Interest rate rises make this a buyer’s market for those with finance

With property prices falling, many sellers are becoming more receptive to the offers they receive. There are some two dozen Sydney postcodes where property values have retraced to pre-pandemic levels: Suburbs like Darlinghurst, where CoreLogic figures show house values are down 13.7 per cent from their March 2020 level, Surry Hills – down 12.8 per cent, and Redfern – down 9.7 per cent, are at the top of the list but the falls are spread across the greater Sydney area. 

Units have also been hit by the price drops. Epping experienced the largest fall for units- down 11.5 per cent, followed by a number of high-density postcodes including Macquarie Park - down 7.9 per cent, St Leonards - down 7.2 per cent, and Parramatta -down 5.3 per cent.

CoreLogic head of research Tim Lawless said many of the suburbs where house prices have fallen below pre-pandemic levels were also ones that led the latest property prices boom: “These areas are quite often a bellwether; they lead the upswings and lead the downturns as well,” he said.

“If there is one encouraging sign it’s also that upper quartile, that seems to be losing momentum in the downturn now. These are the suburbs that stabilise early and attract buyers to capitalise on that. They’re representing better value now than they might have been a couple of years ago.”

The vendors Domain has designated ‘motivated sellers’ are becoming more important in these testing conditions. These sellers want to get the sale over with before the end of the year. They expect more interest rate hikes to come and know that this could reduce the amount they receive for their property. Few if any expect the strong prices of earlier in the year, but they want the sale because they’re downsizing, moving to a new city or wish to sell for other personal reasons.

Buyers’ agent Peter Kelaher, of PK Property says the main sellers now are deceased estates, downsizers, marital separations and people who’ve bought elsewhere and need to sell: “The people that do need to sell are meeting the market, and they’re setting realistic reserves, and they’re either meeting the reserve, getting a little bit over, a little bit under.”

Auctions have rebounded and clearance rates have risen above the 60 per cent mark most weeks. The October auction clearance rate recovered to 61 per cent, the highest level since March, after hitting a low of 49.7 per cent in July. Auction volumes were also up for a third month, although the total number was down by 33 per cent over last year.

Wendy Chamberlain, of Chamberlain Property Advocates, says that some sellers are concerned about potential buyers having pre-approved mortgages that expire, meaning what might have been an offer of $1 million could now be reduced to $920,000.

“Vendors have basically seen six months of interest rate rises and how that has affected buyers and buyer sentiment in the market and realise they’re going to have to be realistic about where the property prices sit. You’ll still get one or two that go, ‘no, we want our price’, and those properties tend to sit on the market,” she told Domain’s Tawar Razaghi.

Of course, there are some sales where owners are willing to take a loss as the impacts of seven straight interest rate hikes are felt. Many homebuyers and investors overpaid for properties in boom market conditions last year – believing interest rates would stay low until 2024 – and are now feeling the pinch of skyrocketing mortgages.

SQM Research says that in October distressed listings, where the seller makes a loss or accepts a lower price than they usually would, jumped by 5.7 per cent nationally, with an increase of 7.8 per cent in New South Wales.

There are signs that buyers’ interest may be on the increase. The average number of buyers attending each open property jumped 12.6 per cent in October from the month before, and data from Ray White shows that there were an average of 3.7 bidders at auctions by the end of October, the highest number in the past year.

St George Bank chief economist Besa Deda has also seen a pick-up in buyer demand but cautioned that budgets were constrained: “Demand is sluggish, but it is starting to perk up a little, but it doesn’t necessarily mean they’re willing to pay higher prices in an environment where the central bank is going to raise rates further,” Deda said.

“Deals are still going through, but it is a case of lowering [seller] expectations and bringing the buyer to the party.”

Of course, there are other vendors that are holding their properties off the market as they wait for better prices in the months – and maybe the year, ahead. AMP Capital chief economist Dr Shane Oliver said that many owners are hesitant to list which means there are not many homes to choose from, and this is helping to moderate price falls: “There was a feeling through the spring selling season you’d see a rise in listings, but we haven’t seen that. That has contributed to the ease in the rate of decline,” Oliver said.

“This property market downturn will wax and wane until we get to the bottom. We’re still at relatively early days of it because we’re yet to see the full impact of higher interest rates. There is still a fair way to go.” 

Is the only way up?

Domain data shows that Sydney’s median house price dropped almost $80,000 over the September quarter - a 5.2 per cent drop, with the largest declines among houses in the northern beaches and eastern suburbs, down by $344,000 and $260,000 respectively. Unit prices held up a bit better but the median fell by 5.7 per cent to $755,000 – a decline of about $24,000, over the past three months.

The largest quarterly fall was in the northern beaches where the median house price there dropped 13.2 per cent and fell 18 per cent year-on-year. The median price in the eastern suburbs fell 7.7 per cent or $260,000. Six-figure declines were also seen in the city, inner south, north shore, inner west, Ryde and inner south-west regions.

