Monday, September 30, 2013

House price signal flashes green

Back in May 2013 I called the end of Australia's slow melt in home prices.  I based this call on a number of market measures, but the crucial one was my own indicator of when to buy and sell housing.  I developed this indicator two years back as a way to capture the potential success of the investment strategy of 'buy on yields, sell on capital gains'. To reflect this strategy I use the ratio of mortgage interest to rental yields to capture the relative returns from yield versus the expected returns from capital gains.

The buy signal arrived at the beginning of 2013.  Since then prices have been rising again in most capital cities, but especially so in Sydney, which dominates the capital city housing prices indexes.  I have updated my chart to reflect this year's data, and extrapolated with predictions for December 2013.

So why is this relevant now?

Because many people who correctly called the overvaluation of Australian housing prior to the financial crisis have ignored the massive transition that occurred during the past five years. The slow melt really did let out the air from the bubble.

Now we have a situation where just about every Australian economic commentator is picking sides in discussion about whether this year's price gains are a new bubble. A former bubble denier has even switched sides.

So why if the data is so plainly showing that we are very far from a bubble, and in fact prices are relatively low right now, why isn't it obvious to everyone? I can think of just a few reasons for confusion.

  1. Australian house prices are still high when compared internationally. This argument doesn't really have much merit. Our wages are also higher, and this is reflected in higher rents, which determine the returns on housing assets. 
  2. Individual homes in established suburbs seem to keep increasing in price. But this ignores that the relative position of these homes increases as the city grows. Thus what was last decade's cheap fringe suburb in next decades desirable urban location. 
  3. Anchoring bias.  $1,000,000 is still seen as some kind of benchmarks of obscene wealth. Yet, the repayments on this loan amount are about 20% lower now than during 2005-2008, while household incomes are up significantly. 

Today's news is that Sydney and Melbourne home prices are up over 5% for the September quarter. Yes, this is a new cycle, but we are only at the beginning and I believe it will be milder in nominal terms that previous cycles.


  1. Hi Cameron.

    I'm not sure I can agree with the overall cut and thrust of your post. I see a bubble which has been prevented from bursting for years by very strong vested interests at every level, from millions of voters (especially of a particular demograph) to our policy makers whether they belong to Labor or Coalition, whether they be state or federal - I don't think it would be outrageous to suggest that perhaps 90% - 95% of members of the house and senate likely own investment property portfolios and will not do anything that might compromise their own personal financial interests. So all policy will be skewed toward supporting rather than deflating the bubble. Just because something never seems to burst it doesn't necessarily mean that it isn't a bubble - it may just mean that there is the greatest determination to carry it as far as it can possibly go and that every trick in the book and new innovation will be employed to ensure it's longevity.

    As a household that sits right on the ABS national median income, the argument that prices are relatively low right now simply does not measure up against observable reality to me. Yes, we could afford a nice, shiny new $500 000 home without difficulty but that is because we are now middle-aged and posess the magic of equity. Were we on the same income and buying from scratch, it would be a mighty struggle if it were possible at all.

    That investors and upgraders - both of whom are likely to have plenty of equity - now seem to be the dominant force in the housing market while first timers have almost gone missing in action would seem remarkable if housing were really so affordable right now.

    Do you have any ideas as to why they are failing to take the cue that housing is affordable and now is a good time to buy? Surely David Collyer couldn't have that much influence.

  2. Good points. The fact the first home buyers are missing in action does need to be addressed. I would offer a few counter-points.

    1. FHBs have been enticed into the market many times in the past decade. This has results in 'bringing forward' demand from FHBs - which simply means there must be a period of below average first home buying activity following these grants.

    2. FHBs don't buy when prices aren't moving much. It is illogical to waste money on renting from the bank when you could rent from a landlord for less. The big bonus from buying as an owner occupier is the capital growth (and the contractual/power structure/risk of being kicked out etc).

    3. Investors are almost always the price setters in this market

    In out market we can only think of housing as another asset class, since that's the way it's been treated by policy makers for 30+ years.

  3. "FHBs don't buy when prices aren't moving much."

    Prices in Australia's biggest market - Sydney - are roaring but the number of first-timers just keeps getting less, as shown by recent data.

    I'm pretty sure it's a simple affordability issue Cameron.

    Whether or not we care enough as a society to ensure our own children can afford a roof overhead remains to be seen - I have low hopes. How's the conundrum?........the only way that the very large number of (domestic) investors in this country can keep winning is to make sure that their own children keep losing. I'm pretty sure that most people want more affordable housing for their kids - just as long as their own house/s keep appreciating in value, a situation unlikely to be possible in the broader sense.