Regulation and speculation, the self-perpetuating forces in Australia’s housing market: Catherine Cashmore

Despite the recent gains in dwelling values being fragmented across the states, it’s always interesting to chart the reaction when making the assertion that the rapid run up in values, occurring in areas such as Sydney and to some extent Melbourne, have been stimulated by little more than an investor lead rush to get in quick. Capital gains are visibly overshooting the mark, and cheap money coupled with a honeymoon period of post-election confidence, is forcing buyers to seek out any area of opportunity that can provide a better return on their dollar.  

However, for those who work in the commission driven residential sector and derive their living from Australia’s $600 billion property industry, any negative sentiment indicating potential instability is strictly taboo.  

Indeed, it’s easy times for agencies when the market is booming – investors come knocking buoyed on by recent gains, sales agents don't have to chase buyers in order to achieve the needed competition to exceed their vendor’s reserve, and as we start to witness a period of accelerated growth, the self perpetuating circle of certainty that keeps the ball of optimism rolling, is proof enough for all imagining there can be no end to the festivities.  

Those who work in the industry understand that it’s this type of confidence that underpins investor activity; therefore if prices are dropping opportunity knocks, and if they are rising it’s merely proof that markets always recover and values trend upwards. 

In other words, there’s never a bad time to buy property – to insinuate as such, would result in a personal conflict of interest.  

I received an auto-generated email this week from one commentator suggesting we have become a nation of so-called experts – people with opinions, but very little expertise.  

According to the theory set forth in the email, the criteria for expertise in our property market to enable impartial advice, is simply someone that walks the talk – a "successful property investor" with a large portfolio of dwellings.  

However, for those that entered the property market at the beginning of the lending boom, and benefitted from our golden decades of growth – becoming a successful property investor, wasn’t incredibly hard.  

The rise of dual income households, intermittent buyer grants, tax incentives aimed at investors, stronger wage growth buoyed on by a robust economy, poor planning for population growth (with both the monopoly and restriction of land stagnating effective and affordable supply), a propensity toward high loan to value ratios in the lead up to the GFC and a culture that veers disproportionately toward property investment as a vehicle for wealth creation ensured the baby boomer generations, who hold roughly 50% of Australia’s housing stock, didn’t need much more than a basic foundation of market knowledge to reap the resulting capital gains.  

Having never lived through a real estate crash, boomers matured in a market where the industry driven mantra dictated that nominal values double every seven-10 years or always goes up 7-10% per annum, as the wax and wane of a property cycle progresses.  

Some of the various stimulators that lead to these gains are not to be repeated, and whilst there will always be periods of inflation and deflation in any modern market economy, it’s important to have a good understanding of the dynamics fuelling those gains and the longevity of such, or you risk falling into the trap of thinking the good times will ultimately always outweigh the bad.  

Whilst the real estate profession differs little from any other sales industry, in so much that it has to maintain a positive narrative, it also promotes Australia’s largest domestic asset class with an aggregated value of over $4 trillion pinned to a banking sector, which has the highest exposure to residential mortgages in the world.  

Pumping the line that it’s always a good time to buy, with inflated capital prices simply an indicator of a “healthy economy”, can potentially hold serious consequences – If housing is going to be used as an investment vehicle, the advice being given requires strict regulation.  

As it stands, Sydney’s buying market is almost a 50/50 equal split between investors and upgraders, with first home buyers holding less than a 5 % share.  

Whether it is negative gearing, land banking or borrowing to purchase in a self-managed super fund, all such strategies are solely reliant on capital growth to compensate for the growing gap between price and yield. Therefore demand is overwhelmingly concentrated on a reducing pool of established property and the recent acceleration in prices represent this.  

The so-called fundamentals presented that are intended to calm any negative spirits into believing our economy faces no immediate danger, are startling similar to those projected in other countries immediately prior to the financial crisis.  

Whilst there’s no doubt in Australia we have a shortage of affordable and effective supply, to assume this alone will always generate nominal price gains, or even place a firm floor under current valuations, concludes we can keep playing a game of musical chairs with second hand stock, against a backdrop of rising unemployment, weak wage growth, an aging population and stubbornly high levels of personal debt.  

I’m referring in particular to arguments such as demand outstripping supply, population growth, a stable economy, and other indicators such as housing affordability measures. These maintain that capital increases aren’t negatively affecting first home buyers, because the proportion of income needed to service the loan is balanced in a low interest rate environment. And whilst I’m not suggesting we face an imminent crash, one thing all crises have in common is that the majority never see them coming.  

Ireland is one such example. In the lead up to the GFC, which wiped over 50% of the value off properties in markets such as Dublin, all available economic indicators were firmly pointed toward the positive.  

Since the middle of the 1990s, growth in real disposable income per head had been stronger than any other industrial country.  Residential demand was fuelled principally from robust net migration, coupled with trending fall in household size.  

By 2007, 75% of the population owned outright or were renting, and the proportion of buy to let investors had increased to 27%.  

The overwhelming mantra from the real estate sector fervently claimed a property crash was impossible. Strong GDP growth and low unemployment figures supported a feeling that the environment was protected, and average mortgage payments were estimated to be no more than 30% of household income.  

When supply did respond to demand, it was generally too late, and urban growth restrictions ensured new homes were built in locations far from existing amenities, and therefore not appealing to the home buying demographic.  

Brownfill sites were filled with low-grade high-density unit stock, and subsequently, in the two years leading up to 2007, almost half of all new home purchases stemmed from the investment sector rather than a first home buyer demographic.  

Following the crash, large swaths of these new properties sit vacant, and the lingering lack of quality supply has started to once again disproportionately inflate established values as the economy starts to show slow signs of recovery.  

The rhetoric stemming from the media also played its part in underpinning the confidence. Various headlines from the Irish Times prove the point aptly: "Bricks and Mortar Unlikely to Lose Their Value" (December 11, 2002), "Prices to Rise as Equilibrium is Miles Away" (March 18, 2004), "House Prices 'Set for Soft Landing'" (November 22, 2005), "Property Market Unlikely to Collapse, Says Danske Chief" (February 2, 2006) and "House Prices Rising at Triple Last Year’s Rate" (June 29, 2006).  

Similarly, the UK was also suffering a housing shortage with data analysis given to parliament suggesting the UK needed "an overall total of 203,000 homes each year during the period 2001 to 2021 to keep pace with newly-arising household growth."  

Whilst it’s impossible to compare against every measure when drawing international comparisons, the spirit of certainty that keeps prices rocking along all too often masks underlying instabilities. Hence why so few see a crash looming.  

This is why it is vital and long overdue, for our politicians to work hard at establishing a political road map that will unpick the current distortions tying up the established market (such as tax incentives which encourage speculative activity and underutilisation of the existing stock), whilst at the same time lowering land prices and increasing effective and quality supply for buyers and renters.

Without action, potential rises in unemployment and future interest rate hikes will simply exacerbate the boom and bust cycles resulting in a slow and painful demographic shift, as an increasing wave of younger Australian’s find themselves in a position where they need to take on a greater and greater proportion of debt just to enter the market.  

It’s easy to palm off the risks by citing that only Sydney and Melbourne are experiencing heated activity – but somewhat foolhardy to think that this won’t have a broader impact as the RBA fight with the conundrum of balancing rates in a multi speed economy. 

Whilst we continue the bubble debate, and both the RBA and government sit on their hands and look sideways assuring us there’s nothing to worry about yet, a largely unregulated housing market, which in some areas is full of pent up demand from cheap money and speculation, has well and truly taken the bit.