The headwinds for Australia's housing market appear to be strengthening

Cameron Spencer/Getty Images
  • Home prices in Sydney and Melbourne are falling, dragging national price growth lower over the past year due to their sheer size and median property value.
  • A major factor behind this decline has been a pronounced slowdown in housing credit growth, especially to investors.
  • Some economists expect tighter lending standards will lead to even softer credit growth and further downside pressure on prices.

Home prices in Sydney and Melbourne are falling, dragging national price growth lower over the past year due to their sheer size and median property value.

Many suspect those trends will continue for some time yet, perhaps lasting for years rather than quarters.

Like the number of forecasters predicting further weakness in Australia’s largest cities, there’s also no shortage of factors that have led to the recent price reversal.

For one, many buyers are now reevaluating the outlook for property prices in the years ahead. After such a solid increase over the past decade, and with interest rates unlikely to fall much further, if at all, sentiment has definitely cooled.

The “fear of missing out” mentality, or FOMO for short, that drove some emotive buying in recent years has now all but evaporated, replaced by the mindset that better value could be found ahead.

Foreign investment, too, has also weakened, although probably not to the scale seen in recent approvals data released by Australia’s Foreign Investment Review Board (FIRB).

Along with ongoing softness in household income growth, largely reflecting that wage growth still sits near the lowest levels on record, many prospective first-time buyers are still unable to get a foothold in the market, even with recent price declines and a record supply of apartments being built.

However, while those have all contributed to recent price weakness, especially at the top end of Australia’s housing market, a pronounced slowdown in housing credit growth, particularly to investors, has undoubtedly been a major factor.

The introduction of limits on interest-only mortgage lending from Australia’s banking regulator, APRA, in March 2017, limiting the proportion of fixed-interest housing loans to 30% of new mortgages, has undoubtedly acted to slow the market, doing what only interest rate increases could do in the past.

Home loan lending is slowing as is housing credit growth, acutely so for investors.

That point was rammed home by the release of private sector credit figures from the Reserve Bank of Australia (RBA) today.

Credit extended to housing investors grew by just 2.3% over the year, a level not seen since September 2016 when restrictions on annual growth in investor housing credit, also introduced by APRA, were still working their way through the system.

Owner-occupier credit growth also slowed, falling from an annual pace of 8.1% in March to 8% in April.

Combined, total housing credit expanded by 6% in April, the weakest level since March 2014 (growth in housing debt owed by borrowers).

JP Morgan

Economists expect the investor-led slowdown will likely continue in the months ahead, potentially placing further downside pressure on home prices.

“The 9% drop in the value of investor housing finance commitments in March suggests that investor credit growth will slow sharply in coming months, despite the removal of APRA’s 10% cap on loan growth and the easing of interest rates for many types of investor loans,” said David Plank, Head of Australian Economics at ANZ.

“The atmospherics around bank lending appears to be the driver of this.”

Henry St John, economist at JP Morgan, is another who believes the slowdown will extend for some time yet, pointing to recent guidance from APRA that banks should look to curb lending to highly-indebted and high loan-to-income (LTI) borrowers.

“Regulatory pressure on both interest only and high LTI lending is likely to place persistent downward pressure on credit growth over the coming year, both via lower rates of new lending, and through faster loan book amortisation,” he says.

“In our view, the Banking Royal Commission has been a catalyst for these dynamics to play out more quickly than otherwise expected.”

In a note released earlier this month, St John said lending limits based on debt and income levels could lead to further declines in home prices.

“If such loans can no longer occur, this will slow credit growth,” he said.

“With a high share of [property] turnover funded through high LTI lending, facilitating sales becomes a matching problem where high-LTI owners trade with lower LTI buyers.”

Put simply, if buyers can’t borrow as much as they did in the past, vendors may have to adjust their price expectations, particularly in areas where valuations are expensive.

“All things being equal, this generally will necessitate some form of concession via lower house prices,” St John says.

Recent analysis from Corelogic suggested the mismatch between current property values and potential borrowing capacity based on income levels would be most pronounced in Sydney and, to a slightly lesser degree, Melbourne.

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