The Experts

Tim Lawless
Expert
+ About Tim Lawless
Tim Lawless heads up the RP Data research and analytics team, analysing real estate markets, demographics and economic trends across Australia.

Shaky property market continues

Thursday, March 21, 2019

Last month’s housing market results showed an easing in the rate of decline relative to the previous two months, however our national home value index was down a further 0.7% in February, taking the total decline in national dwelling values to 6.8% since the market peaked in October 2017.  National dwelling values have returned to levels last seen in September 2016, and values have fallen over 14 of the last 16 months. 

Although home values have been falling for almost a year and a half, nationally dwelling values remain 18% higher than they were five years ago, highlighting that most home owners remain in a strong equity position despite the persistently weak conditions.

Despite the reduced rate of decline, the February results remain overall weak, with the geographic scope of negative conditions becoming more widespread over recent months.

Hobart was the only capital city to record a rise in values over the past three months, while Canberra values were flat and the remaining capital cities recorded lower values over the rolling quarter.

The fact that we are seeing weakening housing market conditions across regions where home values were previously tracking at a sustainable pace and economic conditions are relatively healthy is a sign that tighter credit conditions are having a broad dampening effect on buyer activity.

Credit aggregates from the Reserve Bank and housing finance data from the Australian Bureau of Statistics have continued to show a consistent reduction in credit flows and mortgage activity, with a more pronounced downturn in owner occupier credit flows visible through the second half of 2018 and now into 2019. 

While a slowdown in investment was a key driver of slowing housing markets since 2015, the recent decline in owner occupier lending is far more significant considering owner occupier lending is more than twice the value of investment lending.

Of course, this slowdown isn’t completely attributable to the tighter lending environment.  Other factors are at play such as relatively neutral levels of consumer confidence, higher supply in some markets and a reduction of demand from foreign buyers as well as domestic investors. These factors vary considerably from city to city. 

Overall, the February housing market results marked a subtle improvement in the rate of decline, however, the housing market downturn is now more widespread geographically and we aren’t seeing any indicators pointing to the market bottoming out just yet.

The long-running reduction in investment lending has understandably impacted the Sydney and Melbourne housing markets more than others, considering investment activity was heavily concentrated in these cities, however the reduction in owner occupier credit explains a lot about the broader softening in housing market conditions more recently.

Stricter lending standards are a logical outcome following the Royal Commission and we are likely in the early phases of a ‘new normal’ for mortgage lending where borrowers will face closer scrutiny around their expenses and ability to service a loan and conversion rates on loan applications are likely to remain lower than they have been over prior years. 

While credit availability seems to be the key driver of slowing conditions, other factors are also at play.

Supply levels are elevated in some areas, especially in the high rise unit sector.  Although construction activity has recently moved through unprecedented peaks, concerns remain around specific high-density precincts, and to a lesser extent, some greenfield detached housing markets.

Advertised stock levels are also elevated in many cities.  The number of properties advertised for sale has been consistently rising due to fewer buyers and longer selling times. Despite the surge in inventory, ‘fresh’ stock being added to the market was down 19% relative to last year, highlighting that vendor confidence is low. Buyers are firmly in the driver’s seat and in a good position to take advantage of the strong buying position. 

From a demand perspective, foreign buyers are a much smaller component of housing activity.  FIRB data shows residential dwelling approvals for foreign buyers are down more than 70% since moving through the highs of 2015/16.  The reduction in foreign buying activity is likely to have a greater impact within the high-rise apartment sector where activity was previously most concentrated.  Not to mention the fact that new developments can now only sell 50% of units offshore whereas previously 100% could be sold offshore

Another factor working to dampen housing market conditions is the consumer mindset.  The consumer sentiment survey from Westpac and the Melbourne Institute has consistently highlighted a pessimistic view from consumers around their expectations for house prices, which is likely to be another factor reducing market demand. The federal election and the potential for changes to taxation policy is probably also weighing on consumer attitudes.

