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Ben Kingsley Blog post by Ben Kingsley

‘Talking Up’ Property or Subject Matter Knowledge? – Property Prices in the Short Term

Over the past month the media has latched onto the headline grabbing stories linking the residential property market with the share market “crash” (their words not mine) that hit equity markets across the world due to the Covid-19 and the coronavirus pandemic.

Mainstream media have hounded the ‘go to’ economists for their views on what will happen to residential property prices, or more specifically how far property prices will fall, because the media just automatically thinks property can’t be immune to this global economic shock right?

In fairness to journalists, it’s a connection that should carry some logic, given the relative pace in which our economy appeared to stop. All those powerful images on our news feed of all those unfortunate people laid off from work lining up for unemployment benefits, as the government forced strict distancing measures, forcing the immediate closure of tens of thousands of businesses across the country.

Some economist offered up their views of best-case and worst-case scenarios. Best around 5% price declines and the worst I’ve heard from some economists are upwards of 30% price falls. And of course, you guessed it, the media love a good fear story – “Property Prices to fall 30% (no room in the headline for – “up to” 30%). Soundbite or click-bait first please, which I can accept given their own jobs rely on the eyeball economy and their stories getting clicked on.

However, that doesn’t mean it’s right either, as the important data relating to property prices doesn’t support the price correction claims of 20% 30% falls being touted. relating to property prices doesn’t support the price correction claims of 20%-30% falls being touted.

Here’s why: A story of lower demand, yes, but also lower supply.

We don’t need to look too far in terms of the demand and supply price mechanism working in a marketplace. Oil has seen rapid and steep price falls on the back of two key factors:

  1. Russia and Saudi Arabia flooding the market with supply in an effort to kill off many competitors who were carrying high debt levels, forcing them out of business, and leaving less competition on the other side, yet these competitors still have to get the oil out of the ground to make any sales at all, so oil stocks around the world are bulging to a massive oversupply and nowhere to store the oil.
  2. The global lockdown has resulted in demand for oil collapsing, from airlines, to freight to domestic people movement resulting in huge demand drop offs.

A perfect storm, sellers forced to sell as they have nowhere to store their oil and very few buyers right now, so very limited demand; hence its value (Price) has fallen through the floor.

What’s this got to do with property?

Well, property prices are also set in an open market driven by demand and supply factors. If we have the same circumstances, whereby supply was far in excess of demand and demand for property was also non-existent then, property prices would fall significantly. The only thing is the important data relating to property prices doesn’t support these claims.

Supply-side Data:

CoreLogic has reported a significant fall in supply. Record numbers of vendors have withdrawn their property for sale – and so they should; if you don’t need to sell now, then don’t.

“So far, the COVID-19 downturn has had a dramatic impact on agent activity and listings volumes in residential real estate. But the value of dwellings has been relatively resilient.

It is still likely that property values will fall amid the downturn. But the decline in momentum across property values has been relatively mild relative to what has happened in market activity.” – Eliza Owen, Head of Research Australia at CoreLogic (Date: 23rd April, 2020).

So why haven’t we seen a significant price decline yet?

The vast majority of vendors don’t need to sell right now, so they’re not selling, preferring to withdraw their properties for another time when they are more confident of getting a better result. Importantly if these same folks are upsizing or downsizing, they also want a choice of stock to buy from. From a behavioural economic lens – it’s referred to as loss aversion behaviour. Consumers are reluctant to sell for a loss, or a value less than they hoped to achieve.

In the 28 days to Easter Sunday 2020, the number of new residential listings advertised for sale across Australia was 24,051. This is by far the lowest level of listings for this time of the year in years, and is 27.3% below the equivalent period last year. 

Prior to Covid-19, the momentum in the market in most locations across Australia was strong and price pressure was evident as we faced a strong seller market with high buyer demand and historically lower levels of stock than previous years.

Source: CoreLogic Hedonic Home Value Index – May 1, 2020

Residential Construction – Whilst the data reported shows a healthy rebound of dwelling approvals for both houses and units, this data is from February, and pre- the true impact of Covid-19. Feedback from industry informs us that there is a significant downturn in enquiry and as such it’s anticipated that the supply side of this market will be impacted on the downside, meaning less property supply coming online in the near term.

St George bank Research and economic division summed it up like this:

Building approvals jumped 19.9% in February, reversing a 15.1% fall in January. Approvals have been volatile in recent months, driven by large swings in high-rise approvals.

We anticipate a disruption to building activity over the next few months and the decline in approvals to continue, especially for high-rise density projects.

Source: St George Morning Report (date: 2nd April)

Predictions on volume of distressed sellers:

Mortgage arrears is a short term cashflow issue, which occurs when the mortgage holder is unable to meet their loan repayment commitments. This can occur for a variety of reasons, with the most common coming from the loss of their job, illness and relationship breakdowns, which impact their income levels and/or expenses too. It’s really important to remember that even in very good economic times there will always be a percentage of borrowers in mortgage arrears.

