- Some forecasters in Australia expect this downturn will be the largest and longest in several decades.
- Could it turn into a crash? HSBC has nominated five specific factors that could lead to a hard landing in the property market.
- HSBC at least expects the downturn in the Sydney and Melbourne property markets to continue for some time yet.
Australian home prices have now been falling for well over a year, driven by tighter lending standards, still acute affordability constraints in some markets, a substantial increase in property listings and a drop-off in both local and foreign investor demand.
The scale of the declines, while still modest at this point, has caught many forecasters off guard, forcing a swathe of downward revisions to just how deep the downturn will be.
Many suspect it will end up being the longest and largest in several decades, albeit only leaving prices back where they were just a few years ago.
But what if the forecasters are wrong? What if this downturn becomes substantially larger than what many suspect? They have, after all, been surprised by the scale of the downturn already seen to date.
According to Paul Bloxham, Chief Australia and New Zealand Economist at HSBC, the prospect of a “hard landing” for the housing market cannot be entirely ruled out.
In a note released this week, he nominates five individual factors, some from local sources and others from abroad, that could see the housing market correction turn into a housing market crash.
Domestically, Bloxham says all of the risks stem from policy changes that have either already been implemented or are proposed to be put in place.
“One possible driver could be a further tightening of credit availability, possibly in response to recommendations from the banking Royal Commission, which are due to be announced in early 2019,” he says, adding that “there is considerable uncertainty on this issue”.
Linked to the first risk, and echoing similar concerns expressed by Reserve Bank of Australia Governor Guy Debelle in a speech last week, Bloxham says there’s also a risk that residential construction, particularly in the apartment sector, could decline quite quickly, raising the prospect of a deceleration in the broader economy and likely increase in unemployment.
“[The] availability of finance for developers has been significantly curtailed recently, which could deliver a sharp decline in residential construction at some point,” he says.
“As RBA Deputy Governor Guy Debelle noted in a recent speech, he sees this as a larger risk to the growth outlook than the fall in housing prices itself.”
While there’s been little evidence of a lift in mortgage arrears based on recent information, Bloxham says the curtailment of interest-only lending due to restrictions announced by Australia’s banking regulator, APRA, in early 2017 could still lead to the potential for distressed housing sales as some borrowers are forced to switch to amortising loan repayments.
“Another possibility is a squeeze on household incomes as interest-only loans convert to principal and interest loans over the coming period,” Bloxham says.
“This reflects that a high share of new loans in 2016 and 2017 were issued on interest-only terms, but that these loans are due to automatically reset to principal and interest loans over the coming years. “
While that’s a risk, especially if accompanied by a broader downturn in the economy, Bloxham says the evidence to date suggests most borrowers are coping with higher loan repayments.
“Importantly, some of this has already occurred, with the share of housing loans with interest-only terms falling from 40% of the national total to 27% over the past year or so,” he says.
The final domestic risk Bloxham nominates as a potential catalyst for a hard landing in the property market is one that has received considerable airtime in recent months — Labor proposed changes to negative gearing and capital gains tax for the purchase of existing properties for investment purposes.
“Although our central case is that this effect would be small, particularly as it would be occurring at a time when new investor interest in the housing market is already low and the existing system is likely to be ‘grandfathered’, there is a risk that it could have a larger effect, particularly if it had a large negative effect on housing market sentiment,” he says.
Sharing a similar view to that conveyed by Macquarie Bank’s Australian economics team, Bloxham says that given Australia’s already elevated household debt levels, the potential for a broader macroeconomic slowdown is perhaps the greatest threat that could make the current downturn a whole lot worse.
“Australia’s high household debt levels are unlikely to cause an economic downturn by themselves, but would be expected to exacerbate a downturn, if a negative economic shock arrived,” he says.
“Household debt levels have risen to new record high levels in recent years, with the household debt to income ratio currently around 190%.
“A rapid rise in interest rates could push costs up quickly, but that remains unlikely, in our view.”
Like so many areas of the economy, whether the downturn in the property market will become something far more significant will likely be determined by the strength of the jobs markets. If people have jobs they have income. And if they have income it will help reduce the prospect of forced selling by homeowners.
As Bloxham has previously stated, despite those risks, his baseline case is that the Australian economy will be able to withstand the effects of falling home prices, putting his faith in continued strength in the labour market to help sustain household spending levels.
“There has been little evidence of a positive wealth effect in recent years, when the housing market was booming, so it is not clear why there should be a large negative wealth effect as the market cools,” he says.
“In our view, the consumption outlook is much more dependent on the labour market than the housing market.”
However, like so many other forecasters, he admits the housing downturn will likely be larger than first thought, especially in Sydney and Melbourne where prices have fallen the fastest of any capital city this year.
“After falling by 2% in 2018, on average, we expect nation-wide housing prices to fall by 3-8% in 2019,” he says.
“We expect Sydney and Melbourne to see further housing price declines over coming quarters and our central case is that the peak-to-trough declines in both these cities will be between 12% and 16%.”
Bloxham expects other capital city markets to fare better over this period, although he still expects slow growth or slight falls in most of the other cities.
“We see continued growth in housing prices in Adelaide, Canberra and Hobart, and expect that conditions could improve in Perth, as the mining sector stabilises,” he says.
“For Brisbane, the detached market should show growth, but oversupply will likely weigh on apartment prices.”