Interest Rates and the Housing Market

Real research does take time, not just hot air.  The speculation about interest rate increases driving the market up is again more simplification of what is an inherently greater problem surrounding our industry.  Too many people are too prepared to make broad sweeping statements that in fact have little bearing on reality or truth.

The team at National Property Research enjoy busting some of the myths that are constantly bandied about.  In fact we were asked to do this exact thing at the UDIA’s State conference just last month.  So here is the latest one.  The thought that interest rates impact house sales volumes is quite simply wrong.

For those that are mathematically minded, the r squared correlation is 0.08, so far from compelling to actually be irrelevant. (…and for those who are not mathematically minded, a weak correlation starts around 0.8)  To suggest that when interest rates increase that buyers will come out of the woodwork to buy, fails to take into consideration so many of the other factors that are causing household stress outside of individual’s mortgages.

As an example, insurance rates have continued to escalate on average by 7.2% per annum over the past two decades.  By contrast, the long term average increase to wages has been 4.6%.  The rate of escalation in house prices over the same period of time for the median house in Brisbane has increased at 7.8% per annum.  It doesn’t take long to work out that with wages growing at 4.6% and most other household expenses exceeding that, the household budget continues to be stretched and eroded by higher costs.  

The old chestnut about interest rates impacting prices is also another one of those comments that continually pops up.  Again the reality is a lot different than the generally pursued oversimplification of interest rate increases being designed to slow property growth.  There is no doubt that interest rates if applied badly in the economy will slow housing, but the reality is that it will slow everything else with it.  Again for those who like their evidence in mathematical terms, the r squared  for this is a miserly 0.13.

So what is the message about interest rates?  For Brisbane at least it is that interest rates simply do not correlate with the volume of house sales nor the increases in house prices.  There is no doubt they are contributing factor in the movement of both, but the oversimplification of determining that interest rates going up will stimulate buyers or pull buyers out of the market is about as theoretically based as the world being flat.  There is considerably more at work here than the RBA’s decision every month and until everyone get’s their head around this, interest rate movements will continue to be treated as a national spectacle.

What Happens Now?

2010 will prove to be if nothing else, a year that promises hope for the development industry as many can’t imagine two consecutive years like 2009.  Certainly the optimism in 2010 is far greater than that experienced at the same time last year, however international uncertainty surrounding Europe’s capacity to service its debt recently loomed as the major headline across most Australian newspapers.  With this, the stockmarket has fallen by more than 10% and reminded us that the depth of the GFC will not allow for a steep rebound, but a more protracted and steady recovery.

So what does 2010 really offer the development industry?  Whilst many pundits are using the term “opportunity”, the reality is that opportunity is only going to come to those prepared to innovate. 2010 is perhaps the year that we should be steadying the ship and building a solid platform from which industry best practice that occurred prior to the GFC is again improved upon.  Those projects that have led the way in past have mostly benefited from improved sales rates and increased marketshare.

The reason to looking forward to innovation in 2010 is my recent travel undertaken throughout Australia.  Without meaning to be condescending, I am a little concerned that our planning policy and outcomes in an urban environment are all starting to become a little bland and a very much alike.  Gladstone’s residential subdivisions look like those on the Sunshine Coast, like those in Mackay, Townsville and Cairns and surprisingly very similar to those in Adelaide and Melbourne.  The challenge for 2010 will be to lift the bar and start to get a little more creative.  We need to challenge the common held beliefs that have existed about the market for the past decade.

2010 is going to be another year that challenges the concept and definition of what affordability is.  There is no doubt that with little if any correction in most residential markets, first home buyers will again be at the bottom of the food chain.  One thing I can guarantee is that without the release of new broadhectare parcels into the market, the level of competition will only get narrower.  Less competition simply means higher prices.  Look at what happened when Virgin entered the airline industry in Australia, domestic airfares have never been cheaper.  The same can be said about mobile phone packages, internet etc.  Where there is healthy competition, the consumer benefits.  With the restriction of new land entering the market, consumers are not going to get the best deal.  The reality and result of constraining land is that it continues to drive up the raw broadhectare land values making it difficult for the development community to provide housing product which is suitable for families on modest budgets.  Where the western corridor once provided affordable land on large lots at a reasonable price, this may well be a thing of the past.  At present, it is difficult to think of any one corridor which has the capacity to service the needs of families on modest budgets in SEQ who aspire to home ownership.  This problem is going to be exacerbated in 2010.

