At its February meeting the Reserve Bank left rates just where they’ve been for what seems like years – and it has been years, going on for three of them. This has caused a lot of comment among members of the financial fraternity, but even the fiscal experts disagree about where interest rates should go next.

"People with principal and interest, owner-occupier home loans will be paying less this time next year than they are today," Shaw and Partners banking analyst Brett Le Mesurier said, going for a rate reduction on the ABC’s Radio National.

Opting for the middle ground, Reserve Bank Governor Philip Lowe recently suggested an interest rate hike was less likely than the central bank had previously signalled: "Looking forward, there are scenarios where the next move in the cash rate is up and other scenarios where it is down," Dr Lowe said.

"Over the past year, the next-move-is-up scenarios were more likely than the next-move-is-down scenarios. Today, the probabilities appear to be more evenly balanced."

Another interest rates oddsmaker is UTS business professor Warren Hogan who said there’s a one-in-four chance of a rate cut: "The housing market is the key here," he said. "If it continues to deteriorate in the first half of 2019, like it did in the second half of 2018, I think we will get a rate cut.”

This is somewhat contradicted by Australia’s big four banks who have experienced increases in funding costs in the past three months and independently raised interest rates on some mortgage offerings. Westpac told the ABC, "funding costs are up since November", and the ANZ Bank supported this, saying: "funding costs have increased again in recent months, resulting in an increase to overall bank-funding costs compared to three months ago".

It’s a critically important issue for the Sydney property market, and eventually the RBA will have to decide which direction to take. There is a proven relationship between lending activity and property prices, and the most recent deceleration in home lending has been accompanied by a dramatic fall in property values across NSW.

The extent of the drama can be determined by figures showing the value of lending to owner-occupiers had fallen by 10 per cent and loans to investors had tumbled by 23 per cent over the year to November 2018. Without the access to finance they’d enjoyed before the banks tightened their lending practices, both owner-occupiers and investors had no choice but to pull back from the market and await more opportune times.

This situation didn’t go unnoticed.  In December 2018 the Council of Financial Regulators’ released a statement saying that “members agreed on the importance of lenders continuing to supply credit to the economy while they adjust their lending practices … an overly cautious approach by some lenders to incorporating relevant laws and standards into loan approval processes may be affecting lending decisions”.

It's yet to be seen what impacts the findings of the Hayne Royal Commission will have on the banking industry, although many of the reforms recommended have already been anticipated and adopted by the banks. Banking analyst Brian Johnson told ABC TV’s The Business program: "The royal commission is probably not the disaster some people had thought because the banks have already reacted to each of the round hearings as they've come through."

The general conclusion is that the Hayne report may have some sort of effect on the banks’ lending practices but it won’t cause any major upheavals to the industry and shouldn’t directly affect the amount of borrowing to fund home loans, other than to cause a big drop in the use of mortgage brokers.

There is an historic link telling us that if the RBA cuts its prime rate, more people will borrow to buy property. Conversely, higher rates will deter some buyers from entering the market. But the Reserve Bank’s interest rates have never been this low – just 1.5 per cent, and a cut of one-quarter or even one-half of a per cent doesn’t equate to massive savings.

Still, the RBA is faced with declining house prices, a significant slowdown in housing construction, and a slowing economy that is threatened by a weakening in the financial fortunes of our biggest trading partner, China. It might just decide that cutting the prime rate would be enough of a ‘trigger’ to stimulate a sluggish Australian economy and possibly get home lending growing again.

Looking bad

It’s nothing new to hear that Sydney house prices have fallen ten per cent in 2018. That’s a drop of something like $120,000 on the average house, and the downturn is continuing into 2019. Domain’s Nicola Powell sums it up: “House prices have fallen 11. 4 per cent from the mid-2017 peak, pushing them back to mid-2016 levels. It’s the sharpest downturn in more than two decades, although the duration is yet to surpass the 2004-06 slump.”

So, in a way, we’ve been here before. What goes up must come down, and so forth. But that’s not to say that the Sydney property market has ever faced the current set of conditions that are in many ways record-setting. It’s been a rough 18 months or so and thus far there’s not much light at the other end of the tunnel.

Nationally, Australia will probably see one of the world’s biggest price declines this year, according to Fitch Ratings, an international credit rating agency. Fitch Ratings forecast Australian house prices would decline a further five per cent this year, making Australian housing the worst performer out of 24 countries for the second consecutive year.

Capital Economics economists Marcel Thieliant and Ben Udy told the Sydney Morning Herald that they expect prices to fall by an average of 15 per cent across the nation's capital cities, which would make it the deepest and longest fall in prices on record.