Helping to offset these headwinds are mortgage rates, which are still tracking around the lowest level since the 1960’s.  Further cuts to the cash rate are looking like a growing possibility, however its uncertain how much stimulus lower rates may provide to the housing sector considering the tight servicing criteria and higher funding costs from lenders which would likely prevent any cuts being passed on in full.

With dwelling values expected to fall further, the attention now turns to what impact this could have on future household consumption, which accounts for around 60% of the economy.  If households reduce their spending as the wealth effect moves into to reverse, then interest rate cuts or other policy intervention could become more likely.

 

Houses or Shares: what’s the better investment?

Thursday, December 27, 2018

The best way to compare the performance of the two asset classes of the property market or the share market is to reference an accumulation series that includes dividend payments for shares and rental income for housing. This way we can measure the total returns rather than just changes in the asset value.

Plotting the two indices side by side from the commencement date of the series (May 2005) shows housing (+211%) has outperformed shares (+173%) by a reasonable margin. A big part of the outperformance of housing relative to shares can be attributed to the stability of the asset class during the global financial crisis; through 2008, the housing index fell 2.7% while the share price index was down 38.4%.  Post GFC (i.e. from January 2009) shows that share market returns (+158%) have been higher relative to housing (132%).

More recently, with housing values falling and rental yields remaining low, the share market has started to outperform relative to housing.  The past 12 months, to the end of September 2018, saw housing returns track 0.6% lower, while total returns across the ASX/200 were up 14%.

Of course, there are substantial differences in the total return profile between the cities and regions of Australia, just as there are substantial differences between individual companies trading on the ASX.  Over the 12 months to September 2018, total returns on housing across the Australian capital cities ranged from -3.2% in Sydney to +14.7% in Hobart.  Regional markets are generally showing stronger total returns than the capital cities, thanks to generally higher rental yields as well as housing values that have been more resilient to falls.

As the housing market moves through the downward phase, we would expect the total return profile to reduce further. Sydney and Melbourne are already recording negative total returns; a reflection of both falling values and very low rental yields. With limited returns on offer across the housing sector, and potentially changes to taxation polices if we see a change of government, we could see more investors choosing to place their hard earned dollars outside of the housing sector.

 

Time to loosen lending

Wednesday, December 19, 2018

At this time of the year the question I’m most frequently asked is, “What should we expect in 2019?” My short answer is… more of the same.  Those hoping for a turnaround in housing market conditions in 2019 are likely to be disappointed and here’s why:

A key factor driving the current market correction has been credit availability.  

The lack of mortgage credit has been the major disruptor driving this market correction.  Previously, the catalyst for downturns in the housing market was typically monetary policy changes (interest rates), or the economic fallout from a shock such as the Global Financial Crisis or recession back in the early 1990s.  

Credit availability has been tightening, especially for investment purposes, since early 2015, after the first round of macro-prudential policies was introduced by APRA.  Importantly, the second half of 2018 saw a sharp reduction in the value of owner-occupier lending.  This reflects a further tightening of lending standards and a heightened risk assessment from lenders, as well as a modest lift in mortgage rates due to funding cost pressures faced by lenders.

How will the lending environment change in 2019?  

We’ve already seen a winding back of the first round of APRA’s macro-prudential policy (the 10% speed limit on investment lending), however with household debt remaining at record levels in 2018, it’s hard to imagine the 30% limit on interest only lending would be lifted.  

Additionally, with the final report from the Royal Commission due in early 2019, we expect lenders will remain conservative in their approach towards borrowers. This implies that high quality borrowers will be in the driver’s seat (i.e. those with large deposits, low debt relative to their income and a strong serviceability position).  Borrowers with less than a 20% deposit and those with debt levels that exceed six times their income will find it harder to obtain finance and will likely face a premium on their mortgage rates.  

Overall, we expect the tight availability of housing finance will remain as a formidable obstacle to improving housing market conditions next year.  Higher quality borrowers should be in a better position to secure debt at very low rates as lenders compete for their business.  If concerns about the decline in housing values and turnover grow amongst the Council of Financial Regulators during 2019, we may see some changes to the current macro prudential settings in order to soften the housing market declines.

So… what does this mean for housing markets?

