Dr Shane Oliver, Head of Investment Strategy & Chief Economist at AMP, discusses home prices.
Key points
CoreLogic data showed national average home prices up 0.7% in July, their fifth monthly rise in a row and they are now up 4.1% from their February low.However, the monthly pace of gains has slowed from 1.2% in May with an unseasonal rising trend in new listings.The slowdown in gains was most notable in Sydney with price gains slowing to 0.9% down from 1.8% in May. Sydney property prices led on the way down early last year and on the way up earlier this year.By contrast price gains in Brisbane and Adelaide accelerated to 1.4% but at the other extreme Canberra saw prices fall 0.1% and prices were flat in Hobart.The rebound in prices since February reflects a surge in underlying demand on the back of high immigration and constrained supply dominating the negative impact of higher interest rates.Our base case is that property prices have seen the low for this cycle and will rise around 5% next year as interest rates start to fall.However, our confidence in this forecast remains low as the risk of another leg down in prices is very high as interest rate hikes continue to impact and the economy slows pushing up unemployment.
Home price gains slowing down again
CoreLogic national average home price data shows a 4.1% rise from their February low, but the rate of growth slowed again in July to 0.7%, led by a slowing in Sydney, with price gains accelerating in Brisbane and Adelaide and strong in Perth but soft in other capitals and regional areas with Canberra seeing prices fall.
Source: CoreLogic, AMP
The fundamental supply shortfall offset rate hikes over the last few months
The rebound in prices since February this year reflects a worsening shortfall of supply relative to underlying demand for homes. Immigration has surged and is likely to exceed 400,000 this year driving the fastest population growth in 15 years at the same time that the supply of new dwellings is slowing. This in turn accentuated very tight rental markets, forcing rents up and driving renters to consider buying earlier than they otherwise would have. At the same time foreign demand is returning. So, buyer demand has been strong but supply remains weak with total listings remaining below normal. Talk of rising prices and shortages has in turn further boosted demand with an element of FOMO (fear of missing out) attracting less interest sensitive buyers into the market who until earlier this year were still waiting for lower prices before coming back in. Periodic talk that interest rates were at or close to the top has likely also helped.
As a result, back in May we revised up our national home price forecasts to flat to up slightly for this year (so far prices are up 2.9% this year) ahead of a 5% gain next year.
However, the risk of another leg down in property prices remains high…
…because the impact of the rise in mortgage rates (with the risk of more to come) is still feeding through and unemployment is likely to rise significantly over the next year, with a 50% risk of a recession in the next 12 months.
There has been a big hit to home buyer “capacity to pay” from higher rates – we estimate that the capacity to pay for a home for a borrower with a 20% deposit on full time average earnings is around 29% lower than it was in April last year. The long term down trend in mortgage rates since 1990 was a major enabler of higher home prices relative to incomes over the last three decades, as lower rates boosted home buyers’ capacity to pay for homes for given income levels (see the next chart). The rapid reversal in the capacity to pay since May last year due to the surge in mortgage rates threatens a downwards adjustment in home prices at some point unless incomes rise dramatically or mortgage rates fall dramatically – both of which look unlikely for now. This adjustment in prices could come once less interest sensitive housing demand is exhausted.There is a high risk of increased listings by distressed sellers – this may come from variable rate borrowers with the near-term risks to interest rates still on the upside and the rollover of fixed rate mortgages which is now underway. Banks becoming more focussed on maintaining their net interest margins may make it harder for stretched owners to refinance to cheaper rates. On the RBA’s estimates more than 15% of variable rate borrowers (which covers about 1 million people) will have negative cash flow by year end. All of which when combined with higher unemployment as the economy slows could lead to an increase in listings by distressed sellers. In fact, we have started to see an unseasonal rise in new listings through July which may reflect some combination of homeowners just concluding that now is a good time to sell and/or a pick-up in distressed selling.At the same time, rising rents are likely to reduce some of the tightness in the rental market by encouraging more young people to move into share accommodation or staying at home longer with their parents thereby pushing household size back up to pre-pandemic levels, easing some of the tightness in the rental market. Consistent with this vacancy rates have started to edge up in some cities and CoreLogic reports that the upwards momentum in asking rents has slowed.Similarly, were the economy to slide into recession its likely that the Government would cut the immigration intake, further reducing the underlying demand/supply imbalance.In the last three major cyclical upswings in home prices lower interest rates have been required to drive a sustained rise in home prices (see the second chart below) and this is unlikely until next year. So, while we expect that interest rates are likely at or close to the top, the rebound in home prices so far this year looks premature relative to the normal cyclical relationship with interest rates.
Source: RBA, CoreLogic, AMP
Source: CoreLogic, AMP
So, while our base case is that home prices have bottomed, the risk of another leg down as the full lagged impact of interest rate hikes on the property market and on unemployment materialises is very high. A recession (which is now a 50/50 risk) would add to the risk of another leg down in property prices.
Auction clearance rates which led the property rebound on the way up earlier this year have recently fallen from their May highs partly reflecting the unseasonal rise in listings noted earlier. This could all just be noise but it may also be consistent with mortgage rate hikes starting to get the upper hand again as a driver of the property market. Consistent with this sentiment towards the property market, eg in terms of whether now is a good time to buy a dwelling, remains very weak.
Source: Domain, Core Logic, AMP
Ends
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