The ‘Great Australian Dream’ may be over but prices growth in Sydney is sustained by strong demand while affordability remains a concern for first-home buyers.
 
The media love a good disaster, which is why every so often there’s a headline about an impending property price collapse, often predicted by an overseas ‘expert’ or even an Australian analyst who’s not getting his or her desired share of media attention. The words ‘crash’ and ‘bubble’ are familiar in such articles.
 
It’s not just the tabloid media that likes to push the ‘bubble’ button. Global asset manager UBS even has a ‘Global Real Estate Bubble Index’ report which recently analysed residential property prices in 18 financial centre cities around the world, with Vancouver, London and Stockholm at the top of the list and Sydney in fourth place.
 
Using a methodology developed by the US Federal Reserve Bank of Dallas, UBS found the real house price to disposable income ratio per capita had risen to its highest point since the survey started in 1985 and showed Australian house values had moved about seven per cent above previous peaks in 2003, 2007 and 2010.
 
"A change in macroeconomic momentum, a shift in investor sentiment or a major supply increase could trigger a rapid decline in house prices," the UBS report said, concluding that: "Investors in overvalued markets should not expect real price appreciation in the medium to long run."
 
Morgan Stanley went a step further. The firm’s analysts issued a research note that forecasts a national housing oversupply of about 100,000 dwellings will develop by 2018. It believes the RBA will be forced to cut interest rates even more in the second half of 2017 – to a new record low of one per cent.
 
Journalist Clancy Yeates, writing in the Sydney Morning Herald, commented on recent media reports about homes selling for big premiums above their reserve prices and auction clearance rates at or above record levels: “When you consider prices have already surged 60 per cent in Sydney and 40 per cent in Melbourne in the last four years, it can start to look a bit ‘bubbly’, says Mr Yeates.
 
He looked at the results of Westpac’s October survey which shows consumers are getting cautious about housing. Their responses to the question: “is this a good time to buy a dwelling”, are about evenly-divided between pessimists and optimists.  With interest rates at historic lows this came as a surprise.
 
It does help explain why banks’ approvals for new home loans are showing signs of declining. With a high number of rental apartments due to come onto the market over the next couple of years, rents are likely to also decline and that makes renting a more attractive option to buying.
 
52 months of growth
 
This column has a focus on the greater Sydney area where prices have most certainly gone skywards in recent times. It must be remembered that property is always a long-term asset in a market that has experienced cycles of ‘bust’ and ‘boom’ many times.
 
Domain Group data shows that Sydney’s median house price is now at a record $1,068,303, after a 2.7 per cent jump over the September quarter. Naturally, after 52 continuous months of property price growth, we wonder what’s coming next in the mix.
 
CoreLogic head of research Tim Lawless told News.com.au that the last time the market had experienced such a long period of growth was during the housing boom between 2000 and 2004 but conditions aren’t the same in 2016.
 
“More and more segments of the marketplace just simply can’t be involved in the market because they can’t either scrape together a 20 per cent deposit because prices are so high or they simply can’t service a mortgage, despite the very low mortgage rates because the buy-in price is quite substantial,’’ Mr Lawless said.
 
However, in 2016 we can see some definite parallels with the boom of 2004. An independent consultant, Shane Lee, investigated the situation regarding apartment oversupply in the Eastern states.
 
"We saw this (oversupply) in 2004 and a sharp correction in prices," Mr Lee told ABC News Online’s Stephen Letts.  "Over 18 months to two years we saw apartment values fall 15 to 20 per cent in Sydney."
 
At that time, when there was a resources boom in Western Australia and Queensland, property investment followed the flood of workers to the resource rich states and apartments in Sydney became vacant.
 
Combined with rising interest rates, this caused a halt in Sydney apartment construction and we’re just now getting back to filling the vacuum created by the undersupply.
 
Lots of apartments, but not many houses. In fact, according to an article by Julia Corderoy on News.com.au: “The latest Metropolitan Housing Monitor statistics released by the NSW Government show just 35 detached houses were built in the inner-city Sydney local government area in 2016. This compares to the 2836 multi-unit dwellings completed.”
 
From GFC to stability
 
In the past two years, we’ve seen a period of price stabilisation following the recovery from the Global Financial Crisis – an economic event so significant that just the initials ‘GFC’ bring memories of widespread financial losses.  But that was really a crisis of 2008-2009 – long enough ago for our property market to have not just recovered but to have made amazing gains.
 