Values to drift lower:  At a broader level, we expect dwelling values to continue tracking lower through 2019, led by further falls in Sydney and Melbourne, while other capital cities continue to lose some momentum but remain in positive growth, at least in nominal terms.  There will be a few exceptions, such as the improving trend in Darwin and the Perth market finding a floor. In all likelihood, the top end property market will continue what is likely to be a long and gradual recovery in 2019, while the Perth market could also stabilise through the year.

Another factor likely to dampen housing market conditions is persistently low consumer sentiment with relation to housing market expectations.  Housing sentiment is already weak, but could be impacted further as we approach a federal election where there is a real chance that taxation policies relating to negative gearing and capital gains tax could be wound back.

The new unit market in Sydney and Melbourne is looking risky: Slowing demand and higher supply in the multi-unit sector is playing out, which is likely to result in weaker conditions across the unit markets in Sydney and Melbourne, where the new unit supply pipeline is the most concentrated.  

Demand in both cities is being negatively impacted by slower rates of migration from both overseas and interstate, fewer domestic and overseas investors (key target markets for the multi-unit sector), low valuations for off-the-plan unit settlements and overall tougher lending conditions.  

First home buyers are likely to continue to lift their presence in the market:  As housing affordability improves and owner occupiers continue to receive discounts on their mortgage rates relative to investors, we could see first home buyers occupying a larger presence in the market. The most recent housing finance data for 2018 showed first home buyers are at their highest level proportionally since 2012, and we expect this trend to continue through 2019 as first time buyers take advantage of low mortgage rates, strong buying conditions, lower prices and stamp duty concessions available in NSW and Victoria.

Outside of the capital cities, we are likely to see lifestyle markets remain in positive growth territory while resource driven markets continue to gradually recover after a crash in values:  Lifestyle markets along the coastline and hinterland locations close to the major capitals have seen strong demand from a variety of market segments.  Cashed up buyers from Sydney and Melbourne have utilised their improved wealth position following the housing boom to purchase second homes and holiday homes, while baby boomers approaching retirement are positioning themselves in these lifestyle markets as well.  Professionals are also taking advantage of high-speed internet services and efficient commuting times to work remotely.  Growth conditions are unlikely to be as strong as last year, however the trends suggest values will continue to trend higher through the year.

As the most popular coastal markets become unaffordable, demand may spread further afield.  We have already seen this trend across markets like Newcastle and Wollongong, where affordability constraints have now slowed conditions across these areas.

The mining regions have benefitted more recently from rising demand as mining investment heats up. Dwelling values in some of these areas remain more than half of what they peaked at during the mining boom and rental yields in these areas are generally in positive cash flow territory, which could become increasingly attractive to investors.  

 

Will more property investors be exiting the market?

Friday, November 30, 2018

Less investment isn’t entirely due to tighter credit conditions.

Back in mid-2015, investors nationally comprised 55% of new mortgage demand (by value), which was by far a record high for the concentration of investment activity; the previous record high was at the end of the 2000-2003 property boom, when investors comprised 48% of new mortgage demand.

Since 2015, investor activity has been quelled by a broad range of factors, including two rounds of macro-prudential policies, which saw lenders introducing differential pricing on mortgage rates as well as a tougher stance on incomes and expense verification, a broad requirement for more substantial deposits and less appetite for high overall debt-to-loan value ratios from lenders. 

There is no doubt these finance hurdles have been a key factor in reducing investor participation from record highs to a lower (but still well above average) level of 42% as at September this year.

But it’s also fair to say that other factors are likely to be influencing the investor mind set as well. 

Top-of-mind for many investors would be the simple fact that housing values are now falling in the most popular investment markets, Sydney and Melbourne.  At the height of activity, investors comprised 64% of new mortgage demand across New South Wales and 55% across Victoria, and their level of participation remains well above the long-term average in these markets.  Dwelling values are also falling in Perth and Darwin, and growth in Brisbane and Adelaide has slowed to a crawl.  Hobart (+9.7% pa) and Canberra (+4.3% pa) are the stand outs for capital gains, but the pace of growth is slowing in these markets as well, while investor activity across those two states hasn’t hit the levels seen in NSW and Victoria.

