A lot of property market commentary revolves around clever wordplay or semantic debate, but let’s cut to the chase in our monthly housing market update for July and take a look at what is likely to actually happen to the housing market.
Space here doesn’t permit a detailed drill-down across each region and every suburb in Australia, but we’ll aim to at least deliver a flavour of the macro picture and housing market fundamentals in a five-part blog post, commencing with…
Part 1 – Interest rates
We’ve already considered Australia’s macroeconomic picture in detail in many other posts.
Summarily, the growth of the economy in Q1 was driven overwhelmingly by net exports, and most data reported since that time implies a soft GDP print in Q2 with the near-term outlook for economic growth appearing to be fading as commodity prices decline.
Unemployment has ticked up to 6 percent, yet future markets seem to believe that headline inflation hitting the top of the 2-3 percent target band will put an end to the interest rate easing cycle.
That looks at best doubtful, particularly when one looks to split out the impact of tradables inflation (which has been rising quite sharply) from non-tradables inflation which is surely in a downtrend.
The headline and core CPI figures appear to have picked up largely as a result of the pass through from the weakening Aussie dollar, but this effect should now be washing out the other side with a strong reading in the September 2013 quarter due to drop off from the annual reading at the next print.
With wages growth the at the equal lowest annual level on record across 17 years of data in the ABS series – chugging along at an annualised pace of only +2.6 percent for the last two quarters – the forward-looking risks for rising inflation do not appear to be a huge…at this stage.
In short, there appears to be an each-way chance that the next move in interest rates could still be down.
At the very least it can be said with some certainty that there is no imminent threat of an interest rate hike, and this alone looks set to keep demand for the housing markets buoyant enough.
Moreover, the major banks are scything mortgage rates independently of the Reserve Bank, with 5 year fixed rates declining to record lows of under 5 percent, an exceptionally cheap cost of capital.
Part 2 – Demand
Demand for property in Australia is driven partly by very strong population growth of 1.7 percent per annum or around additional 400,000 persons, although notably the growth is taking place disproportionately in four capital cities and certain other parts of Queensland.
One of the key trends for housing market observers to follow is jobs growth, and here the unadjusted trend figures show that while the economy is adding jobs, the trend was soft in 2013, and has not yet returned to the robust growth rate that would be desirable.
Notably jobs growth has been non-existent on a net basis for some years in a number of states, including South Australia and Tasmania. It is possible that the Australian Capital Territory may face also labour market headwinds going forward due to restructuring in Canberra.
As a result of the employment growth in the southern states, the unemployment rate is too high for comfort in Tasmania where it has been above 7 percent for some time, and the same is true in South Australia where the seasonally adjusted unemployment rate has leaped to 7.4 percent.
Investor demand at record high
A key factor which we identified long ago for this housing market cycle will be the enhanced role of investors and massively increased demand for investment property driven by record low borrowing rates and some investors having been spooked by the most recent equities markets crash.
Real estate investor loans are continuing to rise very strongly in Victoria and Queensland, while the level of investor activity in Sydney is beginning to mimic what we saw in London many years ago.
As noted above, it was reported this week that the major banks are engaging in a turf war slashing 5 year fixed mortgage rates substantially, down to unprecedented lows of below 5 percent, arguably to keep the housing market rising.
All other things being equal, and in the absence of macro-prudential measures, the combination of low deposit requirements, rising prices and an ongoing quest for yield will likely drag further buyers into the property markets.
Part 3 – Supply
There is better news to come here for property owners and investors in the southern states with regards to dwelling supply.
At the national level, low financing costs and an outlook of rising prices have brought developers back into the fold as expected, and dwelling approvals have been cruising towards record highs.
In particular, national unit and apartment approvals have already crunched through all-time record heights as margins on multi-unit developments have gradually become more favourable since the early part of 2012.
It was quite rightly pointed out by Cameron Kusher of RP Data this week that not all dwelling approvals result in commencements, and this is particularly so for multi-unit projects where the project-specific risk for the developer may be elevated.
Nevertheless, as recorded in the chart below commencements are also rising strongly and we’ll see record numbers of apartments built this year.
Will this lead to oversupply risk? In some areas, indeed it will, as explored in a little further detail below.
Part 4 – Supply/demand imbalances?
The dwelling commencements data by state reveals great contrasts including how Victoria has been over-building quite dramatically in some locations, while supply in New South Wales has been woefully inadequate since the last property boom ended in early 2004, putting huge upwards pressure on the Sydney housing market as we anticipated years ago.
When considering where building activity has taken place at the state level, it becomes increasingly clear that while some states have flailed, Victoria has been building large volumes of detached housing in some locations over the past decade, and particularly so over the last five years following on from the tremendous run-up in dwelling prices.
And Melbourne in particular has also been building ever more apartments, churning out new stock at an accelerated rate for some years.
This surely must manifest itself in higher vacancy rates, and at some point will likely translate into a slowing property market, although naturally speculative behaviour and rock bottom borrowing rates can easily see prices overshoot at this stage in the cycle.
Just as in the stock market, prices are only linked to fundamentals by the proverbial mile-long rubber band, but ultimately at some point they must snap back into line.