We’re now in a time of ‘unprecedented uncertainty’ according to Michael Bleby of the Australian Financial Review. As he describes it: “A record year for Australia’s volume home builders raises concerns that the country’s largest-ever housing construction cycle has peaked.”
 
The Australian Bureau of Statistics (ABS) keeps a close watch on the housing situation and their figures clearly show that house price growth is slowing. Statistics from CoreLogic show that growth in Sydney slowed to just 0.8 per cent in September.
 
Another factor in the housing cycle, particularly in metropolitan Sydney, is the serious decrease in affordability; housing is too expensive. The situation is especially dire for first-home buyers who are the most talked-about victims of the housing market’s high prices. 
 
Domain’s chief economist, Dr Andrew Wilson said the current strong auction market has predictably translated to higher prices which please sellers: “Potential first-home buyers, however, will not welcome higher prices that will act to offset the benefits of current record-low interest rate and a highly competitive lending environment.”
 
In fact, a recent revision in statistics collection methods by the ABS found that numbers of first-home buyers were even lower than previously reported. An ABC News Online article by reporter Thuy Ong revealed the original ABS numbers showed that 14.1 per cent were first-home buyers nationally in July 2016, but that has been revised lower to 13.2 per cent. In New South Wales that figure drops to 8 per cent.
 
"I think it reinforces what a lot of people think and that first home buyers are really struggling in the market at the moment," said Cameron Kusher, head of research at CoreLogic.
 
Also reported by ABC News Online, research by Deutsche Bank's chief Australian economist Adam Boyton shows it would take a 25 per cent decline in Sydney home prices to bring the size of the deposit required back the average level of the past 20 years.
 
 "The more pressing affordability issue has less to do with mortgage repayments in our view, but more to do with the ability of those that have not enjoyed the most recent run-up in prices to enter the market," said Mr Boyton.
 
More supply not the answer
 
In a lunch-time address to the Urban Development Institute of Australia in Sydney, Federal Treasurer Scott Morrison dismissed suggestions that cheap credit is causing an investor-driven housing bubble in Australia. He outlined a major push by the Turnbull government to increase supply and help first home buyers own their own home.
 
He said the federal government will focus on focus on “how state governments can do away with planning rules that stop, or delay, new houses being built” to increase the supply of housing in areas where housing is unaffordable.
 
However, Domain’s Jennifer Duke says simply adding more housing to the Sydney area won’t solve the affordability problem: “An additional 30,000 homes were built in Sydney in the last financial year, the most building activity since the city’s 2000 Olympic Games”, she writes.
 
“In 2015-2016, 30,191 new houses and apartments were completed, up 10 per cent year-on-year…This compared to 30,520 new homes built in 1999-2000, when builders were rushing into the market before the introduction of GST in July 2000.”
 
As any first-year economics student knows, prices won’t go up unless there are purchasers for the goods or services, and in this case investors and overseas buyers have come to the party and picked up almost everything on offer. There is so much demand for Sydney property that estate agents are finding it hard to meet the demand of potential buyers on their books.
 
CoreLogic says that its figures show that fewer than 20,000 dwellings are for sale across Sydney, which is less than half the number listed five years ago. Ken Jacobs, who owns a luxury property agency in Double Bay, says there aren’t even enough $5 million houses on the market. "There's more inquiry than actual properties available," said Jacobs
 
Auction clearance rates have never been higher and there’s a real ‘Fear of Missing Out’ (or FOMO as it’s known) among property buyers that has underwritten the recent rises in auction sales results.
 
Why aren’t sellers rushing onto the market to profit from high prices? Newtown agent Duncan Gordon told Domain’s Stephen Nicholls the answer is simple: “People haven’t got a choice of somewhere to move to so why would they sell … a lot of those who are selling have a high motivation – death, divorce or investors cashing in for retirement.”
 
For a time, it seemed the construction of new apartments would satisfy the demand. Australia’s biggest construction firms – Meriton, Brookfield Multiplex and Mirvac, planned for towers of apartments in Sydney and Melbourne with confidence they’d sell off the plan.  But times change and the ‘big three’ are now cutting back on starts of new projects.
 
This has opened a door of opportunity for smaller builders like Newcastle-based MJH Group who’ve just moved into eighth place in the builders’ rankings. Their managing director, Andrew Helmers, says that greenfield developers can still keep volumes rising if they’re willing to cut their profit expectations.
 
“The prices have to come off,” Mr Helmers told the Australian Financial Review. “The peak of the market was about Fathers’ Day last year, [but] it’s still a land of opportunity for any agile builder in my view.”
 
