Most real estate investors are increasingly focused on addressing the social aspects of environmental, social and governance strategies. Yet as there are few regulations, guidance notes or accepted best practices to follow, it’s not easy to set an approach. It’s far harder to measure than carbon emissions or other environmental improvements. This is particularly the case when it comes to affordable housing.

We use our own methodology to define, measure and assess the affordability of housing at the market, fund and asset level. Our €7 billion European residential platform provides a significant data sample. It gives us the ability to assess what affordability really means and to make more informed decisions across our residential strategies.

How do you assess affordability?

There is a chronic housing shortage, and it’s global. Analysis by the World Economic Forum estimates that 96,000 housing units need to be delivered every day from now to 2030 to meet the growing demand[1]. Our calculations suggest fewer than 18,000 units per day are being completed, which is less than 20% of the required amount.

Given the lack of supply, it’s no surprise that housing costs have grown far more than real household incomes, a trend that accelerated during the pandemic. Since 1960, median UK house prices have increased by four times the rate of household incomes[2]. With the shortage of supply seemingly irreversible, the problem is set to become more acute. This will result in greater housing poverty and fuel socioeconomic inequalities.

The real estate industry has been debating the subject of affordable housing for decades. But our recent paper European tenants: the search for affordable housing shows that there is little agreement on how to properly define the challenge, let alone a clear pathway to overcome it.

Defining and tracking affordability

We believe that defining what affordability means is the first step to building a solution. There are many definitions, and local nuances muddy the waters, but we can at least start with reasonable assumptions.

We classify a market rent as affordable if it’s less than 30-40% of estimated disposable household incomes in the local area. There are other measures, including setting a level that is 15% to 20% below the market rent. The reason for the income-range bracket is that affordability differs from country to country depending on various factors, such as the cost of living and purchasing power. In some locations, market rents have become so high that even a discounted level leaves affordability stretched.

Even with our preferred simple test of affordability, there are several nuances to consider.

abrdn’s Rental Market Affordability Diagnostics

Given these theoretical challenges, we have devised an approach that allows us to make more informed affordability assessments across Europe’s major cities. The starting point for this analysis is consistent data for metropolitan regions on the distribution of households across income brackets.

Our Rental Market Affordability Diagnostics analyse not only the tipping point for affordability, but also critically what share of households in the metropolitan region can afford to rent an apartment at the market rent. We have the flexibility to define what share of disposable income is spent on rent to adjust for local factors, such as energy bills being included in the rent or additional rent required to cover furnishings. In our analysis, the most common range of household income spend we apply is the 30-40% bracket. We can also choose the base year we want to use to run the analysis.

We have also added the potential to analyse the affordability of different apartment sizes to better understand the relative pressures in the rental market. Larger apartments will cost more to rent. But not knowing what proportion of households within a metropolitan area can afford each apartment type misses a crucial real-life aspect of some affordability measures.

Income distributions can vary significantly, even between Europe’s major cities. This has a sizeable impact on the affordability of the housing market across apartment types. Figure 1 shows that roughly 10% fewer households can comfortably afford to rent rooms, studios or multiple-room apartments in Berlin compared with Paris.

Figure 1: Income and rent characteristics in Paris versus Berlin. The bigger share of higher-income households in Paris allows more households in Paris to afford market rents relative to Berlin – where lower-income groups still make up a larger share.

Real-life applications of our tool

One of the key uses of the tool is that it allows us to overlay the real-life rental costs of apartments in our own portfolios to test the theory. abrdn manages more than 30,000 residential apartments valued at over €7 billion in Europe, so we have a deep pool of anonymised data against which to test our affordability tool. We can see how rents in our apartments compare with market levels and to affordability criteria across apartment sizes. We can overlay property characteristics and performance data to show how relative affordability affects the success of certain apartment blocks. We can also learn how to create and manage schemes that work for our residents.

While ensuring we manage apartments that meet the affordability criteria in each local area, the tool also allows us to explore what makes a residential property popular and successful among residents. After all, we believe happy residents are the bedrock of healthy and successful residential strategies.

Moving in the right direction

By creating a tool for assessing rental affordability across Europe, we now have a straightforward, repeatable, and flexible approach. It allows us to assess market affordability and provides context for our residential investments in Europe. This will not solve the housing crisis, but it ensures we are tuned into the affordability pressures of our residents and helps us take a more informed approach to our residential strategies. This way of measuring affordability is not an exact science and will evolve over time, but we believe it’s a transparent and flexible way to assess the affordability of rented apartments.