These are the steepest quarterly house price falls since 1993 and median prices across Sydney are 8.3 per cent down from their peak in the March quarter. It does take house prices back to mid-2021 levels, so there are still gains from the last boom remaining in many suburbs, but with more rate hikes expected prices aren’t going to surge upwards for a while.

Figures from CoreLogic indicate that Sydney’s prices rose 27.9 per cent from the Covid trough to the peak, adding about $252,900 to the average dwelling value. These figures also showed that the declines from the February peak represent a fall of about $116,500 for the average home and it would take a further drop of 11.4 per cent before reaching pre-pandemic levels.

McGrath chief executive John McGrath said that Sydney prices had become unrealistic during the boom: “People started to panic and pay … very unrealistic prices,” he said. “The last 5 to 10 per cent of market growth was unjustifiable, so it had to come back.” He added that he thinks the market may be nearing its low point and if interest rates stabilised it would generate greater confidence among both buyers and sellers. 

Gareth Aird, head of Australian economics at Commonwealth Bank, expects Sydney to show an 18 per cent peak-to-trough decline, although he cautions that falls could be greater than this if the RBA’s cash rate goes above the forecast 3.1 per cent.

Interest-ing times

In the first week of November the RBA revised upwards its forecast for peak inflation to 8 per cent this year. It also predicted high prices would linger for longer, with CPI inflation still at 4.7 per cent over 2023 and remaining above 3 per cent into 2025. This means that economists expect prices to continue rising and hopes of an early cessation of rate rises have dimmed.

The November cash rate rise from 2.6 per cent to 2.85 per cent means a borrower owing $750,000 on a 25-year mortgage will need to pay an extra $112 a month once the rate rise is passed on by the banks, according to RateCity figures. This typical borrower is now dealing with an increase of $1,140 in their monthly repayments since rates started rising in May.

Marcel Thieliant from Capital Economics believes that the RBA still has another four 0.25-percentage-point rises ahead over the next six months or so. However, he also believes inflation will slow much faster next year than the RBA is forecasting.

"The upshot is that we still see a good chance that policy will be loosened before the end of next year," he says. "We have pencilled in a total of 75 basis points of rate cuts by mid-2024, taking the cash rate to 3.1 per cent.

The RBA’s governor, Philip Lowe, says the bank’s board believes interest rates will need to go higher to bring inflation under control: “We are not on a pre-set path,” he added. “If we need to step up to larger increases again to secure the return of inflation to target, we will do that. Similarly, if the situation requires us to hold steady for a while, we will.”

NAB’s London-based director of economics, David de Garis, said Dr Lowe had a choice: “Go too hard and risk smashing households and plunging the country into a recession; go too soft and risk embedding high inflation, necessitating higher interest rates and plunging the country into a recession.”

So, interest rates and what the RBA does about them are likely to remain a serious topic of discussion and debate for some time to come, and that means our property prices aren’t about to rebound until at least when interest rate rises have ceased. Dwelling prices alone accounted for a quarter of the 7.3 per cent rise in inflation over the past year, but just because property prices are now falling doesn’t tell us inflation’s getting under control.

In its latest statement of monetary policy the RBA said demand for housing finance had eased as the market cooled, while housing credit growth was slowing. “Some factors that have boosted inflation over the past year are reversing, though it will take some time before the effects flow through to prices paid by consumers,” the RBA said.

The decline in prices as interest rates rise should not cause a great deal of anxiety for homeowners, UTS Professor of Finance Professor Harry Scheule told Eli Green at News.com.au.  “The trend can continue; you can expect further interest rate increases but no one expects interest rate increases to continue forever - it will lower at some point. 

“Currently the Australian economy is strong, we’ve got a historically low unemployment rate and what’s going on with interest rates and house prices is being offset with a strong economy. Definitely expect declines in 2023, but the expectation is that it will stabilise in 2024,” he said.

Borrowers’ capacity tested

APRA, Australia’s banking regulator, isn’t exactly there for the borrowers. Wayne Byers, the outgoing chair of APRA, says the organisation’s role is to “protect banks from collapse and not borrowers from default”. Since APRA’s rules govern the manner in which borrowers are assessed when they apply for a mortgage, it’s an important element in our housing system.

After removing a seven per cent floor on the interest rate to be used when banks assess prospective borrowers in 2019, APRA ruled that borrowers could be assessed on whether they could afford repayments if interest rates rose 2.5 percentage points above their initial interest rate. In late 2021 APRA lifted the buffer amount to 3 percentage points, but by that time housing prices had skyrocketed about 30 per cent nationwide while interest rates were still at historic lows.