Finance and the availability of such at realistic margins will again be a yolk around the development industries neck in 2010.  The attrition of mezzanine funders over the past 24 months has taken a very important tier out of the options available to mid to small sized developers.  These are the same businesses that have proven to be the best suited to infill developments that are either two small for the bigger players, or of less interest because the profitability is generally not as high.  Without these mid tier businesses using innovative finance strategies, many good projects will remain on the shelf.  Density targets will struggle to be met.

But 2010 should, and will be a year that has the potential to be a defining moment for the years ahead.  It will be a year that we do things smarter, challenge some of the norms and potentially make headway on those projects that have been bogged down in a bureaucratic red tape.  It will also be a year where a valuer’s interpretation of the market will be more critical to the viability of those projects that need finance…which means almost all of them. 

And finally, it will be a year that sees the REIT sector rebound in addition to those funds that have been stashed away in superannuation trusts now looking hard for new investments.  And whilst National Property Research does not see 2010 as a boom year, it certainly sees it as 12 months of continued consolidation where hopefully new innovation will again “wow” the consumers.

New Carpet and Affordability

We recently had new carpet laid throughout our offices which meant there was a reasonable level of packing and unpacking.  Anyone who has gone through the routine of moving house or office, often finds things that they had either forgotten about or filed away for later use.  I came across one such gem.

In April 2002, the Queensland State Government released a discussion paper on “Affordable housing, residential development and community well being.”  I thought it would be interesting to see what has been achieved in the 8 years since this paper was released to the public.  Readers should also bare in mind that the SEQ Regional Plan was introduced in 2005 which changed the development landscape over night.

One of the initial recommendations for consideration was the admission that for State Planning Policy to be effective, a head of power in legislation may be necessary.  In many respects this has been achieved with the creation of the ULDA, however it is only recently that this well intended organisation has partnered up on a large scale with developers for the Ripley Valley, Yarrabilba and Flagstone.  The opportunities for the ULDA and private developers to achieve successful built form outcomes in a short period of time should not be underestimated.  The greatest challenge will be the resourcing of the ULDA to cope with this enormous workload.

One of the key definitions for affordable housing relates to rents.  It was, “rent levels for affordable housing should not exceed 30% of gross household income, after any applicable Commonwealth Rent Assistance is deducted from the rent”.  At this point in time, the department’s view was housing was only genuinely affordable if it was well serviced, well located, safe, secure and accessible to people in need.  Whilst the points raised are typical motherhood statements, the intent was clear that public transport, shops and personal mobility were important criteria.  So if we apply this broad interpretation to Brisbane’s suburbs, what does this mean?

A single person wanting to rent a 1 bedroom apartment in Brisbane’s CBD needs to earn a minimum of $65,000 to fall outside of the rental affordability category.  This is an entirely plausible outcome, though one that probably doesn’t apply particularly well to most who are in administration or retail roles or just starting their careers in a professional capacity.  And let’s face it, these are the people that need the most help and generally represent the greatest number of employed people.

If we look further out to West End as an example.  It meets the criteria of being close to work, arguably within walking distance but certainly within riding distance.  There are plenty of shops and it is an area that is growing in popularity.  A neat and tidy one bedroom apartment will mean that our admin/retail person or young professional is going to need to earn $52,000 per annum or above to find themselves outside of the affordable rent crisis.  This should be achievable for the young professional however the administration or retail person is likely to be suffering still.

The reality of looking further out to suburbs such as Mount Gravatt and Sunnybank as examples is that the rents don’t go down, you simply get another room or two as part of your accommodation options.  This is not to say that there is a critical shortage of one bedroom accommodation in our middle and inner ring suburbs, it is simply to point out that the options for a person wanting affordable rent and to not have to share a house are limited.  Over the past five years, there have been minimal additions in stock for one bedroom apartments or units in the aforementioned near city locations, despite the continuous increase in single person household formations.

To put this in perspective, the highest minimum wage for retail employees is $38,480 per annum or $740 per week.  This equates to a 30% threshold of just $220 per week in rent.  The worst case scenario is for someone employed at a retail level 1 position is just $600 per week which would make the 30% threshold of just $180 per week.

