It’s no secret that Australia is currently in recession.
But what does that really mean?
How will this affect you, your job, your finances and the value of your home or your investment properties?
That's what I'm going to explain in this article that's necessarily a little longer than usual.
Firstly...
What is a recession?
A recession is a period of temporary economic decline during which trade and industrial activity are reduced, generally identified by a fall in GDP (Gross Domestic Product) in two successive quarters.
So far Australia’s GDP results for the first quarter of 2020 have been reported as negative and it is well known that the June quarter, which is over but the stats haven’t yet been reported, will show a significant downturn in economic activity.
Australia last experienced two consecutive quarters of negative GDP growth (a recession) in 1990-1991.
How Australia's recession in 2020 is different to previous recessions?
Recessions usually come after a period of substantial growth, speculation and general excess.
This time around, the Australian government has, rightly, sacrificed economic activity in the name of health in response to the COVID-19 crisis.
It’s not alone in this, as you’d well know.
Major economies worldwide have done and are doing the same thing, albeit in different ways.
An unfortunate victim of this is Australia’s almost 30-year run of economic growth, since we are experiencing our first recession since 1991.
But this time round it is an enforced shutdown and a significant disruption – it was not caused by anything fundamentally wrong with the Australian economy.
In fact we entered this recession with Australia’s balance of trade positive and an almost balanced budget, and at a time when our banking system was solid.
Further, our governments, and governments around the world, have learned from the past, particularly from the Global Financial Crisis, and have stepped in early with unprecedented relief packages for people and businesses to minimise the downside and build a bridge across to the good times.
At the same time, the government has provided financial support programs and encouraged the banks to offer mortgage deferrals, which means there is it will be unlikely that there will be many mortgagee sales which would otherwise destabilise our property markets.
Similarly, both commercial and residential tenants have been offering support packages and programs to minimise the downside.
Because of this, it is likely that once the virus is under control, we will recover more quickly than in previous downturns.
How long will this recession last?
Well it’s official… we’re in recession. Even though we've known this for some time haven't we?
Last week it was officially reported that the Australian economy fell 7% in the June quarter to be down 6.3% over the year.
The quarterly decline was the biggest on record going back over 60 years.
While Australia may have officially moved into recession it has done so through outside circumstances and has made sure that the world’s longest economic expansion finished with a bang.
This has been a bit worse than many market commentators were expecting and the fall was greater than the RBA forecast of a 6% fall in the June quarter.
New South Wales and Victoria were impacted the most, with their respective state economies shrinking around 8.5% each, while Tasmania was hit hard by the disappearance of tourism.
While huge government support softened the blow, a collapse in private sector demand overshadowed the stimulus.
While the economy tanked 7%, household income actually rose 2.2% during the second quarter, however much of this would have been related to government stimulus.
Similarly, unincorporated businesses enjoyed a 22% increase in earnings.
And with the Victorian lockdown lasting longer than we'd all hoped, many economists are concerned Australia will have a third quarter of negative growth.
. The blow to Victoria, which accounts for nearly a quarter of Australia’s GDP, could be between 10 and 15 per cent in the three months to September.Melbourne-based NAB chief economist Alan Oster has been in the profession for more than 40 years and he’s seen a fair few economic crises in his time, but he says nothing compares to this.
“In terms of sharpness in the decline in activity, this makes the recessions in the 80s and 90s look like child’s play,” Mr Oster says.
“Unemployment did get to 11 per cent in the 1990s recession, but it took two years to get there.”
“I would expect conditions, or certainly confidence, to go deeply south compared to where it was,” he says.
Craig James, Chief Economist at CommSec produced an excellent report giving there interpretation of the RBA’s August Statement of Monetary Policy together with Ryan Felsan, a Senior economist.
Here’s part of what the report explained:
Economic forecasting is always fraught with difficulties and that is even more the case in the current environment.
The key factor is how well states, territories and countries manage to suppress the virus.
