If I’ve read one story about a property bubble lately, I’ve read a hundred.
Barely a day goes by without another warning from some property pessimist, columnist or overseas economist about a looming price collapse.
So let’s get things straight up front – there is no property bubble in Australia – at least not yet!
And the next point we should clear up is that there is no “national housing market” – prices vary wildly from place to place and always will.
While Sydney or Melbourne may look pricey, that doesn’t make a bubble, and Australian property prices are not in danger of crashing despite record-low interest rates spurring substantial price growth in the Sydney and Melbourne property markets.
To better understand why I say this let’s do a Q&A.
What is a property bubble?
A housing bubble doesn’t just mean high prices — prices can just be high in response to basic supply and demand.
A housing bubble is defined by rapid rise in property prices, where house prices are a long way away from what is fundamentally considered justified and generally occur when highly leveraged speculators enter a market for short-term growth.
And it is usually also associated with strong credit growth.
What happened to property prices in the last year?
The latest house price results from Corelogic suggest a rather tame residential market (other than Sydney):
As you can see, in the year to March 2015, dwelling prices rose fastest in Sydney (+13.9%), followed with a considerable margin by Melbourne (+5.9%) and Brisbane (+2.7%).
In three of Australia’s capital cities, however, prices actually declined over the year: Perth (-0.1%); Hobart (-0.3%); and Darwin (-0.8%).
In regional Australia dwelling prices increased by only 1.9% over the last year.
What happened to property prices this cycle?
In most cities, the post–GFC price cycle bottomed out during the second quarter of 2012 and since then the current cycle has seen dwelling prices increase to different degrees in each of our eight capital cities.
The cumulative increase is illustrated in the chart below.
The strong home price growth in Sydney over recent years follows a weak decade for property value growth in Australia’s largest city and is now the result of over a decade in under building in Sydney leading to a huge deficiency in stock of dwellings there.
In order to get new dwelling construction started again in Sydney we needed house prices to rise and in fact despite the new construction occurring, we are unlikely to have made up for this deficiency when interest rates start rising in around two years time and eventually slow the market.
The following graph shows that over the last decade Sydney property values rose an average of 4.8% per annum – hardly bubble material.
Is it all about low interest rates?
No – even though low interest rates have been a positive factor, clearly cities other than Sydney and Melbourne have enjoyed low interest rates also, yet their markets aren’t firing.
Local markets are also affected by:
- The strength (or weakness) of the local economy, which leads to…
- Consumer confidence (or lack thereof); as well as…
- Unemployment levels and job security and…
- Local property supply and demand ratios
What about our high levels of debt and mortgage stress?
An understandable concern for some is what would happen to all those property owners when interest rates eventually rise because they’ve taken on all this extra debt in today’s current low interest rate environment.
In its recent Financial Stability Review the RBA found that low interest rates have made the servicing of household debt much easier and the level of household financial stress in Australia is declining considerably.
In fact non-performing household loans are extremely low in the current low interest rate environment, at just 0.6% as at Q4 2014 down from 0.9% in 2011.
Moreover, because mortgages repayments may continue to be scheduled at the same level even if interest rates are cut, many Australian households have built an enormous aggregate mortgage buffer, many being more than two years ahead of scheduled repayments at the current level of interest rates.
Further investors are protected in our major property markets by the fact that they are investing in markets that are dominated by non-investors who are not likely to sell their homes if interest rates rise or if economic conditions turned sour.
Dr Andrew Wilson, chief economist for Domain, provides the following graphic for the Sydney property market which is obviously the market concerning some as currently around 50% of purchases there are being made by property investors.
However, even there the percentage of the population that are at risk of defaulting on their interest rates rise is minimal (4.3%).
As you can see below:
- 32.6% of Sydney’s population are tenants and they won’t be affected when interest rates rise.
- 31.4% of Sydney’s population own their homes outright and are not vulnerable to rising interest rates.
- 31.7% of Sydney’s population owns a home, but their mortgage repayments are less than 30% of the incomes meaning these families are unlikely to experience mortgage stress if interest rates rise.
- Only 4.3% of Sydney’s population has mortgage repayments that cost them more than 30% of their income and this group will be vulnerable if interest rates rise significantly.