The point that I perhaps have laboured to get to is that someone who is employed and trying to make headway is struggling trying to pay their rent, let alone a mortgage.  Now many will say that the capacity to own a house is not a right but an aspiration, but since when did trying to rent a single bedroom apartment become an aspiration?  And whilst some will also suggest that highlighting retail employees is part of adding credence to the above argument, the reality is that retailing is the second largest employer in Australia, only slightly behind healthcare.

So what does this have to do with new carpet and old documents?  Quite simply that in eight years, as a society we have not been particularly good at looking after those who are trying to make an honest living.  And whilst it is easy to point the finger at any number of different organisations, financiers and government agencies, the problems of eight years ago when the document was released remain despite our awareness and generally very good economic times.

There is only one solution that I can see.  Government and the private sector needs to work together to provide suitable outcomes that will see the relaxation of various fees and charges.  Whilst NRAS (National Rental Affordability Scheme) is a good start, many of the developers we work with have struggled to make projects stack up, struggled with the number of hoops to jump through and the complexity of the system.  

It’s time to make things simple, find mutually compatible solutions and help create suitable accommodation that looks after our Aussie Battlers.  After all, the country was built on the notion of a fair go for all.

Councils, Be Careful What You Wish For

As many of the country’s local council’s head down the path of urban consolidation and adopt the principles of higher density over sprawl, a lesson learned in the 1970’s is coming back to haunt us. That lesson was the impacts of placing high numbers of welfare recipients in the one location and the subsequent creation of dysfunctional communities.

To this day we still see councils in the outer suburbs striving to achieve higher densities on often quite ambitious scales. Ninety percent of high density product is being sold to investors and rented to the bottom end of the market. Effectively the cycle is beginning all over again with the only exception being that the housing authorities are no longer the ones owning the properties, rather the investors are.  Socially speaking, the risk is that the socially dysfunctional communities of old are being created all over again.

When the government insists on driving planning policy, no matter how well intentioned, it typically goes against general market economics and fundamentals and often the outcome is not ideal.  To further compound this issue many developers know they are at risk of creating projects that will not be a legacy to their brand, in fact it could be quite the opposite.  Their fear is to walk into the council chambers and ask for a change to their DA.  This fear is grounded in the risk associated with a long turn around time and the potential that no D.A will be forthcoming. 

Whilst the market can be pushed and shoved into certain shapes, marketers learnt a long time ago that a market needs to be guided, not forced. The power of persuasion is a very impressive tool when applied correctly.  However marketers also learnt to understand the market, as well as the economic forces that work within it and how to use them to their advantage.  In using the term “marketers”, I am not specifically referring to the term property marketers or the investment property marketers who end up selling these projects to unsuspecting investors; I am referencing the general discipline of marketing.

If we look at a typical purchaser of new product in our outer suburbs, they are generally first or second home buyers with young families and dependent children, or couples looking to start a family in the near future.  These are people and households that are upsizing, not downsizing.  Some of the most successful medium and high density projects are found around our inner ring and middle ring suburbs where apartments offer the potential to upgrade to a new product instead of something that has been renovated within an inch of its life or is dated as 1980’s brick and tile. 

The composition of purchasers is often more highly skewed to the owner occupier than the investor in our near city apartments (depending on the developer).  However, for some reason we find it acceptable that a medium or higher density apartment project in the outer suburbs should be more heavily skewed to the investment community.  If the same ratios were applied to general residential housing, stigmas would be created immediately as 80% of houses would be rented. 

The point being, our double standards are fine for vertical communities, but not so for horizontal communities.  This is an outlook that needs to change quickly, particularly within the council.

When the government draws a line in the sand and suggests that our outer-lying suburbs should adopt higher densities, they are actually doing the residents in those areas a disservice.  Densities will be achieved in their own time when land supply diminishes and the services and amenity are there to support them.  To suggest that the need for higher density starts now is akin to putting the horse before the cart. 

The greater problem remains that we are building communities that will once again remind us of the lessons we failed to learn in the 1970’s, but feel compelled to revisit again.

Brisbane House Prices Lagging

Brisbane House Prices Lagging…nonsense

I find it interesting that some quarters have declared the Brisbane house price as lagging and then later declare that we are in a housing bubble where the prices could drop by as much as 40%.  Just go online and see how much worry there is about falling house prices and how overheated the market is.