I own property in Victoria myself but would have to concede that the state-level supply figures imply that after a substantial increase in values since 2006, price growth will eventually fall due for a reversal.
The chart above shows that Sydney is also now ramping up its apartment building dramatically which will lead to oversupply medium- and high-density dwellings in some inner south locations as well as potentially in the Central Business District itself.
Vacancy rates are now elevated in Melbourne, and stock on market has ben tracking at well over 40,000 which is way higher than in the only state of an equivalent size, should also eventually act to pull up dwelling price growth.
On the other hand our chats above show that there has been very little ramp-up in dwelling construction in Hobart or Adelaide since there has been so little price growth over the past four or five years to inspire developers.
I the true spirit of a housing market cycle, this lack of building is translating into tightening vacancy rates in Hobart and Adelaide, and over the near term an increase in transaction activity suggests that prices should now rise in Adelaide.
Part 5 – Dwelling price forecasts
I explained the rationale behind our 2014 dwelling price forecasts by city here, but will we be accurate?
It should go without saying that city-wide median prices are necessarily of relatively limited value to investors acting rather as one useful indicator, but we present this information here as part of our macro picture overview.
There has been plenty of debate about the merits or otherwise of RP Data’s Daily Home Value Index, but it’s nevertheless been a huge talking point and price movements are reported religiously each week and month in the media.
With only three days left in July, below is what we’ll see approximately for the past month, quarter and year by capital city.
Monthly figures are fairly volatile as expected with Sydney notching 2% growth in July and Melbourne recording some wild manic-depressive swings of late, but over the past quarter dwelling price growth appears to have moderated somewhat on a national level.
Sydney and Melbourne flash up as having recorded growth of around 2% over the quarter, but this iss partly offset by a 2.3% decline in Adelaide.
Some media talking heads and outlets have been gung-ho in torturing the Adelaide figures for a confession this year, highlighting monthly and even weekly gains as ‘evidence’ that the South Australian capital has been the strongest market.
Obviously anyone who can read a simple chart can clearly see that this has not been the case, but as I’ll explore below, thanks to low interest rates and a tightening market the time for improved dwelling price growth in Adelaide is finally upon us.
Sydney’s economy looks very strong, with low unemployment and infrastructure and dwelling construction fueling economic robust activity and economic growth set to track at around a pleasing 3 percent over the coming years.
Our forecast of +6 percent to +9 percent property price capital growth for 2014 appears to be well on track, with preliminary auction clearance rates still punching at around 76 to 77 percent last weekend and demand from investors having continued to rise almost exponentially.
Melbourne is probably the most interesting case in point for the capital cities. I read Louis Christopher of SQM Research in API Magazine stating lately that:
“There’s no boom in Melbourne. This is just a joke. It’s not happening, full stop. A pocket we can talk about is inner-ring freestanding homes, yes we’ve seen strong capital gains there. The rest of Melbourne has done nothing”.
Yet below is what RP Data’s daily index has recorded for the year-to-date as compared to our +2 percent to +5 percent price growth forecast for 2014.
Christopher produced his own research via SQM’s Asking Price Index to show that while there has been a “modest recovery”, the market is now slowing.
In stock market cycles it is frequently observed that fewer and fewer stocks driving the market to new highs is a sign of an imminent market reversal. Whether or not this is what we are now seeing in Melbourne remains to be seen.
Auction clearance rates have declined from their peak and have been well down on those seen in Sydney, but nevertheless have remained reasonably robust, but there’s a swathe of stock on the market and vacancy rates are relatively high on a city-wide basis.
Summarily, our view for Brisbane is that the prospects look bright for the few years ahead in the housing market after a lean run spanning several years.
Market activity looks to be picking up and median price gains in 2014 look set to test the top end of our forecast range by the time the year-end rolls around.
Over the longer term, the economic fundamentals show that Adelaide has some substantial challenges and hurdles ahead.
Net-net South Australia has added a total of zero jobs to the labour force since 2010, unemployment in South Australia is the highest in the country at 7.4 percent and population growth (whether by cause or effect) is relatively weak both in absolute and percentage terms.
However, housing markets by their very nature move in cycles, and with house prices failing to match inflation for some years now construction activity has been muted, and the market is tightening.
And importantly, Adelaide has one ace up its sleeve as compared to the other major capital city markets in Australia: affordability.
The number of sales transactions is rising, and therefore while RP Data’s index actually shows median prices declining it now appears likely to us that prices should eventually challenge and possibly eclipse the top end of our forecast 0-3 percent price growth forecast range.
However, that said, it does seem that price growth in this cycle could be capped given the weakened state of the local economy and other fundamentals noted above.
The ABS Lending Finance data series shows that aggregate demand from investors in South Australia remains below where it was in Q4 2007.
Meanwhile, the weak employment data therefore suggests that rising prices are overwhelmingly to be driven by low interest rates rather than jobs and population growth, which logically suggests that there ought to be a limit to how far prices might be stretched in this cycle.
I considered the outlook for Western Australia in some detail here. Our forecast was for flat dwelling prices in real terms in 2014, and this looks likely to play out as the remainder of the year unfolds.
The economic outlook for Canberra and Hobart remains somewhat subdued and we believe that our forecasts could be on track, although we’ll watch out for an upside surprise from Hobart.
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