Residents in some parts of Germany - such as Frankfurt, Munich and Stuttgart - are used to high prices for both renting and buying a home.
But a new ranking lays bare just how overheated the housing markets are in two popular German cities.
And Frankfurt - the banking capital of Germany - has taken the top spot in the UBS Global Real Estate Bubble Index 2021, ahead of the likes of Toronto, Hong Kong, Munich, Paris, Amsterdam and Zurich.
Housing bubbles happen when the price of homes skyrocket due to an imbalance in supply and demand, and are further pushed up by speculative buying.Â
Source: UBSThe city in Hesse has the highest 'real estate bubble risk' for the period from mid-2020 to mid-2021 with 2.16 points.
"Frankfurt, Toronto, and Hong Kong top this year’s UBS Global Real Estate Bubble Index, with the three cities warranting the most pronounced bubble risk assessments in housing markets among those analysed." said UBS in its study.
Every year, the major Swiss bank UBS investigates where the highest risk of a real estate bubble lies. According to this index, a value of 1.5 points indicates the risk of a bubble. UBS defines a real estate bubble as a strong and persistent deviation of the price level from fundamental data such as income, economic growth and population migration.
Munich took the top spot in 2020 with 2.35 points. It was followed by Frankfurt with 2.26 points.
READ ALSO: COMPARE: The cities in Germany with the fastest-rising rents
Why is housing so expensive in Frankfurt?
In Frankfurt, real house prices - that means they are adjusted for inflation - have risen by 10 percent annually since 2016, according to the UBS study. In no other major city in the world is the real estate market as overheated as in the Main metropolis. Rents have also increased by around three percent per year.
UBS said Frankurt's score "is in bubble risk territory, which is the result of extremely strong price growth".
"Currently, its price growth is still at the unsustainable level of 6 percent per year, though it has fallen below the national average."
This is down to several factors, experts say.
"Solid economic and employment growth have laid the groundwork for these market dynamics," said UBS. "The population has increased by more than 12 percent over the last 10 years.
"Although construction activity accelerated in the past few years, it did not keep up with rising demand. Consequently, rents have been climbing by almost three percent annually, making Frankfurt the city with the third-highest rental inflation among all those analysed.
"But extremely low mortgage rates and lax financing conditions were the real fuel of the housing frenzy. As rents have increased, Frankfurt has become a hotspot of speculative buy-to-let investments."
Researchers said builders have been focused on luxury flats "which has added to price inflation".
The skyline of Frankfurt. Photo: picture alliance/dpa | Arne DedertTo curb speculation, a second-home tax (Zweitwohnungssteuer) was introduced in 2019. People who own a second home in Frankfurt are liable to pay a tax that amounts to 10 percent of the annual net cold rent to the city per year.Â
But things may be changing as demand goes down.
"Frankfurt has become increasingly unaffordable; the average price-to-income ratio has doubled within 10 years," said UBS. "Alongside increased possibilities of remote working, population growth in the city has come to a halt, and people are moving away to more spacious locations in the suburbs."
The real estate and consulting company Immoconcept also believes there's a danger of a real estate bubble in Frankfurt.
In a recent study, they found that purchase prices and rents have risen for the tenth year in a row.
In the first half of the year alone, purchase prices rose by 17 percent.Â
The real estate consultant Colliers also reported on record prices for apartments in Frankfurt. In new construction, an average condo now costs €8,000 per square metre, and in older buildings it's about €6,000 per square metre. The annual increase in purchase prices has been around 12 percent since 2016, Colliers found.
The danger of a housing bubble is that speculators pour money into the market which makes places unaffordable. It can change neighbourhoods forever and fuel gentrification. The bubble bursts when the demand goes down.Â
READ ALSO: Why rent prices are starting to fall in major German cities
What's causing the boom in Munich?
Munich also scored highly on the list, although has slipped down the ranking from last year. The Bavarian capital has seen a lot of job creation and new residents over the last 10 years which has boosted the demand for housing.
"On average, real prices increased by more than eight percent per year between 2010 and 2019," said UBS in its study.
This is bad news for people trying to find affordable homes. "Given low financing costs, speculative investment is still an important pillar of demand. Overall, the city has become a victim of its own success," said UBS.
Munich has one of the highest price-to-rent ratios among all cities looked at by housing experts.
But the decline in affordable places to live, and the pandemic-driven need for more space, have shifted population growth to suburban locations, said UBS.
"Consequently, over the last few quarters price growth has stalled. And for the first time since 2012, rents have even corrected slightly.
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