This has meant around 300,000 borrowers who took out housing loans during the pandemic are now expected to make higher repayments than they were tested for when they took out their loans. Mr Byers said some of them would find it hard to manage their situation: “Borrowers with only a small equity buffer and/or high levels of leverage relative to their income will be particularly challenged; borrowers currently on very low fixed rates face a significant repayment shock in the future."

He did opine that the existence of some borrowers in difficulty didn’t reflect weak lending standards: “After all, a bank that does not make a bad loan will be a bank that denies credit to many good customers. In Australia, the banking system is in good shape to weather the adjustment, and — notwithstanding there will be pockets of stress within loan books — there is no sense it will threaten the soundness or stability of the system," he said.

Data from the Australian Bureau of Statistics shows that the value of new owner-occupier loans fell by 9.3 per cent in September, to $25.1 billion, while new investor loans also fell by 6 per cent. The number of first home buyer owner-occupier loans also fell by 8.3 per cent in September, after rising by 10.4 per cent in August.

Vacancies shrink

Australia’s rental vacancy rate has plummeted from 1.9 per cent in October last year to 0.8 per cent twelve months later. Sydney has now seen its fourth consecutive monthly vacancy rate fall, and the number of available rentals across Sydney has dropped by 53 per cent. 

Domain data shows that Sydney house rents rose by 4.8 per cent or $30 per week to a $650 median in the September quarter. There is a bit of hope for tenants in statistics that show national record rental rates have begun to ease; CoreLogic’s latest quarterly rental review showed an increase of just 0.6 per cent in September, but this came amid an annual growth trend of 10 per cent.

The September slowdown in rental growth may suggest that an increasing number of prospective tenants are starting to come up against affordability constraints. Everybody’s Home CEO Kate Colvin said Australia says some locations have hit an “affordability ceiling”.

“There’s only so much people can pay,” she said. “Someone who’s bought an investment property will pass the cost of interest rates on if they can, but if they can’t find a tenant willing to pay more, they have to offer the property at maximum people can afford.”

The chair of the Property Investment Professionals of Australia (PIPA), Nicola McDougall, said the sharp rate hikes would dissuade investors from purchasing rental properties: “Vacancy rates are at record lows,” she said. “While opportunities clearly exist for investors in the current market, if they’re unable to secure finance then we’re likely to see … sustained downward pressure on vacancy rates for some time yet.”

Supply and prices

The recent federal budget incorporated the government’s plan to create another one million houses over the next five years. This might sound impressive, but over the past five years we’ve built nearly that many - 974,732 according to economist Peter Tulip, chief economist at the Centre for Independent Studies, so a million’s no big improvement on our current position. 

The million new homes promised include 60,000 built with government subsidies. These are targeted at lower income families but won’t do much to alleviate the shortage of affordable housing across Australia. What we really need is enough new homes to reduce the overall demand for housing and that’s more than any government can afford.

Mr Tulip tells us that every increase of one per cent in the housing stock reduces the cost of housing by 2.5 per cent. There are ten million homes now in Australia, so if those promised one million houses were additional to those already likely to be built we’d have a theoretical two million new homes over the next five years and the costs both of new homes and rentals would decrease substantially. But that’s not likely to happen.

The Commonwealth government will spend $350 million over five years (commencing in 2024) for the first 10,000 homes while the states and territories will chip in to support another 10,000 bringing us to 20,000 homes in total. Treasurer Jim Chalmers said that while some funds had already signed up to participate in this plan, there was still more work to do.

"There's a heap of activity in the sector [now] … we need to deal with the skills and labour shortages, we need to deal with the supply shortages," Mr Chalmers said.

Stamp duty reforms

The NSW government has released some calculations to show us how beneficial their stamp duty reforms will be for first-home buyers. According to a NSW Treasury analysis, a first home buyer who opts to pay property tax instead of stamp duty would be ahead financially for 60 years. 

Under the plan outlined by the Perrottet government, first-home buyers who opt into the government’s property tax reform would pay an annual levy of $400 plus a 0.3 per cent tax on the value of their land. Property tax rates would be indexed so that the average annual property tax payment grows at the same rate as gross state product (GSP) per capita. Importantly, annual increases will be capped at 4 per cent if the plan goes ahead as outlined.

Treasury estimates that half of all owner-occupiers sell their properties within 10.5 years while two-thirds of owner-occupiers sell their properties within 20 years. NSW Treasurer Matt Kean says his government’s policy will help younger buyers get into the property market: “Most people purchase a home more than once during their lives, so it will make sense for many first home buyers to choose a smaller annual fee for that limited period, rather than stamp duty paid upfront in a lump sum,” Kean said.

Back in 2019 the Grattan Institute told the NSW government that stamp duties are among the most inefficient and inequitable taxes available to the states and territories. It said that property taxes – which are levied on the value of property holdings – are the most efficient taxes available to the states and territories. 

