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Great Ocean Report – April 18, 2019

April 18, 2019 BY

As usual in this report, we try and demystify what is happening in the property markets and hopefully provide some clarity about where we are heading.

To establish some context for this article, we need to establish that property markets are cyclical in nature and that there is not just one property market, there are hundreds of them in Australia.

Each of these are affected by local drivers and also by some overarching factors that affect them all. Local drivers are things such as desirability of the location, buying demographic or local employment opportunities and the most common overarching factors are general sentiment towards the property market (everyone does what everyone does), the health of national economy and changes in regulation (as we have seen with restrictive lending recently).

For this article we are going to use the Melbourne and Sydney metropolitan markets as our examples, as they are the largest in Australia and influence all the others to some extent.

This is the 5th softer property market period we have seen in the last 30 years and each had their different triggers (‘90-‘97 recession, 2003-4 interest rates rose and auction laws changed, 2008 GFC, 2010-11 European debt crisis, 2017-19 restrictive lending) and like all the others it will turn positive at some point.

The peak of the Melbourne and Sydney property markets is regarded to be September 2017 and as each month goes by, we get closer to momentum picking up. When we say momentum, we are not necessarily talking about significant price rises, we are talking increasing levels of activity. Many property owners sit on their hands when they think it’s not a great time to sell and they wait, but at some point, this attitude changes when they become tired of waiting and as their needs outweigh
their preferences. This is how new cycles begin, as pent up demand gathers pace and as everyone does what everyone else does, activity gathers momentum.

There have been several factors stalling activity from regaining momentum and they have really been distractions rather than serious impediments. Certainly, the significant tightening in lending subdued the property markets in this cycle, but longer term this actually underwrites and protects those markets. No one wants to see what happened in the US in 2008, happen here.

The stalling effects of a new momentum beginning has been that people don’t like change, even the perception of change. In 2019 there are two stalling events where change was perceived to be possible. One was the banking Royal Commission and the other is the federal election. We really noticed an upswing in general enquiry when the Royal Commission handed down its findings on the banking industry. It seemed like people wanted to wait to see how the landscape would change. As we saw, there will be some tinkering within the financial services industry but really nothing drastic is going to happen. The rise in the share market echoed what we’re witnessing also.

The next thing to make people sit on their hands is the federal election, which will be held in May. It looks very likely that there will be a change of government. But how will that affect the property market? The answer is that it is very unlikely that it will have any further dampening effect from where we currently are, and this is why: most people won’t be affected by the proposed changes.

Under the proposed changes to negative gearing (to be introduced in January 2020) by the Labour party all existing investment properties will not be affected. So, there will not be an extra flood of properties onto the market due to this policy change.

From January 2020 onwards (assuming they win the election), you will still be able to negatively gear and claim a tax deduction against personal income for new investment properties. But how will this affect the property market long
term? It will have little effect on owner occupiers, but it will likely have an effect of reducing the supply of rental properties. This is simply because smart investors who are chasing capital gain do not buy in new areas, like housing estates, because there is too much supply of similar competing product types to produce a capital gain.

You need to remember houses do not go up in value, it’s the land that they are sitting on that goes up in value. The actual house is a depreciating asset.

In new estates there is usually a lot of supply of land. First home buyers and young home buyers are attracted to these areas because of affordability and the fact that they can have a shiny new house. For those looking to rent in these areas it will be a tougher prospect because there will be very limited reasons to build there for investors.

Unless there is a capital gain on an asset, negative gearing really loses its appeal. New apartments also tend to fail the supply vs demand test in producing a capital gain for investors.

The capital gains discount reduction is also not an immediate issue as it again will only affect investment properties (there is no capital gains tax liability on your primary residence) bought after January 1, 2020 (again assuming Labour gain power) and most of these properties are held medium to long term any way. By then there could be a different government in power anyway and the policy could be reversed, as it was in the 1980s, as it’s likely to affect the level of future rental stock.

Moving forward we believe postelection the serious distractions will have run their course. We can already see that the rates of price falls in the Sydney and Melbourne markets are slowing and by September this year we would have been two years past the previous peak of the last cycle, and you can see from above, the negative parts of the cycles are getting shorter. We also know, outside of lending restrictions, factors that support property markets such as employment levels and population growth haven’t changed, even the share market, often a strong provider of sentiment because it affects our superannuation levels, has enjoyed a strong recent run. The Australian economy is generally going well and even the federal budget is in surplus.

We also expect that the current restrictive lending practices will ease to some extent. APRA recently removed restrictions on banks in regard to investor lending growth and ANZ has just cited this removal and has changed its lending criteria to investors that include a 90 per cent LVR and 10-year interest only loans.

At the end of the day, banks make money lending money and they will find a way. They are businesses that are beholden to shareholders and their executive pay structures are incentivised around performance. The spotlight on them is shifting and they will find a way.

The final factor that supports our view is that we have seen high levels of activity continuing in different parts of the market and up to particular price points.

Up to $1 million we have been extremely busy and simply cannot get enough stock to meet demand, particularly in the lifestyle towns we service on the Great Ocean Road. We are seeing transactions between $1-$2 million reasonably regularly but it gets tougher above that point at present. There has been a handful of sales at $3 million and one above $5 million in the past 12 months, however this upper sector has been subdued relative to previous years and there are tangible reasons for this.

All in all, we are quite optimistic moving forward for all the reasons described.

If we can be of assistance in any real estate matter, please do not hesitate to call.

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