Another disincentive is the fact that rental yields are close to record lows, which means the total return (capital gain plus yield) is negative in both Sydney (-4.2% p.a.) and Melbourne (-1.4% p.a.) and relatively low across the remaining large capitals.  Once again, Hobart (+15.2% p.a.) and Canberra (+9.0% p.a.) are showing stand out total returns, thanks to the high rate of capital gains as well as above average rental yields.

Further to the market disincentives, there is also taxation policy that is likely hindering investment activity.  While the debate around negative gearing and a reduction in capital gains tax concession is top-of-mind, and likely to act as an overall negative for investment demand, investors were dealt an earlier blow to their ability to depreciate fixtures and fittings in the 2017/18 federal budget.  These changes were passed by the senate in mid-November last year and prevent investors from depreciating ‘plant and equipment’ items unless they purchased the items directly. 

So, overall, investors are facing mortgage rate premiums, tighter lending requirements, and few prospects for capital gains, low rental yields, a significant reduction in ability to depreciate fixtures and fittings and heightened uncertainty around widely popular taxation policies: negative gearing and capital gain discounts. Although changes to negative gearing would be grandfathered, the reality is that the resale market will be heavily impacted, especially in markets where rental yields are low.  While changes to negative gearing steal most of the limelight in the political debate around taxation policy changes, arguably the reduction in capital gains tax concessions from 50% to 25% could have an even larger impact on investment demand. Overall, we should expect investment activity will continue to moderate and owner occupiers will comprise a substantially larger role in housing demand relative to recent history.

 

Residents flee NSW!

Friday, September 28, 2018

Considering that population growth is essentially a proxy for housing demand, the recent release of demographic statistics for the March quarter by the Australian Bureau of Statistics provides a timely insight about how demand for housing is changing across Australia.  The headline numbers showed a subtle reduction in the pace of population growth, with the annual growth rate sliding from a recent high of 1.72% over the twelve months to March 2017 to 1.55% over the 12 months ending March 2018.  The most recent 12-month period saw an additional 380,722 new residents calling Australia home.

At a national level, Australia’s population growth is primarily driven by overseas migration, which comprised 62% of the annual gain in new residents.  The remaining 38% came from natural increase, or simply the number of births minus the number of deaths over the year.

Although overseas migration is the most meaningful component of national population growth, the number of net migrants has started to ease.  236,800 net migrants arrived over the 12 months to March 2018; 22,800 fewer than the preceding 12-month period.  Additionally, net overseas migration is tracking well below the previous historic high that was recorded over the 12 months ending December 2008.  Despite the slowdown, net overseas migration remains substantially above the long run average, highlighting that migration from overseas is reducing from a high base.

The flow of residents across state borders is also changing the composition of housing demand.  Queensland is the primary beneficiary of interstate migration flows, attracting a net 24,000 new residents from other states — the highest number of net interstate migrants moving to Queensland since 2007.  While interstate migration booms in Queensland, an exodus of migrants from New South Wales is gathering pace.  20,500 net residents left New South Wales for other states, the largest number since 2009.  

Interstate migration remains strong in Victoria, but has been easing over the past 12 months, while in South Australia and Western Australia, the interstate migration trend remains substantially negative but is slowly turning around.  Meanwhile, Tasmania has attracted the highest number of interstate migrants since 2004.

Interstate migration trends are likely being affected by a combination of changing economic conditions coupled with differences in housing affordability.  For example, the blend of stronger jobs growth and relatively healthy housing affordability are likely to be key ingredients attracting more migrants into Queensland from other states.  

Despite the slippage in both overseas and interstate migration rates, Victoria remains the nation’s population growth powerhouse, recording 137,400 new residents over the 12 months to March 2018.  New South Wales is a distant second, recording a 113,000 population increase over the same period.  Although population growth could slip further across the two largest states, it’s likely that ongoing population growth will be a primary factor in supporting a soft landing across the Sydney and Melbourne housing markets.

Overall, despite a reduction in overall population growth, the demand drivers generally remain strong in Australia, but vary remarkably across the regions.  

