Whilst the cause is different, this next chapter for Australian property markets closely resembles a previous chapter that began in 2017. It also has a hint of 2020 beat-the-seagulls-to-the-chip about it. I’m all-chips-in.
The hourly drivel in people’s devices referring to a ‘national downturn’ is an insult to human intelligence. The last time I checked, Sydney and Melbourne are just 2 cities among a nation of circa 200 townships with a population of 10,000 or more.
Australian property markets performed incredibly well during the first half of 2022. Of the capital cities, Brisbane (13.9 percent), Adelaide (12.4 percent) and Hobart (6.6 percent) had the strongest 6-month growth while Melbourne (2.2 percent decline) was the softest, but certainly not a bust.
When annualising the 2022 H1 results, 5 of 8 capital cities were running at double-digit capital growth rates. Outstanding stuff.
The strongest performances were, once again, in many regional locations where housing supply is tighter and local economies are stronger than all capital cities.
It should surprise no one that the record high rates of growth from the last 2-years have receded in recent months. ‘Reduced rates of growth’ is still GROWTH though.
Generations of proof says a ‘normal’ year for real estate is when the median house price increases by between 2 and 8 percent. The mathematical multiplier for an asset to double in value over 10-years is 7.2 percent per year (or an average of 0.6 percent per month).
FAKE HORROR MOVIE
Now more than ever, those who are interested in real estate need to be acutely mindful of generalistic and downbeat reporting. Unfortunately, this may never change.
Whilst many of Australia’s property market fundamentals have not changed over the last 6-months, there have a been a few material changes.
A change in federal government for the first time in 9-years is among them, but the biggest change is a sooner (and sharper) than initially expected increase in interest rates.
As recently as November 2021, the RBA were saying they were in no rush to start increasing rates and that it may be 2024 before that commenced.
Propertyology’s 2022 Property Market Outlook (published last December) included a provision for no interest rate rises prior to Q4 2022.
The COVID-related port congestion in China (the world’s largest supermarket), tension between Russia and Ukraine (a major global producer of many important commodities) and the resultant inflationary pressures from the clogged supply chain has prompted the RBA to pull the trigger earlier than expected.
The RBA’s decision to progressively return interest rates to a normal level is very sensible, not scary. It is also a strong endorsement for the strength of the national economy – the best in 50-years. Generations of proof says economic conditions and housing supply (not interest rates) have the biggest influence on sustained property market performance.
Let’s not forget that home loan rates increased from 6.3 percent to 9.5 percent between 2002 and 2008 yet house prices doubled over the same 6-year period in large parts of Australia.
Notwithstanding that household finances have never been stronger, the initial behaviour of real estate buyers suggests they are spooked by the change. An addiction to drivel in one’s device often muddles the minds of many – just cast your mind back to H2 2020.
The spookish reaction creates a window of opportunity for composed buyers, one in which I personally took advantage of by adding to my own property portfolio just last month.
While one segment of the public take time to get their head straight, those who exercise composure and review the fundamentals – I’ll summarise them for you shortly – can seize the opportunity and act in the best interests of their future.
LESSONS FROM HISTORY
In the overall scheme of things, the current RBA cash rate of 1.35 percent is pittance.
Over the last 50-years, interest rates have gone up and down dozens of times, there has been long periods when inflation was circa 10 percent, Australia went through 4-recessions, economic booms, a GFC, several wars and the recent health pandemic.
To appreciate the resilience of Australian real estate, just ponder the trajectory of Adelaide’s median house price over the last 50-years.
It tripled in value from $11,000 in 1970 to $36,000 in 1980. Then a similar rate of growth to $97,200 by 1990. It began this century at $143,000 and had increased to $407,000 by 2010. In 2020 it was $505,000 and is currently $700,000.
5-decades of proof suggests it is poor strategy to sit on the sidelines to ‘see what happens.’ The foundations for the biggest gains are usually made during moments just like now.
The rising interest rate period ahead is nothing more than a small moment in time – maybe a 12-month window while the RBA works towards a ‘new normal’ and those who are susceptible to jumping at shadows realise that horror movies are fictional.
REWIND TO 2017 [and REPLAY]
This period ahead reminds me very much of the 5-years that commenced in early 2017.
If you’re reading this report and already have the capacity to invest in real estate, let this Case Study replace the drivel that fills your device.
By early 2017, property markets in Sydney and Melbourne had been booming for 4-years. During the boom years, the local construction sector had been overstimulated. Just as the over-supply was about to take grip, a major macro policy was at play (APRA’s tight credit policy made it very difficult for people all over Australia to acquire finance).
By mid-2017, life’s biggest lemon suckers were yelling through everyone’s device that “…this is the beginning of a ‘national’ property market downturn…”
Intelligent people don’t take commentary as gospel, nor do they conform to consensus. Instead, they properly assess things using good quality information (which is rarely found in the media).
