This 'single best indicator' could spark a 10% fall in Australian house prices

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  • Capital Economics’ Paul Dales forecasts house prices across Australia’s capital cities will fall by 10% from their peak by 2021.
  • He cited the increased number of listings to new sales, as well as the prospect of rising interest rates.
  • Over the next six months, Melbourne looks particularly vulnerable while units are likely to under-perform detached dwellings.

The medium-term outlook for Australian housing isn’t bright, according to Capital Economics chief economist Paul Dales.

Dales expects aggregate prices across Australia’s capital cities to fall by around 10% from their recent peak by 2021.

He cited reduced demand and the looming prospect of higher interest rates as the two main factors which will weigh on prices.

With the Sydney and Melbourne markets leading a slowdown in house prices nationally, increasing attention is being turned to the outlook for Australian housing.

That’s perhaps not surprising given the central role housing plays in Australia’s economy, and the fact the market has yet to turn around since Sydney prices fell for the first time in 17 months last September.

“The recent fall in the demand for housing relative to the supply is consistent with house prices continuing to decline in the coming months,” Dales said.

“While prices may only edge lower this year and next, higher interest rates will probably mean they fall more sharply in 2020 and 2021.”

Dales said house prices in Sydney and Melbourne are particularly vulnerable, given CE’s view that prices in those cities are around 25-50% overvalued. He also expects price falls in units to exceed those of detached dwellings.

To get a gauge on the demand outlook, Dales said the sales-to-new-listings ratio was a more accurate barometer than auction clearance rates.

He noted that only 25-30% of home sales nationally are done by auction. And while the auction rate is higher in Sydney (35%) and Melbourne (45%), it still only comprises less than half the market.

“In our opinion the sales-to-new-listings ratio is the best single indicator of the health of housing,” Dales said.

Dales said the number of new listings is still relatively low by historical standards. Still, since early 2017 the number of new homes listed for sale each month has exceeded the number of homes sold.

Using a three-month average to smooth out the data, the sales-to-new-listings ratio indicates that home prices nationally will dip into negative territory over the next six months:

While the NAB’s latest forecast points to Sydney’s market under-performing the other capitals in 2018 and 2019, Dales said Melbourne looks particularly vulnerable.

The sales-to-new-listings ratio for Sydney “suggests that the downside risk to house price inflation in Sydney in the coming months at least is fairly small,” Dales said.

“In contrast, it appears as though the slowdown in Melbourne has much further to go as overall house price inflation there could fall from +5.3% in March to around -5.0%.”

By property-type, Dales said the number of units being listed relative to those sold is much higher than detached-dwellings, which points to much sharper price falls over the next six months.

Although he added that on a city-by-city basis, the sales-to-new-listings ratio for Melbourne isn’t particularly strong.

Looking longer-term, Dales said multiple factors weighing on demand will also serve to curb house price growth nationally.

While population growth and continued strength in Australia’s labour market will provide some support, they will be more than offset by the rising cost of credit.

For one thing, Dales said some banks may raise lending rates outside of the RBA’s rate cycle, citing the recent increase by smaller lenders in response to increased funding costs.

And althought RBA is likely to keep interest rates on hold for the rest of this year, when the next move does occur it’s likely to be up.

“That may not happen until late in 2019, but when it does demand will be reduced.”

“We expect that house prices for the eight capital cities will fall slowly throughout this year and next, before they decline faster in 2020 and 2021 in response to higher interest rates,” Dales said.

“By the end of 2021, prices may be 10% below the peak in mid-2017.”

The Capital Economics forecast joins a growing list of relatively bearish assessments from market experts on the outlook for Australia’s housing market.

For a country so used to consistent house price increases — particularly in the major housing markets — an extended period of sideways or even negative growth will be an interesting test of Australian households’ resilience.

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