 

Will this Spring be a buyers’ market?

Monday, September 03, 2018

As we lead into Spring, there is the predictable hype around the property market; this is the time of the year when we typically see a flurry of listings activity, as vendors take advantage of the warmer weather.  Flowers are starting to bloom, lawns are greener and prospective buyers are more inclined to emerge from their winter hibernation.

While it’s easy to feel exuberant about Spring, the reality is that the next few months may be more of a spring listing season than a spring selling season.  The housing market has been doing it tough through winter; values are trending lower across half of the capital cities, while the other half have seen a reduction in the rate of capital gains.  There are fewer buyers on the ground, with settled sales activity down 12% year-on-year across the combined capitals.  Auction clearance rates have been coasting through the low to mid 50% range across the major auction regions and private treaty sales are taking longer and vendors are having to reduce their initial list price by a larger amount in order to sell.  Although mortgage rates remain very low, housing credit policies are generally tight and investors continue to be charged mortgage rate premiums relative to owner occupiers, which is making it harder for prospective buyers to enter the market. 

Another factor that could exacerbate the already tough conditions as we approach the Spring season is how much housing stock is already for sale.  Total listing numbers are almost 8% higher than a year ago across the combined capital cities, largely driven by a surge in advertised inventory across Sydney where there are 21% more properties available for sale relative to last year and Melbourne where listing numbers are 12% higher than the same time last year.

Advertised stock levels are already trending higher; the first week of July marked the low point in listings activity, which was a week earlier than last year.  Fresh listings have been consistently rising since then.  Importantly, the number of new listings being added to the market is about 4% lower that at the same time last year, implying weaker confidence amongst vendors.  But because the rate of stock absorption has slowed due to fewer buyers and longer selling times, total advertised stock levels are now tracking at the highest level for this time of the year since 2012.

With more stock set to hit the market through Spring, vendors are likely to be more competitive and buyers could be spoilt for choice. 

Prospective buyers can take their time, negotiate harder, and move on to the next property, if they don’t achieve a price they perceive as fair value.  Vendors will need to be realistic about their price expectations and do their absolute best to ensure their property is professionally marketed and presented in its best light.  Overall, while the number of listings is likely to rise through Spring, with values already in decline across the nation, we are not expecting a particularly strong Spring this year.  Furthermore, as auction volumes rise, clearance rates typically fall throughout Spring and we may see them dip below the 50% barrier later this year.

 

Who’s still hungry for property?

Thursday, August 16, 2018

One of the key drivers of housing demand over the past year has been the rebound in demand from the first home buyer segment.  In June 2018, there were 9,541 owner occupier first home buyer finance commitments.  The number of first home buyer commitments fell by -7.4% over the month however, as a share of all owner occupier housing finance commitments first home buyers accounted for 18.1% which was their greatest share since October 2012. 

The rebound in demand from first home buyers has largely emanated from NSW and Victoria.  Again, although the number of commitments has generally fallen over the past month, as a share of total owner occupier commitments, first home buyers increased.  The 14.8% share of owner occupier commitment to first home buyers in NSW was the highest share since February 2018 and the second highest share on a monthly basis since October 2012.  In Victoria, first home buyers accounted for 19.6% of owner occupier finance demand, its greatest share since July 2013.  The share of owner occupier housing finance commitments to first home buyers in June 2018 was higher than the same time last year in all states and territories except for Queensland and the ACT.

Along with the increasing share of commitments going to first home buyers, owner occupier first home buyers are increasingly borrowing larger sums to enter into the market.  As at June 2018, the average loan size for a first home buyer was $349,800, which was both an historic high and 10.1% higher year-on-year.  By comparison, the average loan size for a non-first home buyer owner occupier was a higher $406,900 but up by a lower 5.5% over the past year. 

Across the individual states and territories, average first home buyer loan sizes have increased across the board over the past year.  Considering that dwelling values are falling nationally, it seems somewhat counter-intuitive that borrowers would need to take out larger loans to enter the market.  In NSW and Victoria, state governments have removed stamp duty for buyers under certain price thresholds which potentially means they feel they can borrow more for their purchase.  Across the states and territories, the year-on-year changes in average first home buyer loan sizes were: +5.6% in NSW, +12.1% in Vic, +3.5% in Qld, +12.2% in SA, +4.5% in WA, +18.0% in WA, +1.5% in NT and +15.1% in ACT.