What could cause our property markets to collapse?
It’s not as simplistic as the bubblers think. House prices “collapse” (not cyclically correct, but collapse) when people are forced to sell their homes and there is no one willing to buy them.
Sure the market will turn again one day, but that doesn’t mean property values will crash. In fact they never have since housing market data has been collected in Australia.
What tends to happen is people choose to simply remain in their home and wait things out while most property investors also try and hold on rather than realising their capital loss.
A true collapse in house prices would require some large external shock such as:
- High unemployment to trigger a wave of forced home sales. While unemployment is likely to creep up a little further this year, no one is suggesting we’ll have a crippling unemployment rate in the foreseeable future.
- High interest rates that would cause a raft of homeowners to default on their mortgages – again unlikely in the foreseeable future.
- A recession that would cripple our economy. This doesn’t seem to be on the radar of any economist for the foreseeable future. Or…
- A severe oversupply of property. Now this could occur in a few isolated markets but generally we have an undersupply of properties around Australia.
So what’s ahead?
I see this year as one of very fragmented major property markets.
Each state will be driven by it’s own local supply and demand ratios and in particular by it’s own local economic factors:
- NSW is likely to be the top performer with strong diverse economy growth.
- Queensland’s economy is being helped by the falling dollar assisting exports and tourism.
- Victoria’s economy is set for a decline as its manufacturing base wanes but its strong population growth will be a positive.
- WA’s economy is hurting as the mining building boom fades as well as from lower iron ore prices.
- SA’s economy is showing early signs of revival, but it will be a gradual and lengthy process.
- Tasmania’s economy is likely to continue to underperform.
- NT’s resources based economy is creaking.
At a macro economic level, low interest rates will continue to fuel our property markets but there are some concerns on the horizon.
- We have a mixed national economic outlook, with many stumbling blocks ahead of us.
- The economies of our major international trading partners are wavering. While the US is slowly reviving, it is only just stumbling along and growth in China is slowing.
- Our government’s ability to spend in order to revive our economy will be constrained by its high deficit and a hostile opposition.
- The lower Australian dollar will make imports (which in reality is much of what we buy) more expensive, thus lowering our living standards.
- Wages growth will be subdued in our low inflationary environment placing a lid on housing affordability unless rates get cut further.
Are there some positives?
Sure there are – the two big long-term factors affecting property price growth are:
1. Population growth, and
2. The wealth of the nation
Combining both these factors will be a powerful stimulus for property price growth – more people needing to live somewhere, and being able to afford to pay to do so.
There is little doubt our population will continue to increase as Australia imports people to help replace the retiring baby boomers. In fact our population is likely to grow by 10% in the next five years alone.
At the same time we are geographically situated in that part of the world that is going to drive the world’s economy in the next few decades.
This flood of wealth in our region will bode well for property in Australia, as foreigners will be keen to divest some of their money into Australia, which is seen as a safe economic and political haven.
Some will buy property here to give their children access to better education, while others will buy property to strengthen their future residency/visa applications.
At the same time, Australia will remain amongst the wealthiest of all the nations in the world.
The final word
All the unease about a housing bubble is unfounded, but if property values do keep rising at the rate they have in Sydney and Melbourne (which already seems to be slowing) we could get ourselves in trouble and have a correction (not a crash.)
However, as I’ve said before there is not just one property market in Australia.
Correct property selection will be more important now than ever for property investors.
- Only invest in our big capital cities – the economic powerhouses of our country, and avoid regional property markets.
- While many Australians will have lower wages growth, others will enjoy significant wages growth. Therefore invest in those locations where the owner occupiers have higher and growing disposable incomes – in general these will be the inner and middle ring suburbs
- Invest in the type of property that will appeal to aspirational owner occupiers who can afford to push up values of similar properties around you and avoid new and off the plan properties and houses in the outer more blue collar areas (where wages growth is minimal)
- Buy properties to which you can add value as the market is unlikely to do the heavy lifting this year.
Michael Yardney is a director of Metropole Property Strategists, which creates wealth for its clients through independent, unbiased property advice and advocacy. He is a best-selling author, one of Australia’s leading experts in wealth creation through property and writes the Property Update blog.