To date, Australia has been travelling well on this path.
Then came the second wave in Victoria unexpectedly arrived and economic forecasts had to be downgraded.
Fiscal and monetary policy have been working in unison to support businesses and economies.
The risk is that support measures may need to be left in place longer and/or that new measures need to be applied.
Around $330 billion (16.2 per cent of GDP) has been outlaid by federal, state and territory governments to support the economy.
The Reserve Bank is now expecting a lower-case ‘v-shaped’ economic recovery.
Our economic recovery is now expected to be more protracted than first hoped.
Rather than rebounding at a 7 per cent annual pace in the year to June next year as previously forecast by the RBA, the lift is expected to be more like 4 per cent.
Unemployment is still tipped to top out near 10 per cent – but later this year, rather than earlier.
Unemployment may still be around 8.5 per cent by the end of 2021, rather than 7.5 per cent.
And inflation will be lower for longer and unemployment will be higher for longer.
So interest rates will remain at current levels through to 2022-23.
Clearly the economic future is more uncertain than usual.
We are in uncharted territory.
But, notwithstanding issues in Victoria, Australia generally is in good shape compared with other countries.
There is scope for more fiscal stimulus without the debt burden getting anywhere near the levels in the US, UK, Japan and China.
What can we expect moving forward?
As we move through the balance of this year and hopefully out of a recession we can expect:
- Higher Unemployment
There will be much higher unemployment, it will be harder to switch jobs, and it’s reasonable to expect more redundancies and terminations as the crisis continues. - This leads to a loss in income and falling wages, which …
- Reduces the spending power of affected Australians.
- Compounding that, even for those who are holding on to their jobs, uncertainty will rise – people worry about the future, they worry about their income, they worry about their employment prospects.
That will impact spending patterns, and how much people are willing to part with beyond the essentials. - The Real Estate market will take a hit.
- Because of social distancing and the inability to inspect properties and transact in the normal way. People are not used to change online options or inspecting properties digitally.
- Property transaction numbers will decrease – there will be fewer buyers in the market and there will be fewer sellers placing their properties on the market for sale.
- Property parties will drop slightly, but we are located investment grade properties and A grade homes will not fall much in value – possibly 5 to 10%, while secondary properties will suffer significantly higher price drops.
What happened to property last time Australia fell into recession?
When Australia experienced its last recession in 1990-1991 property prices had been flat or falling around the country even before the recession started.
Source: news.com.au
However, overall house prices didn’t crash during the recession, in fact, some locations including Brisbane’s property market thrived, while the Melbourne property market was the biggest loser and house prices there fell 6%.
What happened to property values during other economic shocks?
The following chart by Kate Forbes, National Director of property strategy at Metropole shows the relationship between house prices and economic growth is not direct and simple.
While overall, property values have been very resilient to economic shocks, there is no one property market in Australia, and different states have responded differently depending on their own economic circumstances.
What does always happen is that transaction numbers decrease significantly, but as you can see from the following charts, economic shocks, world economic downturns and recessions don’t necessarily mean a crash in Australian property values.
In fact, the charts above from Corelogic show that housing values have generally held relatively firm during these periods before showing a strong upward trajectory due to stimulus measures such as low-interest rates.
But transactional activity has been more affected, with annual sales falling 39% after the Black Monday stock market crash in 1987.
The Asian financial crisis in 17 saw housing sales fall by 22%, and sales were down 34% following the Tech Wreck in 2001.
More recently, the Global Financial Crisis saw the market activity drop by 23%.
What has been the impact of the recession on house prices so far?
As the following chart from Corelogic shows, our property markets have remained remarkably resilient during the challenging times we have been experiencing.
In fact, Sydney property values are still 9.8% higher than they were 12 months ago and Melbourne property values are over 5.9% higher than a year ago.
Source: Corelogic September 1st 2020
The key factor supporting prices so far is that few people have been forced to sell their homes due to losing their jobs or having their incomes cut.