Those who did this for property markets in 2017 would have understood ‘why’ Sydney and Melbourne had some pain ahead, while also understanding that localised fundamentals in many other parts of Australia were significantly better. They acknowledged that the major macro influence (APRA) wouldn’t exist forever and that there was a window of opportunity while fewer buyers were around.
The benefit of remaining composed, ignoring the noise and taking action was 50 to 100 percent capital growth over the following 5-years.
The capital growth rate examples in the below graphic illustrate the gains made by action-takers and lost opportunity to those who got spooked and waited to ‘see what happens’.
2022 has a big sense of 2017 deja vu about it.
Sydney and Melbourne are (again) at the unwanted forefront. The major macro-influence this time is rising interest rates and inflation.
Just like 2017, the current media commentary depicts a horror movie. Large volumes of would-have-been buyers are already getting spooked by the storyline.
2-TIER PROPERTY MARKET
For the record, I think it’s possible that, over the 18-months to June 2023, Sydney and Melbourne might lose between 10 and 15 percent of their 40 percent gain from the 5-years ending 2021.
Propertyology has consistently flagged this possibility throughout the last 2-years.
Sydney and Melbourne, once again, have higher housing supply than the rest of Australia (new construction supply, rental supply, and resale supply).
They also have higher mortgages, they produced negative population growth over the last 2-years and a legacy of COVID is significantly softer local economies than much of the rest of Australia.
The evidence in the above snapshot shows a few key metrics for most of the rest of Australia are significantly better than Australia’s two most congested cities.
Understanding this new window of opportunity requires an appreciation for the current record low rental supply, fast-rising rental incomes for property investors, very low resale supply, rising construction costs forcing up the price of new supply, a ‘full house’ workforce and the strongest ever household finances.
Our ancestors will be embarrassed by those who are spooked by interest rates increasing from near zero to a bit more than zero. Get a grip.
This fake horror movie creates a window of opportunity for property investors which is somewhat similar to the beat the seagulls to the chip opportunity during the 2020 national lockdown.
The spooked behaviour of the ill-informed decision-maker will produce a significant reduction in buyer activity, making way for the composed investor to pounce in locations with fundamentals which are far superior to Sydney and Melbourne.
I don’t think it will take long for the RBA to find its ‘new normal’. Those who originally got spooked will then dust themselves off, buyer activity will accelerate, and those who previously entered the window of opportunity will enjoy the largest portion of asset value growth.
PROPERTY MARKET FUNDAMENTALS
Housing Supply
- Resale housing supply listings remain at or very near record lows. For perspective, the national population increased by 3.7 million people over the last 5-years, yet the national volume of dwellings for sale retracted sharply from 333,805 (June 2017) to 221,572 (June 2022). To illustrate the current 2-tier nature of Australian property markets, Sydney-Melbourne’s listings volumes have increased from 59,394 in June 2017 to 64,952 in June 2022, whereas supply across the Rest of Australia has plummeted (from 274,411 to 156,620).
- Rental supply volumes continue to be at crisis levels. Any of Australia’s 7 million tenant population contemplating a move only had 36,478 dwellings to choose from in May 2022 compared to 77,198 in May 2017. Regional Australia is the tightest, down from 28,569 to 7,865 over the last 5-years.
- The price of new dwellings is being forced up by the cost of materials and labour increasing by circa 30 percent over the last 12-18 months.
- The delivery of new housing supply continues to be delayed by global and domestic material supply blockages.
Household Finances
- According to RBA, Australian households currently have $260 billion worth of liquidity, most of which is squirrelled away in mortgage offset accounts and redraw facilities
- Household balance sheets are the strongest ever (real estate values have increased by between 20 and 50 percent over the last 2-years alone). Most Australians have never previously experienced this level of wealth.
- Most mortgage holders use a set-and-forget direct debit system for their loan repayments so, as interest rates dropped in 2019/20, a higher portion of their repayments went towards principal reduction. Consequently, a large portion of households have significantly less debt now than 5-years ago.
- The household budgets of an overwhelming majority of mortgage holders will not be affected at all by interest rate increases because they’ve been paying well above the minimum required loan repayment for many years.
- Households that have taken on extra debt in recent years were required to jump through the most stringent credit assessment in the world, including proving their ability to service debts with a 3 percent buffer. Those who suggest there will be a big spike in mortgage arrears and distressed sales are seriously delusional.
- The 2.7 million Australians that are defined as ‘minimum wage’ participants (20 percent of the workforce) received a 5.2 percent wage increase from 1 July 2022.
- Upward pressure on everyone’s wage is intensifying due to businesses having to compete harder than ever for skilled labour.