Well, let’s put some perspective around the claim.  The below graph demonstrates that the last seven and half years have treated each capital city very differently.  What has effectively happened in Sydney is that the end of the first residential boom in 2003, prices in real terms went backwards.  Not exactly the fundamentals for what some might term a property bubble.  In fact, during the GFC, prices fell by 16% and reflected those achieved in December 2002.  So an increase of just $10,000 in the June to September quarter to levels last seen around the 2003/2004 peak are not unreasonable.

Melbourne on the other hand has largely experienced a stable increase in values but has not reached that old real estate chestnut of property doubling every seven years.  If one was to look at long term relativities between the cities of the eastern seaboard, Melbourne is probably tracking to trend, Sydney is badly underperforming and Brisbane should moderate in growth for the next two to three years.  This is obviously a very simple way of looking at things, but then so is the whole supply and demand rhetoric that people in my profession should know better for using.

Brisbane has been the stand out performer in the past seven years, so those beating up on the city clearly would like to see a boom bust cycle.  Moderation in pricing for Brisbane is a healthy thing if volumes are to be sustained.  Queensland’s unemployment rate is particularly poor in the current economic climate, it’s credit rating I believe is the worst in the country and politically there is a degree of discontent by the public with both Labor and the LNP.  Confidence is not as high as in other States, population growth is waning and this is reflected in the pause in house prices.  

It’s not all doom and gloom though.  Investors have returned the market, albeit with a degree of caution.  However, the biggest problem for this type of purchaser is the stalled construction of investment housing.  The current levels reflect that of seven years ago, so not ideal nor surprising given the effects of the GFC.  Having stated that, with the economic recovery that is underway and the need to raise interest rates to head off inflation, perhaps some more liquidity needs to be put back into the system to help the construction sector and potentially take some pressure off the rental market.

Houston, we have a problem

That pressure that needs to be taken off the rental market is only going to increase throughout 2010, or more baby boomers are going to renovate as their boomerang children come back home to save.

If you wondered how successful the first home owners stimulus package was in getting people into their first property, the graph below demonstrates it very clearly.  It also demonstrates what happens when the incentive is removed.  FHB loans are back to the levels experienced in the recession of the early 1990’s.  

The reality is that we now have two problems.  First is the most obvious, how do we get this buyer category active again, irrespective of whether it is new or established residential property.  The second is, how do those developers who so heavily geared their development to this buyer change the vision to reflect the current trends of second and third home buyers who are struggling with the concept of small lots.

In our travels, we have seen a great number of projects that lost their way through the past two years and are now dealing with the consequences.  It is understood that developers were and remain placed in a particularly precarious position as without sales, everything stops. 

First home buyers remain an important part of the property cycle and once again as interest rates increase, rental properties tighten it is this sector which will yield to the economic strain first.  If the boost in 2001/2002 taught us anything, it is that this market will take a long time to rebound by itself.

Lessons from Dubai

In March, we undertook a study tour of Dubai and Abu Dhabi to see just what had happened to one of the world’s fastest developing cities (Dubai) given its exposure to the GFC and what Abu Dhabi looked like by comparison.  In many respects, the similarities of the Gold Coast and Brisbane spring to mind when the Gold Coast fell in a hole in the eighties.  Whilst international investment drove development, the result was the same when it left abruptly.  Values fell and those left holding the parcel took a long time to regain their lost financial ground, assuming they hadn’t sold it in the time in between.  Dubai now sits on this precipice.

Where some significant contrasts between Australia’s capital cities and Dubai exist is that there is no latent oversupply.  However one needs to understand the basic socio-economic structure of Dubai to understand how the position of oversupply has been exacerbated through rapid population loss. 

Essentially there are four strata to the population.  The first is the Royalty who generally exist and operate on a totally different level.  Having said that, it was welcoming to hear that the planning and sustainability solutions in Abu Dhabi are also being adhered to by those Royalty who are continuing to develop.  This sets a tremendous example to the rest of the population.

The second strata are essentially the locals who are citizens of the United Arab Emirates (UAE) who generally hold down the more prestigious roles and certainly account for the vast majority of government jobs.  The third level are the professionals who have come from all over the world to offer their expertise and it feels like in many instances, have their dreams become a reality.  Quite simply some of the work and projects that have been undertaken and completed are awe-inspiring.  

