Picking through a fresh slew of reports on the housing market released in the past couple of days, it looks like investors have about a year of grace before house price growth stalls out in Sydney and Melbourne.
Over the next year, the onslaught of new supply, especially in Melbourne, will start to hit the market at the same time as the interest rate cycle begins to turn. Over the next 12 months it will become clear that interest rates have bottomed and the next move will be up.
Most economists don’t expect an actual rate hike till late 2016 or 2017. But with CommSec yesterday forecasting that underlying inflation will reach 2.5 per cent to 3 per cent, or the upper half of the Reserve Bank’s target band by mid-2016, the preconditions for a move will become apparent.
Just the whisper of higher rates would be enough to take the wind out of the housing market.
And that’s likely to coincide with a massive boost to supply, primarily in the apartment segment. As Alliance Bernstein Asia Pacific senior economist Guy Bruten puts it, a 40 per cent plus increase in the number of dwelling starts is a “meaningful swing” in the supply picture, particularly against the background of slowing population growth.
He calculates that as population growth has slowed from 450,000 in 2008-09 to about 300,000, largely due to a sharp drop in net immigration, underlying demand for new housing to meet population growth has also slowed, from about 180,000 a year to 120,000 a year.
The key difference in this housing construction upswing compared with previous cycles is that high-rise apartments account for almost 30 per cent of new activity, compared with less than 10 per cent of new starts five years ago.
With many of those developments driven by foreign investment, a series of government policy changes such as extra taxes on foreign investors and increased FIRB scrutiny has the potential to undermine sentiment in that sector -- and destroy one of the key drivers of the current market.
Combine the Alliance Bernstein analysis with BIS Shrapnel’s three-year outlook report and we find that overseas migration has dived from 235,000 in the 2012-13 financial year to just 184,000 in calendar 2014, just as construction on new dwellings hit a record 210,000 starts.
Add to that another 200,000 new commencements due to start in the new fiscal year 2015-16, based on building approvals data, and the supply picture begins to look very worrisome indeed.
Building approvals were up 17.6 per cent in May from a year ago to a record 218,000 including a 46 per cent surge in apartment approvals.
Bruten estimates underlying demand for new housing is about 120,000; building approvals point to 410,000 new starts. Even if some portion of new apartments are bought by offshore (mainly Chinese) investors and deliberately left vacant, there will still be a giant overhang of supply.
Source: ABS, AB
Officials from Treasury were obliquely referring to this in the parliamentary inquiry into home ownership last week in their highly theoretical discussionbut they were loath to draw conclusions from the evidence.
CoreLogic RP Data was similarly coy yesterday in its outlook for the year ahead, but conceded Sydney won’t maintain the 16.2 per cent pace of growth seen in the last 12 months.
Affordability is a growing issue, gross yields are just above 4.3 per cent record lows and rents are not rising. Banks also seem to be responding to calls for tighter financing conditions.
Over the past 12 months, Melbourne prices rose 10.2 per cent, including 11.2 per cent for houses and just 2.4 per cent for apartments.
From the market trough in May 2012, capital cities have seen price growth of 26.8 per cent, led by a 43.1 per cent surge in Sydney and 25.9 per cent in Melbourne.
While prices may not fall across both detached housing and apartments when the market begins to cool, it’s hard to see how apartment prices could withstand the fundamentals that will converge in 12-18 months’ time. Already weak yields will likely soften further in the meantime.