With national dwelling values falling, the data highlights that much of the weakening demand for housing is coming from the investor segment. Keep in mind that over recent year’s investor participation in the market has been at historic high levels. Owner occupier demand is also easing albeit at a much more moderate pace than investor demand. While owner occupier demand is easing overall, first home buyer demand has strengthened over the past year. With dwelling values declining, it is a little concerning that buyers that typically have relatively little equity are entering a declining market and increasingly borrowing larger sums to enter the market. With value declining they run a significant risk of seeing their overall wealth decline as housing values trend lower. The data indicates that more seasoned market participants, such as owner occupier upgraders and investors, are taking a more cautious approach to a market which is in the early stages of value decline. First home buyers might be wise to take a similar approach as housing market conditions continue to ease.

 

Is it time to consider the Brisbane apartment market?

Monday, July 23, 2018

There is no doubt that the Brisbane apartment market has been doing it tough.  High supply levels across key inner-city suburbs coupled with soft economic conditions, relatively low investment activity and soft rental conditions have resulted in Brisbane unit values consistently falling.  In fact, based on CoreLogic’s hedonic index results for June ‘18, Brisbane unit values were 10.6% lower than their previous peak, which was more than ten years ago in March 2008.

While high supply levels persist, Brisbane’s construction cycle for units has been winding down for almost two years.  As at March this year, there were 22,900 units underway across Queensland, with the majority of these projects based in Brisbane; 30% below the September 2016 peak when 32,550 units were being built.

As construction winds down, population growth is ramping up, providing additional demand for housing.  Queensland is leading the nation for interstate migration, with residents arriving from other states and territories reaching the highest level since December 2005. 

CoreLogic indices have already shown some early signs of a recovery across the Brisbane unit market.  Unit values are up 1.2% over the first half of 2018, outperforming the detached housing sector where values have remained virtually flat (+0.1%) and annual growth has moved back into positive territory. 

Buyers are likely to be attracted to the fact that unit prices are currently roughly equivalent to what people were paying in mid-2007.   There is also the strong rental yield, which is averaging 5.3% gross across the Brisbane apartment market; 153 basis points higher than Sydney yields and 132 basis points higher than Melbourne yields.  The higher yield, lower entry point and potentially stronger growth prospects may pique the interest of investors, especially considering the dimmer prospects for value growth in Sydney and Melbourne, as these markets move through their down phase.

Prospective buyers should still use some caution, particularly around the inner-city markets where supply levels remain high.  Buyers are certainly in the driver’s seat, so vendors will need to be realistic about their price expectations and expect some tough negotiation to be had. 

 

 

The 3 factors driving regional markets to outperform the capitals

Thursday, June 28, 2018

The past decade has seen capital city housing markets well and truly outpace their regional counterparts.  While capital city dwelling values have risen at the annual pace of 4.3% between May 2008 and May 2018, the regional areas of Australia have recorded an average annual rise of just 1.5%. But this is all starting to change.

The dramatic capital gains in Sydney and Melbourne over the past two growth cycles has been the primary driver of higher capital city performance. Dwelling values have risen at the annual compounding pace of 6.1% and 5.8% respectively across Sydney and Melbourne over the past decade, while the regional areas of both states have seen values rise by a much lower 3.4% and 3.8% per annum. 

Things are different now. While values are falling in Sydney and Melbourne, regional markets have shown a recent accelerating trend in capital gains. There are three factors helping to drive this new outperformance.

1.     Cities adjacent to Sydney and Melbourne have benefitted from a ripple of demand away from the metro areas towards areas where housing is more affordable and critical amenities such as transport options, schools and health care are less congested.  Geelong is now one of the best performing regions nationally, with values rising at 10.2% per annum. The Capital Region of NSW, which includes Queanbeyan and Goulburn, has seen values rise 6.3% the past twelve months and Newcastle has seen a 5.2% rise in values. Each of these areas, and similar locations such as Ballarat and Wollongong, have their own economic drivers and challenges, but also offer up the opportunity for more affordable housing opportunities as well as commuting options. 