A possible bit of good news for first-home buyers was raised in The Australian by journalist Frank Chung, who said a ruling by the tax office could place some apartments purchased off-the-plan off limits to overseas investors.
 
Mr Chung said that if an off-the-plan sale falls through, the property will be considered second-hand, meaning that foreign buyers will be stopped from purchasing those properties, thereby lowering the eventual resale price.
 
If a significant number of off-the-plan apartment purchase failures eventuates as some analysts believe is beginning to happen, this could create buying opportunities for local purchasers to acquire them at less than their original prices.
 
Return to terrace houses
 
One of the factors now dampening demand is the acceptance by the generations that followed the Baby Boomers that the ‘Aussie dream’ of a quarter-acre block in suburbia is beyond their reach. NSW Planning Minister, Rob Stokes, says we need to change our cultural views: “In 1975 … Sydney was a homogenous sprawl of terracotta roofs. To buy a house it cost four times the average salary – today, the same home costs at least 12 times the average salary,” he said.
 
One possible solution currently being floated in the media is a return to terrace houses that could fit five dwellings into a typical 800 square metre block. Frasers Property Australia’s Residential NSW general manager Nigel Edgar, says there is already strong demand for terraces and townhouses.
 
“For Sydney to cope with its population growth, there needs to be more options on the market,” he told Domain. “At the moment we’ve got two peak strategies for new development, either greenfield land or apartments and there needs to be much more variety than that.”
 
NSW Planning Minister, Rob Stokes says it’s possible that new terrace housing could be on the market in as little as 12 months: "This is very much pointing to what the Sydney of the future might look like," he said. "There will continue to be a lot of detached housing stock ... but it is very clear we need a greater diversity in housing types."
 
Upwards ever upwards
 
Urban Taskforce chief executive Chris Johnson disagrees, saying that more medium-density housing was unlikely to solve Sydney’s future housing needs: “My worry is that if people aren’t realistic to say that we do need taller buildings as part of a mix and need a reasonable number of them, we’re going to struggle,” he said.
 
“Where is the available land? If we don’t seriously address land usage through height we’re just going to run into big problems.”
 
But investors are critically important elements of demand in the present market, and just building more towers of apartments doesn’t necessarily mean that they’re going to be seen as good investment propositions. Scott Phillips, the Motley Fool's director of research, says property investors should think carefully about borrowing to acquire an investment unit just because of the old saying: “They’re not making any more land”.
 
“That's spot on”, he says, “but they're sure as hell making more units. And more units, and more units. Some are saying that'll precipitate a crash, but even if it doesn't, that's going to put - to use the pollies favourite phrase - 'downward pressure' on prices.”
 
According to figures from CoreLogic, an extra 2857 units are expected to be completed in Sydney’s inner city in the 12 months to April 2017.
 
The Reserve Bank of Australia (RBA) recently issued a warning that some off-the-plan unit buyers were having problems settling on their purchases. It identified the risk that off-the-plan buyers may not be able to settle because the banks could value the properties at less than the contract price, and noted that Sydney would have 10,000 new units over the next two years.
 
“In part they are correct but the RBA is overplaying it a little,” said Louis Christopher of property research group SQM Research.
 
“They say growth has moderated and yes, up until the first half of the year, but there are many indicators particularly Sydney that says the market is accelerating again. The oversupply is not enough to create an almighty crash.”
 
Chris Richardson of Deloitte Access Economics says that property could become a bad investment choice ‘over coming decades’. He told the Australian Financial Review that a combination of falling apartment prices and rising interest rates will lead to tough times ahead for property investors.
 
"In some pockets, you would absolutely expect that by 2019 those inner-city apartments would be selling between 10 and 15 per cent lower in price than today", he said. “That's always the way, as booming housing prices starts to get old, the last people through the door are the ones who end up getting hurt."
 
Dr Nigel Stapledon of the UNSW Business School said he didn’t think it would be quite so dramatic: “Quite a high number of units are under construction and will be fed into the market in the next year or two, so there’s a pipeline of work which is unusual,” he said.
 
“It’s still going to be profitable to go in and some people will still do OK in the real estate market but it’s going to be harder.”
 
Citi's Paul Brennan agrees, saying the apartment boom isn’t over yet: “Apartment completions lag starts by one-two years, so the developing oversupply will continue to build into 2017 and 2018 with completions probably doubling across the eastern states," Mr Brennan said.
 
Past the peak?
 
CoreLogic’s Cameron Kusher says that the quarterly pace of capital gains in Sydney peaked over the June quarter of 2015 at 7.4 per cent, but prices growth is still robust.
 
