Will Property be the Hottest Asset Class for the Next Five Years?

Mark Bouris caused a bit of a ripple this week by suggesting that the Australian property markets will represent “the hottest asset class you can possibly think of” for the next five years.

Of course, just as a hairdresser is probably not the best person to ask if you need a haircut, so it is in this instance, but is Bouris likely to be right?

Some economists, such as David Bassanese of the AFR, have made similar suggestions, implying that prices are likely to “pop higher” at this stage in the cycle.

Bouris bases his theory around past experience in Australia. Property downturns, such as the one we experienced through 2011 and the first half of 2012, can be followed by lower interest rates, significantly improved affordability (read: mortgage serviceability) and a surge in real estate prices.

Is this time any different?

Remember the classic old exam question: “does history repeat itself?” The textbook answer is yes, to some extent, but the specifics tend to shift. And there is much evidence to suggest that this cycle may be somewhat different from those we have seen in the past.

1. Deposit growth

Firstly, there is an argument to say that there will be restrictions on credit growth in this cycle, as the prudential regulatory body APRA looks to cap the growth of credit in line with deposit growth.

One complicating factor is that from the middle of 2012, the Australian stock market boomed by around 25% in value, increasing Australians’ wealth. Of course, articles began to appear of “the best year for superannuation in ages” type, which naturally pre-empted a correction of close to 10%.

Nevertheless, stock valuations are up, which can increase cash available for deposits, and superannuation balances are up too. Self-managed super funds can invest in property these days, but SMSFs lenders tend to insist on substantial deposits, so most of that action will likely be in the lower-median sector of the market, particularly in apartments.

2. Higher household debt

More significantly, Australia commenced this property cycle with higher household debt levels than it had previously. When interest rates fell around in the early 1990s, credit growth boomed. Consequently, it seems unlikely that another boom of such a magnitude could occur.

 

 

 

 

 

 

 

 

 

 

 

 

Future growth, therefore, is likely to be far more closely correlated to growth in household incomes.

And in fact, in Sydney, since the last boom period through to early 2004, household income growth has outperformed property prices for close to a decade.

3. Access to credit

A third limiting factor is that in the period preceding the last surge in dwelling prices, there was a proliferation of 100% LVR loans available, which is not the case today.

Whether or not such a cavalier lending sentiment returns remains as yet unknown, but it seems to me that over the long term it would be better for everyone if an appropriate level of prudence was exercised in this regard.

Multi-speed recovery?

Plenty of commentators have focussed on RP Data’s Daily Home Value Index and noted that “house prices fell in May” and plenty of scorn has already been heaped on Bouris by bearish commentators in the last few days.

But those figures are retrospective. What for the future?

There may be something to draw from the May figures, but most other indicators such as lending finance figures from AFG (reporting “unprecedented mortgage sales”) and from the ABS, suggest something of an uplift in market sentiment.

Other indicators seem to suggest improving sentiment too, although not across the country.

There is much evidence to suggest that property prices in Perth are considerably higher than they were 12 months ago and the market has not demonstrated many signs of slowing down just yet.

Meanwhile auction clearance rates in Sydney, and to a lesser extent Melbourne, have improved strongly. In Sydney’s inner west, clearance rates are consistently clocking at around 85% or above, which is the sign of a hot market. Sydney’s North Shore looks strong too.

However, it’s not all good news for property owners and investors, for to date the recovery seems to have been largely investor-led. For this reason, I don’t expect remote property markets and outer fringe suburbs to have much joy as this cycle progresses.

The RBA’s chart packs show that households on average seem quite content to save 10% of disposable income, which was not the case after interest rates fell from the early 1990s.

 

 

 

 

 

 

 

 

 

 

 

 

 

Not buying now?

I’ve never been a big fan of the “Don’t Buy Now” rhetoric, for it implies that homebuyers can easily outsmart the market through using clever timing. It’s possible to do, of course, but it’s also by no means assured.

Those who took Steve Keen’s advice to sell their homes in 2008, for example, must be mortified by the subsequent uplift in capital city prices over the last half decade.

Ideally, homebuyers should be putting their focus on a far longer time horizon than the next few years.

However, as noted by my Pommie pal Catherine Cashmore of NPB, with people moving house more frequently than previous generations ever did, even homebuyers are now buying homes with an “investor mindset”.

They want a roof over their head and capital growth, and for this reason often look to steer away from the remote or new fringe suburbs where demand is low and new dwellings can show poor or non-existent growth.

As for investors in property, this cycle seems likely to produce lower growth on average that we have seen in times past.

For this reason the old strategy of simply buying in your own backyard, because that’s what you know best may be a poor strategy.

The hot sectors of the market at this stage look to me to be certain suburbs of Perth and as noted Sydney’s Inner West and North Shore, particularly in the sweet spot price range of $500,000 to somewhere just over $1 milllion.

Yield-focussed investors will of course continue to dispute the obvious evidence below that it is investors which are pumping up prices in inner- and middle-ring suburbs, but the RBA’s chart pack clearly shows that regional market growth in most areas stalled years ago with few signs of life to date. My own money is on inner- and middle-ring Sydney.