Saturday, August 16, 2014

Next Australian housing boom in progress

I hate high house prices but I am a realist, and I trust the numbers. While history doesn’t always repeat, right now I can hear it rhyme.

Three years ago I decided that using the mortgage rate divided by the gross rental yield did a fairly good job of catching the main cyclical patterns in the Australian housing market. The basic investment rule from this indicator (blue line) is to buy when it goes below 1.5, and sell when it goes above 2.25.

Unfortunately in practice Australian capital cities don’t always have coordinated booms, so you must augment this knowledge with an understanding of the ripple effects that begin in Sydney and later flow through other housing markets.

Today Sydney is again booming, with a near 15% price increase in the past year. Here’s a capital city price breakdown from the RBA. Notice that Sydney and Melbourne are roughly moving in sync, but that Brisbane and Adelaide are yet to move. If this boom does rhyme with the last boom, Brisbane and Adelaide prices will really hit their stride late next year, while Sydney prices will peak. Perth prices will peak a little sooner.

To be more clear about the dynamic at play in my property cycle indicator, here an alternative view. When the mortgage payment per dollar at the prevailing interest rate is relatively lower than the gross rental yield we should expect prices to be rising. 

I can’t say I like it, but the pattern is there. Tax advantages for investment property will waltz through the current Senate Inquiry unscathed, and tax bracket creep will continue, further enhancing negative gearing benefits from buying investment property. Interest rates are staying low indefinitely, and mortgage interest rates are getting down near 5% flat, and banks will lend to anyone with a pulse. It's a crazy world out there. 


  1. Love your closing remarks. Still can't fathom those Mr Squiggle graphs though.

    Great post.

    1. To be honest, I just liked the look of the Mr Squiggle graph. Basically the x-axis is gross property yield and the y-axis is an adjusted interest-rate proxy, measured as the annual payment per dollar at the prevailing interest rate required to pay off a loan over a 30 year period.

      If you are to the right of the trend line it means you are getting a pretty good yield relative to the cost of borrowing. If you on the left of the trend line you are 'overshoot' territory, where asset prices can't be justified by monetary settings.

      I expect this to swing up and left as price increases because more widespread and the RBA eventually (in about 18 months) responds by increasing interest rates a touch.

  2. Three points:

    1. As much as I am horrified by house prices (as a renter) I think your chosen indicator levels might be a little biased. The line spends a lot more time above 2.25 than below 1.5!

    2. Can you define PMT on those graphs?

    3. If you label the years on the Mr Squiggle graph its intent should become clear. I very much like that style of chart.

    4.. Seems the smart move might be to buy a house in Adelaide!

    1. Good comment.

      1. Yeah true. Make it 2.5 then for a sell indicator. Point being the regularity and bounds of the cycle is quite apparent

      2. PMT is the annuity formula applied to a 1 dollar present value for 30years at the annual interest rate i

      3. Yeah I should add a couple of labels.

      4. I might buy one Brisbane myself. If you can't beat em...