The Institute calculated that a low-rate, broad-based land tax in NSW using the council rates base could raise $9 billion a year through an annual levy of $5 for every $1000 of unimproved land value, which would be enough to fund the abolition of stamp duties.

It acknowledged that existing homeowners, especially those who are retired or otherwise on fixed incomes may find it hard to adjust to an annual tax on their houses: “Allowing some homeowners to defer payment until they sell their house would also ensure asset-rich but income-poor households could stay in their homes,” the Institute said.

The ABC did some calculations and found that for a $1.5 million property in Penrith stamp duty would cost almost $67,000 while land tax would be $2,500 each year.

Concerns have been expressed by the Combined Pensioners and Superannuants Association (CPSA) that the policy ‘may be about the introduction of a universal property tax in NSW by stealth and small beginnings’.

“Economists dream of replacing a one-off stamp duty on real estate transactions with an annual land tax,” said the CPSA in a media release. “They claim it is a more efficient tax. Rightly so because everyone owning property would pay it every year.

“Replacing stamp duty with a land tax can work for people with plenty of money coming in. But for people on low incomes, it is unaffordable. That includes many pensioners. Just imagine if you had to pay double the council rates you pay now. That would be the simple reality of land tax.”

NSW opposition leader Chris Minns has said Labor will scrap Mr Perrottet’s stamp duty reforms if his party wins the March 2023 elections: “Our concern is that future governments will jack up the land tax rate.

“If you’re already on that merry-go-round, you have to trust this premier, and all future premiers, not to up the land tax rate on your family home,” he said. “The last thing anyone in NSW needs is a tax on their home forever - we'll stop it.” 

Sources:

‘The Sydney suburbs where property values have dropped to pre-pandemic levels,’ Tawar Razaghi, Domain, 13 November 2022
‘Stamp duty legislation passes NSW parliament despite opposition from Labor and Greens,’ Paige Cockburn, ABC News online, 11 November 2022
‘Land tax bill passes in NSW parliament, homebuyers can pick stamp duty or ongoing payment,’ Eli Green, News.com.au, 11 November 2022
‘NSW paves way to end stamp duty with new first home buyer choice,’ Samantha Hutchinson, The Australian Financial Review, 11 November 2022
‘Perrottet’s stamp duty overhaul faces roadblock until after election,’ Alexandra Smith and Natassia Chrysanthos, Sydney Morning Herald, 8 November 2022
‘Property sellers cut their price hopes to meet budget-conscious buyers,’ Melissa Heagney, Domain, 7 November 2022
‘Key detail to remember as house prices continue to fall,’ Eli Green, News.com.au, 1 November 2022
‘Land tax dead, stamp duty lives,’ Media release, Combined Pensioners & Superannuants Association, 22 June 2022
‘Distressed housing sales rise as owners succumb to Australia’s rising interest rates,’ Caitlin Cassidy, The Guardian, 5 November 2022
‘Reserve Bank sticks to smaller interest rate hike despite inflation shock,’ Michael Janda, ABC News online, 1 November 2022
‘Rental price growth slows from unprecedented highs as tenants hit ‘affordability ceiling’, Caitlin Cassidy, The Guardian, 5 November 2022
‘It’s going to get worse’: Larger rental crisis looms as vacancies hit record lows,’ Melissa Heagney, Domain, 4 November 2022
‘Narrow path’: Big issue facing Reserve Bank of Australia boss,’ Angie Raphael, News.com.au, 5 November 2022
‘Now that Australia’s house prices are falling, does the RBA really need to raise rates yet again?,’ , Greg Jericho, The Guardian, 4 November 2022
‘Why the RBA’s inflation problem just got trickier,’ Ronald Mizen, Australian Financial Review, 6 November 2022
‘Sydney’s plunging property prices leave potential sellers spooked,’ Tawar Razaghi, Domain, 5 November 2022
‘Sydney house prices falling at fastest pace on record,’ Kate Burke, Domain, 27 October 2022
‘Auctions are in a downward cycle, pushing property prices lower,’ Elizabeth Redman, Domain, 24 October 2022
‘Minns vows to scrap Perrottet’s stamp duty reforms if elected,’ Tom Rabe, Sydney Morning Herald, 31 October 2022
‘First home owners would save money for 60 years with property tax, says NSW government,’ Alexandra Smith, Sydney Morning Herald, 1 November 2022
'Aspirational' target of 1 million affordable rental homes unveiled in federal budget. Here's what the plan looks like,’ Peta Fuller, ABC News online, 26 October 2022
‘APRA chair Wayne Byres says falling house prices are 'no bad thing', Michael Janda, ABC News online, 21 October 2022
‘A million extra homes won’t fix affordability headache,’ Peter Tulip, Sydney Morning Herald, 27 October 2022