Looking back at our last recession in the 1990’s, borrowers back then had the very difficult challenge of interest rates around the 17% – 18% range and the attitudes of banks was a lot tougher in terms of Mortgage repossessions during this period too.

In a presentation delivered by Jonathan Kearns, Head of Financial Stability Department at the Reserve Bank of Australia in June 2019, Jonathan eluded to lending risk in terms of unemployment, relaxed lending standards, general economic factors, property prices, but by historical and world standards (borrowing arrears across all borrowings not just Mortgages) was extremely low, noting that “Indeed, another way to look at the arrears rate in Australia is to note that over 99 per cent of housing loans are on, or ahead of, schedule

“The share of banks’ housing loans in arrears is now back around the level reached in 2010, the highest it has been for many years. But arrears are still well below the level reached in the early 1990’s recession”

It’s important to note at the time of this paper being release was of course pre Covid-19, and the severe economic shock we are in right now. To give these statements and numbers further context, at the time property prices in Sydney and Melbourne hadn’t yet bottomed-out and the wealth effect on household in terms of confidence and spending was challenging, in addition to the restrictions enforced in borrowers by APRA also playing a negative role on lending adding to arrears pressures.

With all that said, Mr Kearns also commented that “Around two-thirds of borrowers have accumulated buffers of prepayments of their mortgage, and some others have other assets outside of their property”.

At this point it’s also worth highlighting that fortunately today, we find ourselves in a different banking world post the banking royal commission, whereby they are more consumer friendly and will work with borrowers to help them get back on their feet instead of pushing the issue with foreclosures.

The best example of this is the co-ordinated approach of all banks and lenders to offer repayment pauses for up to 6 months, as we the community play our role in reducing the curve of the virus. I anticipate that if some of these borrowers need a further extension, the banks will be very open-minded to accommodate any genuine requests. I also expect these numbers to decline significantly as a good percentage of these people are able to return to work in some capacity. It’s also worth highlighting that typical mortgage repayments represent around 35% of household income would be considered by most to an essential commitment not a discretionary one. This will take further pressure off the likelihood of any large scale forced selling, which is important factor in property price stabilisation.

In terms of numbers of borrowers who have taken advantage of this repayment pause, Mr Matt Comyn the CEO of the Commonwealth Bank (Australia’s largest Mortgage lender) reported last week on Money News on 2GB/3AW, that 74,000 of their customers had taken up this offer to date out of their 1.8 million mortgage customers. That represents just 4% of their customer base. It’s also important to note that CBA holds 24.9% market share, so from a market read perspective their data is significant, and clearly indicates that the vast majority of mortgage holders are well placed to ride out this health challenge.

CoreLogic April 2020 Chart Pack

If we extrapolate these numbers more broadly across the Australian housing market (CoreLogic April 2020) which consists of 10.4 million dwellings at a price value estimate at $7.1 trillion and an outstanding $1.83 trillion in mortgage debt, we get a loan to value ratio (LVR) of 25.7%.

The ABS via its census data reports that of the 10.4 million dwellings around 37% have a mortgage that would equate to 3.84 million households with a current mortgage. If we use the 4% applying for a mortgage pause as a guide of overall 3.84 million then around 153,920 households would have applied for a repayment pause across the country. So, of the overall stock of residential dwellings this represents just 1.48% of total stock or approximately one in every 100 dwellings, which is not enough distressed-selling pressure to materially impact property values.

IMy view strong downward price pressure would start to appear in a location where over 10% of property was distressed selling and buyer interest was low, forcing sellers to consider what limited offers come their way.

Further supporting evidence about the health of mortgage borrowers can be found in the following graph released by NAB this week, as part of their results.

(1) Represents payments in advance by accounts. Includes offsets. Excludes accounts in arrears, Advantedge book and line of credit.

That’s right: over 39% of their customers have repayment buffers of 12 months or greater, with a whopping 32% with 2 years or greater. As one of the big four banks with a market share around the 15% mark, again this indicates the ‘noise’ around households in mortgage stress and the potential of flow on effects of mass property selling is unsupported in the data.

Unemployment:

In addition to the case I’ve made above regarding the relatively low risk of large-scale distressed selling, I back up this view with evidence relating to the impact of unemployment levels and what happens to property prices in these times.

It is important to acknowledge that prior levels of higher unemployment have definitely resulted in broader property price corrections. While this is true, it’s also important to note that the relationship with a price correction can be more clearly established when unemployment remains high i.e. 10% or greater for an extended period (12 – 18 months) . This is evidenced both nationally during the early 1990’s with the recession “we had to have”. There are also examples or property price decreases within state economies and localised property markets during extended periods of high unemployment within that state or region.