"Australia’s housing slump is intensifying. House prices fell by more than in any month in December since the current downturn started and our sales-to-listing ratio fell to a fresh record-low. That suggests that prices will keep falling at a similar pace in the first half of this year," they said.

Analysts from Morgan Stanley have also forecast that prices nationally are likely to fall in real terms by between 15 and 20 per cent. Even more dire is their expectation that the fall will be larger in Sydney and Melbourne leading to inflation-adjusted drops “in excess of 20 per cent”.

Perhaps the most prominent of those with a negative outlook is Shane Oliver, chief economist at AMP Capital. “I think we’re less than halfway through, we’ve got more downside to go,” he said, having revised his earlier forecast even lower and now predicts a total 25 per cent plunge in the price of Sydney property.

The ABC’s Michael Janda recently bought a house after 15 years of renting. He provided these words of advice for anyone who might be holding off purchasing a property in the current market: “An individual property can sell for a lot more or less than what the general market is doing around it depending on a range of factors, from how desirable it is, to how many interested buyers there are, how good the marketing campaign is or whether a couple of other houses are selling on the same street that month.

“Also, if it's your home, not an investment, and you're happy living there and can afford it, why would you care what it's worth at any given point in time?”

The positive side

As we said, we’ve been here before. And although the economic news is pretty downbeat, there are some positive aspects to our present situation that are worth mentioning. The first is that the prices plunge isn’t uniform across Sydney, so some property owners have, on paper at least, lost less than others. Some have even gained.

Domain’s Kate Burke reports that a drop of more than 10 per cent has been seen in regions including the inner-city and eastern suburbs, inner-west, north-west, south and Canterbury/Bankstown. The south was the worst affected, with the median price dropping 14.8 per cent, while the smallest declines were in the Blue Mountains and Central Coast with falls of 1.8 and 3.1 per cent respectively, followed by the west and south-west with respective falls of 6.1 and 6.3 per cent.

As prices continue to fall, many first-home buyers are now able to acquire a property that was previously out of their reach. Others have sold their apartment and upgraded to a free-standing house. For those able to get the finance, it’s now easier to move up from a one-bedroom apartment to one with two bedrooms, or to go from a two-bedroom house to a three-bedroom home.

It’s also now possible to move into a more desirable suburb or to acquire a home closer to the CBD, writes Ms Burke: “Popular suburbs like Newtown, Erskineville and Leichhardt are now more affordable to buy into than Earlwood was in 2017. On the lower north shore Willoughby is now more affordable than Lane Cove was during the market peak. Meanwhile in the south, buyers with a $1 million budget can look at houses in suburbs 20 kilometres closer to the city, swapping Engadine and Heathcote for suburbs like Bexley and Peakhurst.”

Home builders and developers are even offering potential buyers incentives as they try to compete in an increasingly tough property market. Apartment developer Meriton is offering three per cent fixed rate finance as well as a 50 per cent stamp duty refund for all buyers. In Victoria, Amity Property Group is offering up to half a million Qantas frequent flyer points with their new apartments, and in Queensland, Brisbane developer Privium Homes offers the chance to win one of 20 MG 3 cars for putting down a deposit on one of its Canvas homes.

Other builders and developers are offering pricing discounts to lure purchasers. Volume home builder Metricon Homes is offering a promotion on some of its two-storey, four-bedroom houses for $266,900, plus offering $50,000 worth of fittings and finishes for $10,000. National builder Simonds Homes’ current advertising campaign offers prices as low as $138,000 for a three-bedroom house, rising to just $235,000 for a five-bedroom option.

For those looking to rent rather than buy, the present conditions are giving them a very real chance to lower their weekly rentals. Domain figures show that the median Sydney asking price is now $540 a week for houses, down 1.8 per cent in the year ending December 2018, according to the latest Domain Rental Report for the December quarter that saw Sydney lose its title of Australia’s most expensive city in which to rent a house.

Domain’s senior data analyst Nicola Powell said renters looking for better value should look in postcodes with both greater supply and lower sale prices: “For the unit market, it’s those areas that have had a heightened level of supply and were a magnet for investor activity, therefore we’ve seen increased stock and [that] has helped alleviate rents,” Dr Powell said.

“I think you also have to look at the dynamics of the residential sales market. You need to look at those who are relocating and don’t want to sell in a slowing market. Owner-occupiers who are probably nervous about selling in a slowing market are instead choosing to rent out their homes.”

High-rise headaches

The recent (and unfinished) dramas over the Opal Tower at Sydney’s Olympic Park have brought apartment towers into an unwelcome spotlight. Owners in the troubled tower are concerned about issues ranging from the building’s construction quality to their diminished resale values, and these concerns have spread to put a shadow over similar properties in Sydney.