This has been enabled by the government’s financial support packages assisting households whose income has fallen, in combination with banks allowing people in financial difficulties to defer mortgage repayment
Not every Australian housing market has performed the same way since the onset of the COVID-19 pandemic.
The latest CoreLogic Home Value Index results revealed that since March, Melbourne property values fell 3.5%.
Meanwhile, the ACT dwelling market reached a record high.
From June to July, the rate of decline eased across Perth from -1.1% to -0.6%, but deepened across Melbourne and Sydney.
The chart above shows the varied trajectories of capital city markets from the end of March.
The end of March is a good place for dating the ‘start’ of the COVID-19 pandemic in Australia, because Australia recorded its 100th case of COVID-19 on the 14th of the month, and the 25th of March saw the national rollout of stage 2 restrictions, which created much of the economic shock as business activity slowed.
Melbourne has so far seen the largest cumulative declines in property values since March (3.5%).
This was led by a 5.2% decline across the Inner East region.
The steeper decline across the Melbourne market is two-fold.
- Cyclically, Melbourne property is subject to more volatile growth rates, and is also presenting strong declines off the back of very high growth rates through the previous upswing.
- Structurally, there has been an enormous demand shock to the Melbourne property market with the closure of international borders, where Melbourne previously had the highest level of net overseas migration of the capital city markets.
This is similar to the Sydney housing market, which received the second highest volume of net interstate migrants over 2018-19.
Victoria has also seen the largest decline in payroll jobs of the states and territories, according to ABS data.
Conversely, the ACT has seen property value increases of 1.3% since March.
While the performance of the ACT market may seem like an anomaly, the ACT dwelling market is one of the few markets performing as may be expected amid the record low cash rate setting.
What will happen to Australia’s house prices during this recession?
This time around a drop in consumer sentiment and weaker economic conditions will again impact on dwelling values, but how much they will fall remains uncertain and will depend on how long it takes to contain the COVID-19, how long the social distancing regulations will be in force and what future additional support the government will give to shore up our economy and businesses.
I know some commentators are suggesting that house prices could even fall 20% or more, especially if the lockdown persists, the recession lasts a long time and unemployment levels get very high.
However, this is really a “worst case scenario” and definitely not the most likely scenario as we seemed to have “flatten the curve” and there is already there is talk of slowly but surely unravelling the lockdown and while many businesses are suffering they are keeping their employees thanks to the JobKeeper initiatives.
The most likely outlook for property is for prices to fall modestly in some areas and be broadly steady in others, combined with a slow increase in transactions from weak levels.
However, the problem with making this type of forecast is lumping all properties together.
There is not one Australian property market.
In fact, there’s not one Sydney or Melbourne property market either.
There are markets within markets dependent upon price point, type of property and geographic location.
So which part of Australia’s property market is predicted to fall in value by 10%?
Is it all properties? That’s unlikely.
Is it median house prices? Or will certain types of property fall in value much more than the other than others?
Not all property market will be affected equally
And while I don’t disagree that “overall” our property market could easily fall 10% in the short term:
- “Investment grade” properties and A grade (above average) homes could fall in value by around -5%
- B grade (average) homes could fall in value by up -10-15%,
- C grade (less than perfect) will be the hardest hit as there will be a flight to quality.
But this will be on a on very low levels of transactions and the pace of recovery from that point will depend on the state of the wider economy.
The key factor supporting prices so far is that few people have been forced to sell their homes due to losing their jobs or having their incomes cut.
This has been enabled by the government’s financial support packages assisting households whose income has fallen, in combination with banks allowing people in financial difficulties to defer mortgage repayments.
The worst affected residential markets will be:
- Apartments in high-rise towers – in fact this is these properties are likely to be out of favour for quite some time.
- Off the plan apartments and poor quality investments stock (as opposed to investment-grade) apartments, particularly those close to universities.
