Not All Property Cycles Are The Same

As an investor it’s important to understand that not all property cycles are the same.

Why… because it is important to know how long this cycle will last,  what will bring it to an end and how long the slump may last.

The ANZ Bank recently released a report focussing on the housing cycle.

In particular, why the Bank doesn’t think the current cycles in activity and prices will play out like those in the past.

Here’s what the report says… Rates

Critically, the trigger for the current cycles was not higher interest rates as was the case in the past.

Rather, it was tighter credit conditions; some of which, admittedly, pushed interest rates a touch higher.

We think cycles triggered by credit will play out very differently from cycles triggered by higher interest rates.

In the bank’s view, the downturn in dwelling approvals seems to have been both shallow and short-lived, which supports this contention. 

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Similarly, the current downturn in house prices may also play out differently from those caused by higher interest rates.

If the RBA does not tighten policy in 2018, we think annual house price inflation will slow to the low-to-mid single digits by the end of that year rather than move into negative territory.

ANZ sees some support for this view in the stabilising of auction clearance

They actually think house price inflation will slow by more than this in 2018, but this is on the back of two anticipated RBA rate hikes.

If the RBA doesn’t tighten then ANZ thinks house prices will outperform this expectation.

Not all cycles are the same – the initial trigger matters

There has been quite a lot of focus on the current downturn in house price inflation, with some commentators pointing out that similar downturns in the past have been followed by RBA rate cuts.

While this might be true, it ignores the key differences between this cycle and previous downturns.

In particular, previous downturns in house prices followed a succession of RBA rate increases, which pushed mortgage rates sharply higher (Figure 1).

Figure 1. House prices vs mortgage rates

Figure01

Source: ABS, RBA , ANZ Research

Given that RBA tightening cycles typically impact a lot more across the economy than just house prices, we think it is difficult to argue that the slowdown in house price inflation was the primary reason for eventual rate cuts.

We think a rising unemployment rate was far more important (Figure 2).

Figure 2. Unemployment vs the RBA cash rate

Figure02

Source: ABS, RBA, ANZ Research

Critically, the current downturn in house prices has not come after a tightening cycle.

Instead ANZ think the most likely cause was the tightening in credit, though with a lag and interrupted by the impact of RBA rate cuts in 2016 (Figure 3).

Figure 3. Credit conditions vs house prices

Figure03

Source: CoreLogic, Property Council of Australia , ANZ Research

In the bank’s view a cycle driven by credit is likely to play out very differently from one driven by higher interest rates.

Interestingly, the most recent data on auction clearance rates suggest some stability after a period of decline.

If this broadly continues then we would expect house annual price inflation to stabilise in the low-to-mid single digits in 2018 (Figure 4).

Figure 4. Auction clearance rate vs house prices

Figure04

Source: CoreLogic, ANZ Research

The Bank’s forecasts have nationwide house price inflation slowing to zero in 2018, but this also includes the impact of the two RBA rate hikes they expect in 2018. reserve bank

If these don’t take place then they expect less of a slowdown in housing inflation, probably to the low-to-mid single digits mentioned above.

ANZ think support for the view that credit cycles play out differently from rate hike cycles can be found in the behaviour of dwelling approvals.

In late 2016, when approvals were falling sharply, there were a number of dire predictions about what that would mean for housing construction and employment.

But it has been clear for some time that the downturn in building approvals was shallower than in previous cycles.

They think this is because this cycle was not triggered by higher interest rates (Figure 5).

Figure 5. Dwelling approvals vs mortgage rates

Figure05

Source: ABS, RBA , ANZ Research

Instead, ANZ think a more likely cause was the tightening in credit that began in 2015 (Figure 6).

Figure 6. Credit conditions vs dwelling approvals

Figure06

Source: ABS, Property Council of Australia, ANZ Research

Interestingly, Figure 6 suggests that credit to the property sector was still tightening through the first half of 2017.

But by then building approvals had stopped falling and were starting to trend higher. graph of the housing

How do we line this up with our contention that the original trigger for the fall in building approvals in 2016 was the tightening in credit that began in 2015?

ANZ think the waning influence of the credit tightening on building approvals is actually a feature of credit cycles.

Namely, that over time the impact of the tightening diminishes as firms and individuals adjust by, for instance, doing more presales or adding equity.

In other words, credit might still be harder to get, but it is still available.

Certainly the leading signal provided by housing finance for construction and new dwellings suggests that the impact of the initial credit tightening was relatively short-lived.

Since then, this aspect of housing finance has been as reliable an indicator of building approvals as it has always been (Figure 7).

Figure 7. Housing finance vs approvals

Figure07

Source: ABS, RBA , ANZ Research

The property sector itself was also telling us by late 2016/early 2017 that the decline in approvals was over (Figure 8).

Figure 8. PCA survey vs approvals & starts

Figure08

Source: ABS, Property Council of Australia, ANZ Research

Our overall conclusion is that the cause of the cycle matters.

Expecting the current housing cycle to play out like those caused by movements in interest rates, strikes ANZ as likely to end in disappointment.

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Michael is a director of Metropole Property Strategists who help their clients grow, protect and pass on their wealth through independent, unbiased property advice and advocacy. He's once again been voted Australia's leading property investment adviser and his opinions are regularly featured in the media. Visit Metropole.com.au


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