Nick Sas summarised the situation in a Sydney Morning Herald article: “As tens of thousands of new units get set to hit the local market this year — creating an expected oversupply in Sydney — property analysts say the flow-on effect of the Opal Tower drama, combined with softened market conditions, will create a ‘new reality’ for new apartment owners and investors.”

Analysts now say the Opal Tower’s unfortunate tale of woe will affect buyer confidence in other off-the-plan high-rise apartment complexes. Independent property analyst Martin North from Digital Finance Analytics said property valuers he had spoken to had already lowered the price of off-the-plan apartments by 16 per cent since the Opal Tower incident.

"We were already seeing in our surveys that people were quite twitchy about the high-rise developments," Mr North told Nick Sas. “And now some people who are contracted to buy off the plan may well walk away. Forward demand was already shrinking, and there is no doubt we will see considerable slides in prices."

It must be noted that Mr North is not a big fan of high-rise apartment buildings. When he was interviewed on Nine Network’s 60 Minutes, he said that Australia has built a generation of properties that could become slums in just 20 years: “We have so many properties across Australia which are being thrown up, or have been thrown up, with significant defects in them. I think we've built a generation of properties that frankly could become slums in 20 or 30 years.”

But there are some other projects out there that are distressed just because of Australia’s property slump. One of them is the multi-storey Elysee project in Epping in Sydney’s north-west. Receivers and managers are selling 61 units in what’s called a “fire sale” after the developer was unable to successfully market all the units in the project.

Buyers advocate Miriam Sandkuhler told ABC News that buying a property off the plan has always been a risky move: "If there's a downturn in the market, or if there's an oversupply of stock in the market when the property is finally built, that can substantially affect the value of that property and frequently those values come in under the purchase price of the contract," she said.

"You can more or less be guaranteed that approximately 50 per cent of the time the properties may come in under the contract price and therefore somebody's going to settle on it being worth less than what they paid."

Research group CoreLogic has issued its forecast for property markets around the country and it is not expecting a property crash. However, it expects a glut of new apartments to come onto the market in Sydney this year and is already noticing a growing proportion of these developments settling at lower prices.

Chinese puzzle

For a time, it seemed Chinese buyers were withdrawing from the Australian property market. A combination of restrictions imposed by the Chinese government and new taxes and charges on foreign buyers applied by Australian states had caused a noticeable pullback by previously rampant Chinese purchasers.

However, it’s now thought that the number of Chinese buyers of Australian homes is likely to remain steady this year according to a new report ‘Australia 2019 Outlook for Chinese Residential Real Estate Buying’ by Chinese international property portal Juwai.com.

The Chinese economy has made many millionaires, in whichever country’s dollars you’d like to use for calculations, but also benefiting from China’s new-found prosperity has been that nation’s middle class as the wealth of the average adult has risen four-fold over the past six years. And if you’ve recently acquired wealth, you’ll also want a place to put something away for the years to come.

“Unlike Australians, Chinese also lack appealing alternative investments at home,” Juwai chief executive Carrie Law told Domain’s Sue Williams. “Because few other appealing investment opportunities exist, Chinese have put 53 per cent of their wealth into real estate. In a 2018 survey, Chinese overseas investors named residential property their favourite asset class.”

Ms Law also said that the Australian dollar was down about 5 per cent on the yuan, which was helping Chinese buyers justify purchases: “If it falls another 2 or 3 per cent, that completely erases the cost of the foreign buyer stamp duty, which tops out at 7 to 8 per cent, depending on the state.”

Chinese specialist at Sydney Sotheby’s International Realty Lu Lu Pallier also says that 2019 will see similar levels of Chinese buying as the previous year: “But we will see an effect on the off-the-plan market as a lot of people are coming up for settlement this year. Restrictions on taking their money out of China and lending restrictions here mean a percentage won’t be able to settle, will lose their 10 per cent deposit and the property will go back on the market and prices will go down further.”

Jon Ellis, founder of investment portal Investorist, says the Chinese buyers are now less likely to be speculators and are mostly those who want an Australian education for themselves or a family member, or who want to acquire property as part of a migration plan. “The straight investor is gone,” he says.

However, unless some changes are made, Meriton founder Harry Triguboff has warned this year could be worse than 2018 for Sydney’s housing market. In an article in The Australian,  Mr Triguboff called for easing of taxes to lure foreign buyers back into the market and for young people to be able to access their superannuation to buy a home.

“It may be as bad as last year, it may be worse,” he told News.com’s Frank Chung. “Australia is completely dependent on the Chinese (buyers). (The slowdown) must affect the broader economy.”

