Inflation expectations fading
Inflation expectations have peaked earlier than feared, and inflationary pressures are now apparently easing across many parts of the global economy.
Consequently, Australia’s housing downturn could prove to be relatively short-lived, as a strong underlying demand for housing driven by a reduced average household size and a return to rapid immigration is expected, according to Pete Wargent, co-founder of Australia’s first national marketplace for buyer’s agents, BuyersBuyers.
Mr Wargent said, “the downturn in housing market sentiment has been largely driven by one major factor, being inflation, and the related fear of a sharp increase in mortgage rates. For as long as consumers fear rising mortgage rates, activity in the housing market will be reduced, with both the volume of buyers lower, and the duration of transactions longer.”
“The good news for borrowers is that the peak of the inflation hysteria now appears to have passed. Market-based measures of inflation expectations in the U.S. suggest that the peak is already in, with 5-year breakevens dropping all the way back down towards 2.6 per cent, and 10-year inflation expectations now below 2½ per cent. These are the lowest figures since September last year.”
“Australia’s inflation profile is tracking some way behind other parts of the world. With rising prices for electricity and rents still to flow through to the official figures, inflation isn’t likely to peak here until the end of 2022. But the important thing for consumers is gaining a level of comfort that inflationary pressures will eventually fall away, and therefore not being fearful of rising interest rates. Australia’s biggest bank already sees the RBA cutting interest rates in 2023. And in both historical and absolute terms, of course, interest rates are still relatively low” Mr Wargent said.
“Analysts will point out that any increase in mortgage rates reduces borrowing capacity, which is obviously true. But most borrowers don’t use their full borrowing capacity, and the crucial factor in the downturn ending is simply a change in sentiment. Variable mortgage rates for new borrowers remain sharp, given the level of competition in the space.”
Bond yields down
BuyersBuyers CEO Doron Peleg said that surging futures markets had priced in too much in the way of interest rate hikes, and the rising rates tide is now reversing.
Mr Peleg said, “from only two weeks ago, Federal Reserve futures curves have calmed down significantly. In the U.S. markets are already looking for three 25 basis point interest rate cuts in 2023. Meanwhile, Australia’s 3-year bond yield, which is a key funding benchmark, has already declined from nearly 3.8 per cent to 2.9 per cent in only the past fortnight.”
Figure 1 – Australia bond yields
Strong underlying housing market fundamentals
“The interesting dynamic is that the underlying fundamentals for Australia’s housing market are overwhelmingly the strongest we have seen for years. At the macro level, in the Australian economy wages and incomes are now rising robustly, job vacancies and employment are both at record highs, and the unemployment rate is close to 50-year lows”.
“In terms of housing market supply and demand, migration is now rebounding hard as the borders have re-opened, housing needs are greater as the average number of persons per household has declined, building approvals are plummeting as construction costs have soared, and nationally the rental vacancy rate of 1 per cent is the lowest we have seen in 16 years, resulting in surging rents. Stock for sale listings are also about 25 per cent below their half-decade average, so stock remains tight” Mr Peleg said.
“There has been a demand for more space in the housing market – including home offices – due to flexible and working from home arrangements, and this is likely to see aggregate demand for housing elevated for some time.”
Housing: a safe haven for sensible wealth creation
Housing is perceived to be Australia’s ‘safe haven’ for wealth creation, and this has been proven to be a very effective way to build wealth over the past few decades.
BuyersBuyers CEO Doron Peleg said, “with an average holding period that is greater than 10 years, and a chronic undersupply of family suitable properties in the major employment hubs, the ‘buy and hold’ strategy has been proven to be a very effective one for both investors and owner-occupiers.”
“Also, household balance sheets are very robust thanks to a surge in savings through the pandemic. Investors are shying away from the volatility and uncertainty in the financial markets, and many are turning to residential and industrial real estate as an inflation hedge.”
“First homebuyers will be brought back into the market via Labor’s shared equity scheme, while first homebuyers in the price ranges up to $1.5 million in New South Wales will be eyeing up the opportunity to buy with zero stamp duty from January.”
“All of these factors are very solid for the housing market. The one factor which isn’t strong is market and borrower sentiment” Mr Peleg said.
Lessons from recent downturns
If there’s one simple lesson from the market downturns since 2008, including the large degree of uncertainty in relation to the housing market when the COVID outbreak started in the first half of 2020, it is that downturns provide an excellent opportunity for investors and home buyers to purchase high quality properties at a discounted price.
In particular, property upgraders simply need to tip in substantially less money in order to move up on the property ladder.
One ongoing risk for interest rates
BuyersBuyers co-founder Pete Wargent said that there could yet be further supply shocks, despite the latest trends.
Mr Wargent said, “so many global indicators are pointing towards declining commodity prices, freight charges, and falls in other goods prices. The one thing that can’t be ruled out is a further spike in energy and oil prices given the ongoing conflict in Ukraine and the related sanctions in place against Russia.”
“Overall, global supply chains appear to be righting themselves, but consumers and homebuyers are likely to remain twitchy until there is a firmly held belief that the feared dramatic spike in interest rates isn’t going to transpire in full.”
“Historically downturns in Australian property have tended to last 18 months or less, and this time may be no different if inflation expectations decline over the next few months. A chronic undersupply of family-suitable properties – combined with a reducing number of dwellings in the pipeline and a growing need for more new housing – mean that aggregate demand for housing will simply be greater than the supply over the coming few years.”
“The current downturn provides an opportunity for investors to receive both strong rental returns and medium to long-term capital growth. Meanwhile, upgraders have a rare opportunity to slash many thousands from their costs by upgrading now, while building their wealth for the medium and long term” Mr Wargent said.