“Although value growth in Sydney and Melbourne is not as strong as it was at its peak, growth continues to be supported by high auction clearance rates which are now at their strongest levels since the June 2015 quarter. In Sydney, clearance rates remained above 80% throughout September.”
 
Phil White, CEO of QBE Lenders’ Mortgage Insurance looked three years into the future and concluded: “prices are forecast to soften through the three years to 2019, which is likely to be positive for housing affordability. It's expected owner-occupiers, including first home buyers, will be stepping in to pick up some of this opportunity in the market."
 
Domain’s Dr Andrew Wilson has no doubts the boom still has legs to run, saying there was a ‘predictable’ resurgence in residential investors after a mid-year pause: “The latest Australian Bureau of Statistics data reports that lending to NSW investors increased by 1.6 per cent during August to $5.78 billion – 9.2 per cent higher than that recorded during August last year.”
 
“Rising prices, relatively attractive yields and tight vacancy rates will continue to attract investors to the booming Sydney market, again keeping upward pressure on already steeply rising prices”, he said.
 
Sources:
‘Strongest Sydney house price growth in a year: Domain Group,’ Jennifer Duke, Domain, 27 October 2016
‘Australian cities are not building houses anymore,’ Julia Corderoy, News.com.au, 7 October 2016
‘Motley Fool: why property investment is nuts right now,’ Scott Phillips, Motley Fool, 19 October 2016
‘Will my property drop in value?’ Hannah Blackiston, Smart Property Investment Blog, 1 September 2016
‘Unprecedented uncertainty’ down the line as number of home starts breaks 12 year record,’ Michael Bleby, Australian Financial Review, 22 September 2016
‘Consumer caution may dampen property party,’ Clancy Yeates, Sydney Morning Herald, 18 October 2016
‘Unrealistic Great Australian Dream of a quarter-acre block is over for Sydneysiders,’ Kate Burke and Jennifer Duke, Domain, 21 September 2016
‘Home prices would need to drop 25pc to help first time buyers: Deutsche Bank,’ Michael Janda, ABC News Online, 27 September 2016
‘Sydney at risk of 'housing bubble', warns UBS,’ Bloomberg, Business Day, 28 September 2016
'This is just the start': China's passion for foreign property,’ Tom Phillips, The Guardian, 30 September 2016
‘CoreLogic: property values have chalked up 52 continuous months of price growth,’ Michelle Hale, News.com.au, 3 October 2016
‘Off-the-plan settlement risk rising, RBA warns,’ Clancy Yeates, Sydney Morning Herald, 14 October 2016
‘Housing boom has peaked, apartment glut to rock the economy: Morgan Stanley,’ Peter Vercoe, Bloomberg in Sydney Morning Herald, 21 October 2016
‘Property set to become ‘worst investment’, Charis Chang, News.com.au, 20 October 2016
‘Apartment prices fell 20pc back in 2004, could history repeat?,’ Stephen Letts, ABC News Online, 5 October 2016
‘September Property Snapshot Infographic,’ Cameron Kusher, CoreLogic, 20 October 2016
‘Terrace housing to come to Sydney suburbs under NSW government proposal,’
Lisa Visentin, Sydney Morning Herald, 17 October 2016
‘Sydney auction market rises as the spring property boom blossoms,’ Dr Andrew Wilson, Domain, 16 October 2016
‘ABS revision shows first home buyers at lower numbers than previously thought,’ Thuy Ong, ABC News Online, 5 October 2016
‘New apartments in Sydney sell like hotcakes despite RBA’s glut warning,’ Su-Lin Tan, Domain, 16 October 2016
‘Shortage of homes defies effort to rein in prices,’ Angus Whitley, Business Day, 7 October 2016
‘Morrison criticised for being ‘out of touch’ with first home buyers,’ Julia Corderoy, News.com.au, 11 October 2016
‘Australian house valuations hit record high, UBS research shows,’ Stephen Letts, ABC Online, 15 October 2016
‘A month into spring and there’s a vicious cycle – no homes to buy, so no-one is selling,’ Stephen Nicholls, Domain, 7 October 2016
‘Sydney housing boom has peaked after crackdown on investor loans, QBE says,’    Emily Cadman, Sydney Morning Herald, 13 October 2016
‘Scott Morrison puts states on notice over house prices,’ James Massola, Sydney Morning Herald, 24 October 2016
‘Failed off-the-plan apartments ‘second-hand’,’ Frank Chung, News.com.au, 24 October 2016