Side effects

"The current correction in the housing market is a significant area of uncertainty," the RBA said in its February statement on monetary policy. "The implications of the housing market correction for the broader economy depend on how households respond, including how they take previous price increases into account in their spending decisions."

The Bank also warned that the correction could have implications for business and household providers, such as real estate and legal services, as well as causing a decrease in stamp duty revenue, which the NSW government is heavily dependent upon to fund its budget.

Writing in Business Insider, David Scutt says the housing downturn has had a marked negative effect on the construction sector, as shown by the Australian Industry Group’s (Ai Group) Performance of Construction Index, or the PCI as it’s known in the industry.

“The PCI slumped to 42.6 points in December in seasonally adjusted terms, down 1.9 points on the level reported in November. So, at 42.6, it indicates that not only did activity levels weaken again during the month, they did so at the fastest pace in over five years. That’s a stark turnaround in conditions compared to what was seen throughout most of 2017 and the first half of 2018.”

The PCI measures perceived changes in activity levels across Australia’s construction sector from one month to the next. Anything above 50 signals that activity levels are improving while a reading below suggests they’re deteriorating. The distance away from 50 indicates how quickly activity levels are expanding or contracting.

The Australian Industry Group also said that when it came to the residential sector, especially for apartment construction, the news was dire: “Apartment building was the weakest performing sector, declining for a ninth consecutive month and at the sharpest rate since mid-2012. House building also fell further into negative territory with the sector’s rate of contraction the most marked in just over six years.”

The housing downturn has also had serious consequences for some of Australia’s biggest real estate developers. UBS analysts Grant McCasker and James Druce said that Mirvac, Lendlease and Stockland all face a higher risk of settlements falling over because of their exposure to projects that were sold to buyers at the 2017 peak of the property cycle: “We see Mirvac as most at risk followed by Lendlease and Stockland,” they told the Sydney Morning Herald.

The number of buyers cancelling contracts on land purchases is presently low, they said, but the UBS analysts warn that tightening credit, price falls, incentives and lower deposits will increase the number of struggling buyers.

Looking towards the future, CoreLogic’s head of research Cameron Kusher says dwelling approvals have been above long-term averages for a number of years, and developers are now seeking fewer approvals because the property market had turned.

Mr Kusher told New.com’s James Hall that the decrease in projects being approved is a reflection of the changing market cycle but an undersupply would eventually develop and drive prices back up.

“It means there will be less new housing stock,” he said. “Over time it will create a shortage of new housing stock and eventually trigger a new wave of development, but that will occur further down the track.”

Sources

‘Nearly 1000 less apartments were approved in 12 months,’ James Hall, News.com.au, 9 February 2019
‘Reserve Bank cuts forecasts as fears grow over housing,’ Eryk Bagshaw, Sydney Morning Herald, 8 February 2019
‘Why home lending will prove the key driver of property prices in 2019,’ Trent Wiltshire, Domain, 21 January 2019
‘Interest rates on mortgages could be even lower in a year, analysts predict,’ David Taylor, RN Breakfast, ABC News Online, 17 January 2019
‘Sydney house prices fall 9.9 per cent in 2018: Domain report,’ Kate Burke, Domain, 24 January 2019
‘The crucial data to watch as Australia's housing downturn unfolds,’ David Scutt, Sydney Morning Herald, 21 January 2019
‘Sydney house prices fall at fastest rate in 20 years,’ Michael McGowan, The Guardian, 24 January 2019
‘Growing fears RBA will have to cut rates to stop tumbling house prices,’ Shane Wright, Sydney Morning Herald,19 January 2019
‘Sydney buyers get more bang for their buck as house prices decline,’ Tawar Razaghi and Kate Burke, Domain, 26 January 2019
‘Australia to see world's worst 2019 house price fall: report,’ Nassim Khadem, ABC News online, 17 January 2019
‘Just advertising tools’: Incentives and discounts on offer in crowded new-build market,’ Jim Malot, Domain, 16 January 2019
‘Chinese home buyers set to snap up Australian property in 2019,’ Sue Williams, Domain, 21 January 2019       
‘Rivers of gold’ dry up: Chinese New Year likely to be flat for property,’ Jim Malot, Twitter, 3 February 2019
‘Housing market falls ‘may be worse’ in 2019,’ Frank Chung, News.com.au, 1 February 2019
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‘Analyst Martin North says Australian high-rises could become 'slums,' Sammi Taylor, 60 Minutes, 3 February 2019
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‘Housing slump bites as Sydney apartments line up for fire sale,’ Simon Johanson & Carolyn Cummins, Sydney Morning Herald, 31 January 2019
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