Finally there is the fourth strata which represents most of the third world countries and these are people that are working as maids, servants, taxi drivers and often on large construction and infrastructure projects.  Talking with professionals in both Dubai and Abu Dhabi, quality control is often more difficult as a result.

Getting back to the issue of oversupply, when the market crashed as a result of the GFC, many expats were released from their contracts and sent packing.  The unemployment in this strata was alleged to have been around 40% with cuts still being undertaken.  This was a significant proportion of both living and office accommodation users that left very quickly.  However despite this, most people on the ground feel remarkably buoyant for a market that is allegedly so very broken.

Part of this reason is because the issue of Dubai is not looked at in isolation.  It forms part of a bigger picture where comments often stated that Damascus or Cairo or another region was up 30% or more.  Dubai was regarded as an inconvenience that would rectify itself in time.  There was not the panic that one would expect from so many buildings that were incomplete or those that were looking for tenants.  There was simply an understanding that things got out of control, values corrected and projects would resume in time.  This also applied to contracts that were not paid in full with many renegotiated after the completion of projects.  Dubai is unlikely to provide the massive personal incomes it once did, again another correction that occurred.

So whilst there is no denying that Dubai is in a development and financial hiatus at present, Abu Dhabi remains in a strong economic position, much like the Brisbane Gold Coast scenario related to earlier.  However when Dubai does recover, the legacy will be in some of the most outstanding architecture that has been developed in recent times.  Their capacity to deliver their dreams is outstanding.  The point being that many of these buildings will be around for the next fifty years which will mean that the urban landscape will be an interesting place to be a part of.  Their lack of conservative nature with regard to architecture has meant that iconic buildings and shopping centres are in many respects world leading.  Who would have thought to put a fully enclosed ski slope in a shopping centre in what is essentially a desert.  The result is that this retail centre will see around 30-35 million people pass through its doors annually.  So perhaps the cost does justify the means.  

In our February newsletter we concluded with the thoughts that Australia needs to dare to dream again and “wow” consumers.  With many of our own iconic buildings now being shelved as a result of the recent economic turmoil, we would urge financiers to assist in the process of making Australian cities more interesting.  Quite clearly we have the talent being developed because much of it is being exported overseas.  It is about time the Sydney Opera House had company on the world stage as an iconic building.  

At the risk of being seen as unpatriotic, Australia is in jeopardy of becoming too conservative and boring.  Councils need to start considering what sites should be labelled as potentially suitable for leading design and innovation.  When the few remaining riverfront sites in our cities repeat the typical glass and concrete design, we add little to the life experience and do nothing to further the desire of increasing densities.  Cities should be interesting places to live in, and design needs to play a larger part. 

Population Perspective…

Let me jump on the band wagon like everyone else and be thankful that we now have had a population summit, the appointment of a population minister and for all intents and purposes what appears to be another level of bureaucracy in the making.  Can I please draw everyone’s attention to some relevant facts, according to the World Atlas, Tokyo in Japan has a population of over 28 million people.  Last count, Australia had a population of 22 million people.  Our whole country’s population would fit into Tokyo and have room to spare.  Of the top 100 cities in the world as judged by population, Sydney sits at 73 and Melbourne 91.  No other Australian city makes the cut.  Let’s not kid ourselves that we are doomed because of population growth because every city in Australia has room to expand if planning policy allows it.

Australia’s population grew by 451,900 people last year, of which net overseas migration makes up approximately 66%.  Firstly, I am not convinced we have a population problem, that is sheer nonsense.  Secondly, population growth is generally regarded as good for our economy, particularly as it slows the ageing of the population, introduces new skills and makes for interesting personal experiences.  The real issue is not population growth, but poor planning at most levels and the inability for infrastructure to have been provided ahead of time.  The demographics and population movements are largely predictable with government agencies have become quite adept at conveying this information.  The simple reality is that these people have been ignored for too long and now it is coming home to roost.  

Instead of a Minister for Population, perhaps the various Ministers for Infrastructure and Regional Planning need to be held more accountable.  Quite clearly this population growth did not happen overnight and shouldn’t go away overnight.  To consider reducing immigration as suggested by some is both short sighted and clearly outside of Australia’s best interests.  Hopefully out of all of the talk-fests that typically yield little, some common sense about how we live, where we live and the lifestyle choices for the future will tick all of the boxes not just the aspirational ones.