Woah – deja vu!

Every 12 months or so, the media spotlight picks up on a property market doomsayer predicting the end of the world for property investors in Australia, in spite of the fact that these predictions have been proven wrong time and time again… 

Most recently it’s US author Harry Dent, on a tour of Australia to promote his latest book that predicts a coming global crisis worse than the GFC or even the Great Depression. Mr Dent was quoted in the media last month with his prediction for Australian real estate:

“Your problem is you’ve got the second highest real estate costs compared to income in the world… I think this time your real estate will come back 20, 30, 40, 50 per cent.“

 

Sounds scary! But it’s not the first time we’ve had this kind of apocalyptic prediction (and it won’t be the last)…

Back in February 2016 it was a 60 Minutes article in which US author and ‘macroeconomic researcher’ Jonathan Tepper predicted that Australian property prices would crash by 30% to 50%.

(Since then our largest property markets – Sydney and Melbourne – have boomed!)

In 2014 and 2015, Harry Dent was again on the scene forecasting housing prices to fall in Australia by at least 27%.

(Instead, according to REIA statistics, Sydney’s median house price has risen by around 40% since 2014, Melbourne’s has risen by around 26%, and Australia’s overall median house price has risen by around 22% over the same period!) 

And back in 2010 it was Australian economist Steve Keen who lost a bet with Macquarie Bank analyst Rory Robertson that house prices would fall 40% in a year (and had to walk from the steps of parliament to Mount Kosciuszko wearing a t-shirt that read “I was hopelessly wrong on house prices – ask me how”).
   
There’s no doubt that fear sells, and a cynic might observe that these predictions seem to coincide with book promotions and seminar tours.

However, it’s unfortunate to see that many investors buy into this fear-mongering and make emotional, sometimes panicked decisions about their property portfolio as a result.

Sophisticated property investors keep their emotions in check, and invest not on extreme ‘Chicken Little’ predictions about the sky falling, but on an informed opinion about what is MOST LIKELY to occur in the market.

While no-one can predict the future with absolute certainty (and if you encounter someone who thinks they can, then my advice is to run away very quickly), here’s some of the reasoning behind why we think it’s highly UNLIKELY that the property market will crash.

Much of this I’ve covered before in other newsletters, but it bears repeating as an antidote to fear-mongering, ignorance and sensationalism:  
 
5 reasons why a property market crash is extremely unlikely…

REASON #1: “Affordability”

Some so-called ‘experts’ (again usually from the US) keep telling us that housing in Australia had become so unaffordable that a property market crash is inevitable.

The problems with the affordability argument are many, but in particular they place reliance on an increase in a single measure of affordability, being the ratio of average incomes to median house prices in major cities.

This single measure ignores the facts that interest rates today are less than half what they were 25 years ago, and that most home buyers these days are dual-income households.

Furthermore, inner-city median prices are hardly representative of the true range of property prices to be found across suburbs and regions. For instance, while the Melbourne median house price is currently over $800K according to the REIA, localised median house prices across Melbourne’s suburbs span anywhere from a much more affordable $350K, right up to over $4M! 

Market commentators frequently confuse housing “affordability” with the ability to afford a house in the most desirable and sought-after locations around a capital city. They’re not the same thing!

Just because someone can’t afford to buy a house in the suburb where they’d really prefer to live, doesn’t mean that housing in general is “unaffordable”. If you want a cheaper house, then be prepared to compromise about where you want to live, and expect to commute if you work in the city! Don’t expect the forces of supply and demand in the most tightly held areas to bow to your personal desires.

Measuring affordability is actually a very complicated subject, and I’m wary of over-simplifying. But it’s a fact that wages have generally increased over the past five years (albeit they’re rising at a slower rate presently), interest rates remain at historical lows, and rates are unlikely to trend upwards quickly.

The cost of borrowing is low, and there’s a strong argument that property prices in general are currently around where they ought to be based on the combination of historical wage growth, low interest rates, and the prevalence of dual income families when it comes to property ownership.

REASON #2: Employment

Before seeing mass foreclosures and people flooding the market attempting to offload heavily discounted properties, we’d need to see a significant jump in unemployment.

As long as people have jobs, they are more likely, rather than less likely to hang on to their house.

The most recent unemployment trend statistics published by the ABS sit at around 5.5 percent. This is quite low by historical standards, and far cry from countries like the US and parts of Europe that witnessed property market crashes off the back of unemployment levels in excess of 10 percent.
 