Economy
- Australia now has the lowest unemployment rate in 50-years and our workforce is displaying a ‘full house’ sign. Compared to pre-pandemic levels, Australia created 668,000 extra jobs over the 3-years to May 2022 (a 5.2 percent increase). Sydney (3.2 percent) and Melbourne (3.7 percent) had produced significantly less jobs than numerous other locations in Australia.
- A further 480,000 jobs were advertised in May 2022. This equates to 1 in 25 businesses trying to recruit. The narrative should be a success story, not a horror story.
- According to the ABS, business turnover for the year ending May 2022 had already increased by more than 10 percent in 10 out of 13 industry sectors, including more than 20 percent increase for businesses in manufacturing, transport, electricity, administrative services, IT and mining.
- Commitments for national infrastructure investment over the 3-years to 2025 is at a record high $218 billion.
- Australian businesses and government revenues are beneficiaries of intense global demand for commodities such as agriculture and natural resources. Let’s celebrate.
Other Demand Factors
- Overseas migration has recently commenced again. Australia desperately needs the skilled labour, but I fail to see where an extra 10,000 immigrants will live let alone the typical benchmark of 200,000 per year. Shelter is a valuable currency to own.
- First home buyers have rising rents plus various government incentives as driving forces to enter the market.
- The federal government First Home Deposit Scheme has been extended to 40,000 dwellings per year requiring only a 5 percent deposit (2 percent deposit for single parents).
- Recent stamp duty reforms in NSW and Canberra replace the previous large upfront tax with a more manageable annual tax. Removing the stamp duty barrier clears a path for higher buyer activity.
- Those who value financial independence will be attracted to putting their recent equity gains to good use and investing in real estate at a time when rental incomes are the strongest ever and interest rates are still relatively low.
- The lifestyle movement is seriously real. Home upgraders, the work-from-anywhere phenomenon and regional relocations have never been more popular.
- Credit policy is expected to remain stable (soft market conditions in Sydney and Melbourne significantly reduces any potential for APRA to tighten).
YOUR FUTURE, YOUR CHOICE
No matter what year we are in, I’ll continue to preach that it is always a good time to invest. If you can afford to invest, the most important question is always ‘where?’, not ‘when?’ If you don’t do it, no one will do it for you, and you’ll be worse for the missed opportunity when you want to retire.
That’s why my wife and I invested some more of our hard-earned on a $705,000 investment property just last month. As all responsible people do before making important decisions, we stress-tested the household budget and then, instead of getting dragged down by external commentary, focused on accomplishing goals, our purpose and our future.
If the asset increases in value by an average of 7.2 percent per year (0.6 percent per month) for the next 10-years it will be worth twice what I paid for it. Conversely, the equation for sitting on the sidelines is as simple as ‘0 x 0’.
One’s own choices include getting paralysed by the fake horror movie (fear), feeling sorry for oneself (bad attitude), or making a balanced assessment of one’s own situation using this window of opportunity (achievers).
REVISED FORECAST
The RBA are anticipating that inflationary pressures will start to ease during Q4 2022 and into 2023. As for interest rates, the RBA appears to be on a mission to return the cash rate to a sensible level quite swiftly – I applaud that approach.
All things being equal, I think the ‘new normal’ will end up being a cash rate somewhere around 2 percent. This is a similar level to 2013-2019 and one which, for reasons previously explained, almost all mortgage holders will comfortably cope with.
The RBA impact is more about ‘feelings’ than ‘finances and fundamentals’.
I anticipate that buyer activity will subside from the 2021 record high of 620,000 real estate transactions to circa 380,000 over the next 12-months.
Before too long though, those who initially got spooked will gain composure, the spike in buyer activity will be met with competition for below average supply, and asset values will surge.
When we look in the rear-view mirror in 5-years’ time, the biggest winners will be those who purchased during this next 12-months.
The best performed property markets will possess a combination of low housing supply, strong local economies and lifestyle attractions (noting the latter is highly subjective).
Propertyology is confident that we are already investing in several of these locations across a variety of states.
We are always on the lookout for the next Hobart, Orange, Ballarat, Burnie, Coffs Harbour, Launceston and Mildura.
The days of rising tides that lifted all ships are definitely over. The softer fundamentals in Sydney and Melbourne have potential to produce a 10 to 15 percent house price decline from January 2022 to June 2023.
Adelaide, Brisbane, and Perth are likely to return to normal rates of growth over the next 12-months (4 to 10 percent).
Hobart still possesses the best overall fundamentals of all capital cities (economic and supply), but recent market activity suggests local buyers are now having a spell from what’s been a 7-year incredibly strong run.
As is the case every year, the best-performed property markets will again be among Australia’s 200 regions of substance, as opposed to the 8 capital cities.
At the end of the day though, 12-months in real estate is akin to a pimple on a pumpkin. I would not be surprised if house prices in some parts of Australia still double in value over the next 5 to 6 years.
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