By Paul Rickard

With the spring selling season about to hit full gear, buyers may just want to take that extra deep breadth before raising their hand to bid at auction – because the data is pointing to a cooling in the residential property market. Not a collapse, despite what some scaremongering commentators are keen to suggest, because this market is not in a bubble. Rather, a softening of demand as investors take a breather – and supply starts to meet demand

What’s the evidence to support this cooling assertion?

Clearance rates are falling as price growth slows 

Firstly, let’s start with auction clearance rates. While still at high levels, the following chart from CoreLogic RP Data shows that these have started to soften. Compared to the over 80’s type results that Sydney and Melbourne were getting some weeks ago, the most recent weeks have seen clearance rates slip to the mid-seventies.

Auction clearance rates 

Source: CoreLogic RP Data

Home prices, or at least the rate of growth in prices, also appear to be slowing. Despite very healthy year-on-year growth rates of 17.6% for Sydney and 10.6% for Melbourne, last month saw increases of just 1.1% for Sydney and no change in Melbourne. 

Nationally, CoreLogic RP Data says that the rate of growth in dwelling values in August was only 0.3%.

Home Value Index as at 31 August 2015 

Source: CoreLogic RP Data

Reserve Bank data that looks at the annualised growth rate in prices over rolling 6-month periods, highlights some other concerns. It demonstrates a divergence between growth rates for houses (red line) and that for apartments.

Banks getting tougher on investors

If you are an investor, it is going to be harder to access finance. The Australian Prudential Regulation Authority (APRA) has mandated that the banks bring their growth rate in investor property loans down to 10.0% per annum. Westpac reported on Monday that growth for the year to 31 July was 10.7% and is on track to hit 10% by the end of September.

To reduce demand, the banks have taken a number of actions that will squeeze prospective investors out of the market. These include:

  • An end to high leverage ratios. Loan to valuation ratios must be no more than 80%;
  • Tightening loan-servicing tests. Exclusion of some forms of income (such as bonuses), assessment of servicing capability at higher interest rates; and
  • Re-pricing of existing loans, an end to interest rate discounts on new loans, and differentiation between base investor and owner occupied rates – the former now about 0.25% to 0.30% more expensive.

Some smaller banks have put a stop to investor lending, while others have stopped lending to self-managed super funds. All banks have taken some measures to restrict investors.

While this may help to ease the competition between investors and owner occupiers such as first home buyers, the more immediate impact on the market is to reduce demand.

Don’t ignore the sharemarket’s correction

And property investors shouldn’t ignore the impact of the recent fall in the Australian stockmarket, which is now in a correction territory and is off 13% from its peak in February. While there is no direct correlation between the sharemarket and the property market, markets never operate in isolation forever. If one market cheapens and becomes more attractive, the other market will eventually follow suit. 

For example, yields on bank shares are now around 6.0%, fully franked. Grossed up to take into account the benefit of franking credits, this is over 8% per annum – which makes rental yields on some Sydney and Melbourne properties of around 3.5% look pretty ordinary.

And supply is coming!

Finally, we are starting to see the impact of some supply. It has been a long time coming, and both anecdotal data such as the “crane index” and official building approval data confirm that there has been an increase in construction. While a real lift in the pace of building new single dwellings needs state governments to release land, there has still been a lift compared to 2010 levels. 

P

Source: RBA, ABS

No bubble, but cooler days ahead

Bubbles burst – but there is no bubble in our property market. It is just a strong market (at least in Sydney and Melbourne). And even if there was a bubble, the preconditions to bust it don’t exist. Interest rates are on hold, and while unemployment is high, it is manageable and starting to trend down.

Rather, a cooling is a much more likely scenario, driven by a sharemarket in correction mode, very low property rental yields, reduced investor demand for housing and the inevitable increase in supply.