While some sectors of the Australian economy (particularly the resources and retail sectors) are undoubtedly doing it tougher than others, the number of people in jobs and the proportion of the population in work have both been trending upwards.

In fact, the Australian Bureau of Statistics noted last month that “Over the past year, trend employment increased by 394,900 persons (3.3%), which is above the average annual growth rate over the past 20 years of 1.9%.”   

Something very dramatic and unforeseen would have to happen for unemployment to soar to the kind of level that would trigger a property market crash.

REASON #3: Robust Lending Standards

Australian banks weathered the GFC extremely well, and continue to be regarded as some of the most robust and stable financial institutions in the world.

Australia implemented strict responsible lending regulations following the GFC, and our finance environment is a far cry from the lax and irresponsible pre-GFC lending practices of the US that led to the collapse of property values in many parts of that country ten years ago.

Furthermore, as any active investor would know, lending standards have become even tighter in the last couple of years, with higher servicing tests and greater scrutiny of borrower’s existing financial commitments and living expenses. 

It’s worth noting that recent estimates by CoreLogic RP Data put the value of the Australian housing market at around $7.5 trillion – with the value of mortgages only around a quarter of that at a ‘mere’ $1.71 trillion. It can be argued therefore that Australian households are not highly leveraged as a whole.
 
REASON #4: Natural Resistance

What tends to happen when the property market softens is that, unless they really need to sell, vendors who are unable to get the price they want for their property eventually just take their property off the market and sit tight, rather than taking a bath on price. As such, prices tend to drift rather than collapse.
 
As long as a property owner can afford to keep holding their property (which really comes back to points #1 and #2 above), then there’ll be a ‘natural resistance’ to dropping the price too far. Instead, many vendors will simply remove their property from the market, or not list it at all.
 
Fewer properties get listed as time goes by, and eventually the available ‘stock’ on the market comes back into balance with the number of buyers, and prices stabilise. Once buyers outnumber sellers, then we can expect competition to start driving up prices again.

There’s also a culture of desiring home ownership in this part of the world (‘The Great Australian Dream’) and a psychological and social stigma associated with the idea of losing your home that should not be discounted. Aussies tend to sacrifice other things before their mortgages and houses, and as such this creates another form of ‘natural resistance’ towards just taking any price in order to sell a house when the budget gets tight or the market slows down.

History demonstrates that even in past economic dark days such as the Great Depression and – more recently – the GFC, house prices in Australia eased only modestly. And (importantly)  in some areas they even continued to climb!

REASON #5: Economics 101

Most property market ‘doomsayers’ demonstrates a fundamental misunderstanding about how the forces of supply and demand drive price behaviour.

As any student of high school economics would have had drummed into them, prices of goods and services move up and down in response to the balance of supply and demand. And it’s no different for property.

For example, when prices collapsed in many mining towns a few years ago, this was due to a sudden absence of demand combined with an oversupply of property.

The absence of demand was the result of mining companies and supporting industries requiring fewer people in the towns, and therefore needing less accommodation. In other words, the population requiring housing in these towns dropped.

The oversupply resulted from over-development of new housing in these towns, in addition to some mining companies deciding to build their own houses or ‘fly-in-fly-out’ camps to provide cheaper accommodation than what it cost them to rent established housing. Towns like Moranbah were left with a significant oversupply of housing as the mining investment boom ended.

It doesn’t take an honours degree in economics to see that the dynamics are very different in our capital cities.

Yes, there are risky pockets of oversupply (most notably some CBD apartment markets and over-developed outer-suburban ‘greenfield’ housing estates), but in most inner and middle-ring suburbs the problem is more of a lack of housing supply, rather than massive oversupply.

Australia’s population is still growing (now approaching the 25 million mark according to the ABS) so there are plenty of people who need a roof over their heads in most parts of the country.

I’d love to see prices fall 50%… but I’m not holding my breath!

Just in case you think I’m trying to ‘talk up’ the property market, personally I’d be ecstatic if we we’re to see an across-the-board 50% fall in property prices. At current rents, this would mean we’d have positive cash flow rental properties within 10km of the CBD in major cities – a great opportunity for cashed-up investors!

But unfortunately I don’t think that’s very likely… do you?

Until next time,
Invest wisely!

– Simon