- Established homes in the outer suburban new housing estates, where young families are likely to have overextended themselves financially and with many people will be out of work for a while. Currently many first home buyers are taking advantage of the various incentive packages including HomeBuilder to buy newly constructed homes, leaving established houses in these locations languishing.
- Properties in the blue-collar areas.
But this will be on a on very low levels of transactions and he pace of recovery from that point will depend on the state of the wider economy.
What will Australia look like after the recession?
Like after every other economic shock, life will get back to normal again but somethings will be a little bit different
- Interest rates will remain low for the next few years – not just in Australia but around the world
- Our government will be lumbered with a significant amount of debt, but ongoing fiscal stimulus to our economy will be important. Fortunately the government can borrow it very, very low interest rates and has undertaken to do whatever it takes to get our economy going again.
- Inflation will remain low and the RBA’s the old target of 2 to 3% inflation will go by the wayside.
- Unemployment will be high and take a number of years to fall into the RBA’s preferred range of less than 5%.
- Certain industries are going to suffer while others will blossom as a result of the recession.
- Suffer:
- tourism
- education
- retail
- Prosper :
- Government – is likely a lot bigger
- Manufacturing – rather than globalisation, there will be more localisation as both a government and business will prefer to “shop locally.”
- Health
- Technology – as working-from-home (or telecommuting) will become increasingly normalised.
- Defence
- Agriculture
- Infrastructure – with perhaps an increased focus on smaller-scale projects
- Consumption – household consumption will likely show permanent changes in behaviour after the lockdowns.
- Suffer:
So is now the right time to buy property?
Having spoken with many property investors, business owners and entrepreneurs recently I find they are thinking in three different ways:
- Some are fear focused. They’re panicking, they’re frozen, they think the world is coming to an end. They don’t have a long-term focus.
They are closing down their businesses or selling up their investments.
They can’t see a future for themselves or their businesses and that’s a real tragedy because they won’t make it across the proverbial bridge the government has been building for us.
- Others are going into hibernation mode.
They’re bunkering down. They buy all the rice, pasta and toilet paper they can and stay low to ride it out.
They will cross that bridge but will experience lots of ups and downs in the meantime and lose a year or so of their life in the process.
- Then there’s a small group of strategic investors and business owners who are positioning themselves for the future.
They recognise that there is currently a strategic window, the time between now and that survival to get set to take advantage of the opportunities that always abound after severe downturns.
As property investors they are working with their consultants to set up a strategic property plan, they getting their financial and ownership structures in place and doing the appropriate research.
They’re not trying to time the market, but they want to take advantage of the opportunities the market is currently and will in the future be offering.
These strategic investors know that people will eventually come out of lockdown and want to get on with their lives.
These strategically focused investors know it looks bad today, it might even look bad tomorrow, but they’re prepared to hang in there, they’re prepared to lay the foundations for their future success.
Despite the headlines, they know that the world will not going to end.
They are prepared to bet on humanity.
They recognise that how they think and what they do between now and that survival line will determine their level of success when we move on to whatever our new normal will be.
So how are you thinking?
In which of these three groups of investors do you want to be?
How to survive this recession in Australia
Let’s finish off with a few recommendations
- Don’t overreact
Recessions are largely driven by how the population on a whole is feeling about the economy—not the economy itself.
Investors overreact, and some bargains will become available because of this in the stock market, and in the property market because sellers will overreact. - Think Long Term
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- Don’t make 30 investment decisions based on the last 30 days of news.
- Think 10 years down the road. If you want to really build significant wealth think long-term outside the normal ups and downs with economic cycle
- Don’t try and time the market
- Build a solid financial foundation
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- Have the right finance strategist by time not just properties
- Direct ownership structures to ensure you maximise your upside protect your risks, minimise tax and pass on your wealth to future generations
Now is the time to take action and set yourself for the opportunities that will present themselves as the market moves on
If you’re wondering what will happen to property in 2020–2021 you are not alone.
You can trust the team at Metropole to provide you with direction, guidance and results.
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