2.     Lifestyle markets are benefitting from stronger demand as baby boomers look for retirement options and equity spills out the South Eastern capitals to fund second homes and investments. The Southern Highlands and Shoalhaven in NSW have returned the third highest rate of capital gain across the regional areas of Australia over the past twelve months, with values up 6.8%. The Sunshine Coast has seen values jump 5.8% and Coffs Harbour is up 5.3%. Coastal markets located within reasonable driving distance from the large capital cities seem to be performing the best, however if the growth trend continues we may see demand rippling into areas located a further distance or those areas close to airports such as the Whitsundays, Cairns and Ballina.

3.     The mining regions have acted as a drag on the broader regional market growth rates, however most of the regions intrinsically linked with the mining sector are now levelling out, or moving into the early phases of what is likely to be a long and gradual recovery. Dwelling values in some mining regions, like Western Australia’s Pilbara and the Central Highlands of Queensland, remain more than 60% below their peak values, however values are now levelling or, in some cases, starting to rise. Considering the massive fall in values across some of these regions, although values are no longer falling, the recovery phase will take a long time.

Overall, I'm expecting the regional markets of Australia will broadly continue to outperform the capital cities due to the factors highlighted above. Additionally, low mortgage rates will continue to support demand, albeit with some offset being felt in tighter credit conditions and a lot more scrutiny around borrower serviceability. 

 

Sydney investors see the first annual negative total returns since the GFC

Tuesday, May 29, 2018

With dwelling values substantially outpacing rents over the past six years, rental yields have been crushed to record lows in Sydney. Over the past five years, Sydney dwelling values have increased at four times the rate of rental increases, pushing yields to a recent record low of just 3.04% in July last year.  Since that time, Sydney dwelling values have been trending lower, falling by almost 5%.  With weekly rents only rising by half a percent since that time, yields remain only marginally higher relative to their record lows.

The average gross yield on a Sydney house is tracking at 2.96% and units are showing a slightly higher yield profile at 3.76%. Against this low yield profile, dwelling values are now falling on annual basis, down 3.4% over the 12 months ending April 2018.  The byproduct of low yields and negative annual movements in dwelling values is that Sydney’s total return has slipped into negative territory for the first time since the market was emerging from the Global Financial Crisis in early 2009.

Considering rental growth is sluggish across Sydney (dwelling rents were up only 1.2% over the past twelve months) and dwelling values are likely to trend lower over the coming months, I would expect the total return profile for Sydney to weaken further. 

While many investors tend to overlook weak yields, focusing more on the prospects for capital gains and relying on taxation policies to offset their cash flow loss, it’s surprising to see housing finance data indicating that investors still comprise slightly more than half of new mortgage demand across New South Wales. 

Investment across New South Wales peaked in early 2015. At that time, investors comprised almost 64% of new mortgage demand.  As macroprudential regulations impacted on credit availability and mortgage rates for investors, participation from this segment of the market has slowed but remains high from an historical perspective.  Over the long-term, investors have averaged 37.4% of new mortgage lending in New South Wales compared to their 50.2% currently.  Tighter credit policies for investors have been the primary driver of slowing Sydney’s exuberant housing market, however, considering the high concentration of investment based on the latest housing finance data, investors still seem to be attracted to the Sydney market despite its high buy in price, low yield profile and muted prospects for capital gains. 

There could be some further headwinds for investors as we approach a federal election sometime in the next twelve months.  It’s almost a certainty that debate around negative gearing policies and capital gains tax concessions will be front and centre.  With rental yields close to record lows in Sydney and Melbourne, and generally low across most capital cities, we could see investment confidence dented further during the campaign period and significantly reduced if these policies are changed. 

Considering investors still comprise roughly half of new mortgage demand in Sydney, and nationally investors account for 43% of new mortgage demand nationally, a further reduction in activity could prolong the housing market downturn.

 

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