economy reopened in the spring of 2021 and new visa rules attracted a major inflow of students and others for work.
However, with a third fewer homes available for rent than normal, demand per available rental home spiked even higher last year by 250% above the 5-year average.
Demand for rented homes remains 10% higher than this time last year. Rents will continue to rise ahead of incomes unless we see a sustained increase in rental supply or a material weakening in demand, both of which appear unlikely at this stage.
High immigration boosts rental demand.
The underlying driver of rental demand is the strength of the jobs market which has been strong and where there are over 1m vacancies according to the latest ONS data.
Many jobs are filled by UK nationals, but the world’s advanced economies are increasingly looking to immigration to fill jobs, particularly highly skilled workers.
In early 2021, the UK government conducted a major shake-up of visa rules to attract skilled talent. This was one of the drivers of record high net immigration totalling 504,000 people in the year to June 2022.
This was boosted by humanitarian schemes supporting Ukrainians fleeing the war and a specific visa scheme for British Overseas citizens looking to leave Hong Kong and move to the UK.
Supply of private rented homes remains broadly static.
While demand has increased, the number of privately rented homes remains largely static. In 2021, there were 5.5m private rented homes in Britain - slightly more than the 5.4m total in 2016.
This follows a doubling in the number of private rented homes between 2002 and 2015, driven by landlords using buy-to-let mortgages.
In simple terms, a static supply of rented housing means new investment that adds to supply is offset by property leaving the sector, as landlords dispose of rented homes as part of ongoing portfolio rationalisation or exit the rental market altogether.
It has been registering a slight slowdown in landlord sales in the face of a weaker sales market. Some 11% of homes listed for sale on Zoopla in early 2023 were formerly rented. This is a reduction from over 13% last year but levels remain above average.
Tax changes, growing regulation and higher borrowing costs are leading many private landlords to review their portfolios and the pros and cons of investing in housing.
The economics of being a private landlord have changed.
The equity needed to buy new rented homes with a mortgage has been increasing in recent years as a result of rising house prices, lower rental yields and tighter lending criteria. This has been exacerbated over the last six months by rising mortgage rates.
Buy-to-let mortgages are generally interest only. Lenders require the rental income generated by a property to be at least 125% of the mortgage interest payments for lower-rate taxpayers.
This increases to 145% for higher-rate taxpayers, reflecting tax changes made in 2016.
Will the outlook start to be shaped by affordability?
It is expected to continued scarcity of homes for rent over 2023 given the weaker economics for investors. Ongoing completions of build to rent schemes will be one bright spot, adding supply at the mid to upper end of the market across UK cities.
One additional area of potential supply could come from sellers renting out homes they can’t sell due to a weaker sales market, but conditions aren’t sufficiently challenging at this stage for this to impact the outlook.
Rental demand is unlikely to be quite as strong as last year given weaker economic growth, but we expect it to remain above the 5-year average.
Much depends on trends in employment, especially across UK cities where rented homes and jobs are concentrated.
In terms of affordability, average rents expressed as a percentage of earnings are now at or close to ten-year highs in all regions except London. This will start to impact the pace of rental growth over 2023, which we expect to slow to 4-5% by the year end.