In our Reserve Bank Governor’s speech last week where he updated us on the state of our finance markets and also the outlook for the economy, he noted:

“The unemployment rate is likely to be around 10 per cent by June, although I am hopeful that it might be lower than this if businesses are able to retain their employees on lower hours. The unemployment rate would have been much higher than this without the government’s JobKeeper wage subsidy”

“One plausible scenario is that the various restrictions begin to be progressively lessened as we get closer to the middle of the year, and are mostly removed by late in the year, except perhaps the restrictions on international travel.

Under this scenario we could expect the economy to begin its bounce-back in the September quarter and for that bounce-back to strengthen from there. If this is how things play out, the economy could be expected to grow very strongly next year, with GDP growth of perhaps 6–7 per cent, after a fall of around 6 per cent this year.”

Consistent with the Governor’s point, we are receiving consistent news about how Australia has stopped the spread of Covid-19 and how these results will create conditions for the easing of restrictions on people movement. Although the timing and impact that lifting of those restrictions is likely to be felt unevenly, it means that are more likely to see the re-opening of many businesses that have been closed due to the virus in the near term. Whilst it’s unrealistic to assume and predict this will result in all businesses reopening and that all workers will returning to work quickly, the prediction of an unemployment rate around the 6-7% by early to mid-2021 is plausible. Meaning a sustained period of 10% plus unemployment is less likely.

So the question is, do we have any historical evidence of property price growth when unemployment levels are running in the 6-7% range?

In these next two graphs below we see how house prices have performed during big economic impact events, starting with the Stock Market Crash of 1987 and we compare these growth patterns to the periods of unemployment in the second graph below.

Observations:

  • From 1985 – 1990 Unemployment moved down from over 10% to just below 6%, and as you can see from the annual price growth – values increase significantly over this period.
  • In early 2000 our unemployment rate was in the 6 – 7% range and again property prices proved that they can grow in double digit levels during a time with that level of unemployment.
  • Finally, around 2015 we didn’t quite get (or stay) in the 6-7% range, however once again property prices grew during this time.

I realise that past historical performance is no guarantee of future performance. However, if we are going to see unemployment fall from 10% and head down from this peak post the June quarter then we also need to remind ourselves about the historically low interest rates we have right now and that are accessible to many of the 90% of people are currently employed.

I also want you to consider just who has been caught up in the significant job losses currently. Evidence suggests that those impacted most are the younger age workforce in the food & hospitality industry who traditionally aren’t current property owners.

The employment outlook post Covid-19 is a positive one, supported by fiscal stimulus from the government and monetary stimulus form the RBA. Remembering the RBA has clearly stated they will not move the cash rate from the current level of 0.25% until they have achieved their objectives of full employment (4.5%) and inflation in the 2-3% band. Employment at those levels will be sure to put pressure on wage growth also.

Rental Demand:

Although I am quite bullish about the short-term outlook (next 12-18 months) for property values, it may not all be smooth sailing for property investors. A large segment of the rental pool is made up of young workers and students. These sectors have been impacted more greatly because a significant majority of them work in the retail, tourism and recreation sectors or for the students their educational institution has been temporarily closed over this time. It’s logical to think that there will be a trend towards some of this population segment returning home or deciding to share houses in order to reduced costs.

Combine with this the increase of supply coming from the short term accommodation market listing their stock for rent in the long term space, due to travel restrictions removing the demand for now, this will result in increased supply of rental accommodation is some markets and will put pressure rents in the short term.

Consumer Confidence:

Roy Morgan, CommSec’s weekly consumer confidence figures were released earlier this week with a positive bounce off the ‘panicked’ lows recorded in March. Sentiment has lifted by 27.5 per cent since hitting record lows (lowest since 1973) of 65.3 points on March 29.

Overall, we are still more pessimistic about things right now, than optimistic. That said, I suspect these figures will continue to improve on the back of continued easing of lockdown restrictions and also the government assistance flowing into household bank accounts giving cashflow relief to many Australians.

In closing:

Fear mongering or fake news by some is incredibly dangerous. In my opinion, anyone touting or reporting dangerous claims about pending property price crashes, could result in those less informed acting on this advice and, as such, cause significant financial harm to themselves by selling their properties when they shouldn’t and don’t have to panic-sell right now.

One can never totally rule out price corrections of 20% or more, and some property stock and prices in some location may show double digit declines in the coming months as the result of some panic selling. However, it’s my view that, rather than significant price falls, improving buyer demand will put greater pressure on property prices over the next 12 months with the rebound starting in late 2020.

I hope that by showcasing the important data that really matters to property prices right now I have put forward a logic counter-argument to the headline grabbing claims of some that I feel are misleading many.

Time will be our judge.

Remember Knowledge is empowering, but only if you act on it.

Ben Kingsley

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