Home prices will ease but there won't be a crash

Australia's house prices are expected to begin declining in 2017 according to a new report from economic forecaster BIS Shrapnel.

According to the company’s Residential Property Prospects, 2015 to 2018 report, low interest rates will support further price growth in undersupplied residential property markets in 2015/16, but the spectre of tightening interest rates, rising supply and deterioration of affordability will create conditions for price declines in a number of cities from 2017.

Interestingly they say that the “doomsday predictions for the residential market are likely to be overblown.”

BIS Shrapnel have as good a track record for predicting markets as any of the big research houses – sometimes they get it right and sometimes they get it wrong.

Having said that, of course this property cycle must end at some time and the likely cause will be rising interest rates as it was in 2011, in 2003 and in the 1990’s.

Now I’ll give you my thoughts on what this all means to property investors and whether it’s too late in the cycle to buy in a moment, but first here’s a summary of the report:

We’re building too many apartments

Report author, Angie Zigomanis, says most concerning is the explosion in apartment construction.

"Moreover, the boom in apartment construction over the past couple of years is creating a disconnect in the supply balance between detached houses and units, with a resulting difference in their price outlook.

"Most capital cities are building apartments at record rates, driven by investor demand."

He said strong tenant demand would be needed to support rents and the value of apartments.

"However, we are seeing population growth nationally begin to slow."

Net overseas migration has fallen from a recent peak of 235,700 people in 2012/13 to about 184,000 during the 2014 calendar year.

The slowdown in migrants is most evident in the mining boom states of Western Australia, Queensland and the Northern Territory.

“BIS Shrapnel estimates the markets are in overall deficiency at June 2015. While increasingly difficult affordability in Sydney and Melbourne should see price growth return to single digits over the year, weaker recent price growth in Brisbane is likely to see price growth accelerate as the cuts to interest rates in the first half of 2015 further improve affordability.”

Interest rates will rise next year.

The report predicts interest rates to enter a tightening phase towards the end of next year, with the cash rate to rise by 0.50 per cent in total.

“This will impact the Sydney and Melbourne residential markets where recent price rises are seeing affordability worsen to levels approaching previous interest rate peaks in 2008 and 2010/11.

“The rise in interest rates – and anticipated possibility of further increases – will also weaken the other markets, while also having the desired effect of slowing economic growth and inflationary pressures.”

Here’s a snapshot of the report’s price growth outlook for the each capital city:

Sydney

Median house price falls are expected to total four per cent over 2016/17 and 2017/18, with total price growth in Sydney over the three years to June 2018 forecast to be two per cent – resulting in a real decline of six per cent over the period.

“Completions will continue to rise, and the slow erosion of the deficiency will also coincide a forecast tightening in interest rate policy over 2016/17

“The combination of higher interest rates and recent price growth is expected to discourage both owner occupiers and investors, particularly as pent up demand pressures are beginning to ease.”

Melbourne

Price growth has averaged at 9% per annum over 2013/14 and 2014/15.

“Median house price growth in Melbourne is forecast to total only 4% over the 2015 to 2018 forecast period, with a 5% rise in 2015/16 offset by a small fall in the following two years – prices are forecast to fall by 4% in real terms,”

Brisbane

Brisbane is expected to be the only capital city that will not experience a decline in median house prices in real terms in the next three years with a total rise of 13% in the median house price is forecast over the three years to 2018, while

“The Brisbane market remains patchy, but is expected to experience broader price growth in 2015/16 as buyer confidence improves. Median house price growth of 7% is forecast over the year.”

Perth

Perth’s median house price has dropped by 3 per cent in 2014/15, and is forecast to continue to fall over 2015/16 and 2016/17, and stabilise in 2017/18.

“BIS Shrapnel is forecasting Perth’s median house price to be three per cent lower by June 2018 compared to June 2015 levels, representing a decline in real terms of 10%.”

Adelaide

House prices have grown by three per cent in 2014/15, however, the median house price forecast to be only one per cent higher at June 2018 than at June 2015.

“In real terms the median house and unit price are forecast to decline by seven per cent and nine per cent respectively.”

Hobart

Hobart’s median house price growth is forecast to be 4 per cent over the next three years, reflecting a decline of four per cent in real terms.

“The rise in construction and limited population growth means that the current excess supply is likely to persist over the next three years.

“However, prices are expected to remain relatively stable, firstly due to low interest rates and subsequently as interstate migration begins to improve.”

Canberra

Canberra’s median house price is forecast to be flat over the three years to June 2018 (a total rise of three per cent – reflecting a decline of five per cent in real terms).

Darwin

Darwin’s median house median house price is forecast to decline by a total two per cent in the three years to June 2018, resulting in a real house price decline of 10 per cent over the period.

My thoughts:

It’s hard to argue with many of the points in this report: this property cycle will end like all others have in the past - with an oversupply of properties in some locations (this time particularly inner CBD apartments) and there will be a period when the value of some properties languish and the price of others will fall.

However, to the property pessimists who were hoping for huge price drops will be disappointed: there will be no property market crash.

Why should there be – there’s no property bubble to burst; just an orderly slowing down of the cycle and a winding down of excess exuberance.

By the way… I believe there are still good long term (and even short and medium term) property investment opportunities ahead and I know I’m going to be taking advantage of them – and so should you.

However it looks like we’ll have a much flatter cycle moving forward as there is little income growth or other impetus to sustain strong price growth; so don’t look for fast capital gains or the next hot spot.

And remember you’re not buying “the market.”

You will be buying individual properties in the market that will make great long term investments, so that when you look back in a couple of years time you’ll be glad you did.

Just like those who bought the right properties before the market slowed down in 2011-12 and 2003-4 and in the early 90s.

Of course now is a particularly good time to buy properties to which you can add value through renovations or redevelopment and “manufacture" capital growth.

The way you prepare yourself for the market slowdown ahead is:

1. Correct asset selection.

As an investor you should only buy the type of property that will be in continuous strong demand by a wide demographic of owner-occupiers; and one located in the big capital cities of Australia, because these locations are underpinned by multiple pillars of economic support.

You see…if you own the right type of property in the right location, it is likely to be less volatile in difficult times, there will always be tenants for it and its price is likely to be more stable.

Even at the worst of times, such as in the downturn following the Global Financial Crisis, there were buyers for well located properties in our big cities, because even though the markets slowed, most people were still getting on with their lives.

They were moving jobs, or getting married or divorced or having babies and therefore looking for accommodation.

This means avoid buying:

• Off the plan

• CBD apartments

• In regional towns

• Properties in secondary locations and

• House in predominantly first home buyer locations

2. Don’t speculate or overcommit financially

Like every other property cycle, this one will end leaving some investors who bought near the peak financially embarrassed.

The problem is currently many of our property markets are strong and this is enticing a whole new generation of investors into our real estate markets.

They’re encouraged by the media with stories of significant property price growth and particularly by the plethora of property shows on television showing how you can make an overnight fortune by renovating a run down shack.

3. Have a Financial Buffer

Rather than gearing to the max, smart investors will take a more prudent approach by building an emergency buffer to buy themselves time to ride through any economic storms ahead.

This may be a good time to draw as much equity as your bank will allow in your home or investment properties and stash it away as a cash flow buffer.

This could be in a facility such as a Line of Credit which should give you consistent financial stability, regardless of the ups and downs of world markets and local bank’s funding vagaries.

Strategic investors will prepare for the worst, while hoping for the best – in other words set your self up to maximise your upside while at the same time covering your downside.