The development of construction and real estate sector has been weak in the early part of 2023. The amount of construction in the Helsinki Metropolitan Area grew rapidly during the period of zero interest rates but is expected to decline significantly this year. The largest drop is in residential construction, but there is also a slight decrease in commercial construction. The rise in construction costs slowed down significantly in April, and there has been a significant increase in bidding activity.

These findings were reported in the economic outlook report by Rakli, the Finnish Association of Building Owners and Construction Clients.

Finnish Economic Growth Forecasts Remain Flat in 2023

The latest forecasts for Finland's GDP in 2023 show a flat growth rate. However, the first quarter performed better than expected. The forecasts for 2024 remain unchanged at around 1 percent. Finland's growth forecasts are slightly weaker compared to the European Union. Anticipated interest rate hikes are expected to halt in the middle of 2023 or slightly thereafter. Interest rates are projected to remain at 3 percent in 2024 before declining to around 2 percent. There are no expectations for a new period of zero interest rates.

Quiet Start for Real Estate Transactions in the Market

During the first quarter of 2023, the transaction volume in the real estate market reached just over 400 million euros, according to KTI, the Finnish Real Estate Research Foundation. Such low quarterly volumes were last recorded between 2009 and 2013. In the current uncertain market situation, the slow pace of transactions is primarily due to divergent views on pricing between potential buyers and sellers, as well as tightened availability and conditions for financing. However, it is expected that transaction activity will pick up somewhat towards the end of the year. In the Rakli-KTI Property Market Barometer conducted in April, industry professionals' expectations regarding investment demand improved compared to the survey conducted last fall. 46 percent of respondents expected an increase in foreign investor demand, while a similar proportion anticipated an increase in domestic investor demand.

Yields on Real Estate Investments Rise

The increase in interest rates and general economic uncertainty are also raising yield requirements for real estate investments. According to the Rakli-KTI Property Market Barometer in April, the net yield requirement for prime office space in Helsinki's city center rose by 0.6 percentage points compared to last fall, reaching 4.4 percent. Since the spring of 2022, the increase in yield requirements has reached a full percentage point. The yield requirements for commercial and residential properties in Helsinki's city center also saw significant increases. Yield requirements for offices have also started to rise in other major cities.

Direct Real Estate Investments Yield 0.6 Percent in 2022

The increase in yield requirements already resulted in a decline in market values for investment properties last year. The total yield of direct real estate investments measured by the KTI Property Index dropped to 0.6 percent in 2022. Market values decreased by an average of 3.4 percent, marking the largest annual decline in the over 20-year history of the Property Index. Production properties offered the highest returns for the second consecutive year, with a total yield exceeding 10 percent. The total yield for residential properties was the lowest among all sectors in 2022, falling to -2.6 percent due to a clear decline in market values.

Increase in Maintenance Costs Remained Lower Than General Price Development in 2022

Contrary to fears, the actual increase in maintenance costs in 2022 was smaller than expected. The annual increase in maintenance costs for residential buildings was 2.8 percent, while for office buildings, it was 6.1 percent, according to the KTI maintenance cost indices. Energy costs increased by 4.8 percent for residential properties and over 13 percent for office properties.