Sydney apartment market insights: What happened over May
While housing value growth has slowed, rents continue to rise across Sydney..
Nationally, CoreLogic’s Hedonic Rental Index increased 1.0% in May, taking the quarterly rate of growth to 3.0%, up 60 basis points on a year ago.
CoreLogic’s Research Director Tim Lawless said unit rents are rising at a faster annual pace than house rents across the combined capital cities (where house rents increased 8.6% compared to 9.1% across units) and the combined regional areas (where house rents rose 10.7%, behind the 11.0% gain in units).
“Early in the pandemic rental demand for medium to high density dwellings fell sharply due to a preference shift towards larger homes and a demand shock from closed international borders,” Lawless said.
“As rental affordability pressures mount, demand for higher density rentals has steadily grown due to the unit sectors’ relative affordability advantage. More recently, demand has been boosted by international arrivals returning to the rental market.”
Amidst rising rents and a general easing in home value growth, yields are recording some upwards momentum, especially in Sydney.
Sydney gross rental yields are up from a record low of 2.42% in December last year to 2.59%, with Lawless saying that despite the upwards trajectory, yields remain remarkably low.
“But a recovery back to average levels may be relatively quick if housing values continue to fall while rents maintain this growth trajectory,” he added.
NewLife Darling Harbour
Housing markets lost more steam in May as a combination of higher interest rates, rising inventory levels and lower sentiment dampened conditions.
Sydney’s unit values hit -0.7 per cent, with the quarter seeing a -1.6 per cent decline.
Although housing values continued to rise across the remaining capitals, the growth was not enough to offset the depreciation in Sydney, which pushed the combined capitals index -0.3% lower over the month.
Sydney has been recording progressively larger monthly value declines since February, after peaking in January, with housing values down -1.5% - although still above pre-COVID levels at 22.7 per cent.
The trend in advertised stock levels helps to explain the weaker conditions across Sydney, with the city’s advertised listings 5.1% higher than a year ago and 1.5% above the five-year average.
Nationally, advertised stock levels remain -10.3% below levels seen this time last year and 28.4% below the previous five year average. However, inventory in Sydney is now higher than 12 months ago and against the five-year average.
“With stock levels now higher than normal across Australia’s two largest cities, buyers are back in the driver’s seat,” Lawless said.
“Higher listings add to tougher selling conditions more broadly. Vendors in Sydney have faced lower auction clearance rates since mid-April and those selling via private treaty are taking longer to sell with higher rates of discounting.”
While advertised stock levels provide some insight about the supply side of the market, home sale volumes provide guidance on housing demand.
As interest rates normalise over the next 12 to 18 months, the expectation is most of Australia’s capital cities will move into a period of decline brought about by less demand.
Lawless said the trajectory of interest rates will be a key factor in future housing market outcomes. Forecasts for where the cash rate may land are varied. After the Reserve Bank’s decision to lift the cash rate by 25 basis points at its May board meeting, the RBA noted: “it's not unreasonable to expect that interest rates would get back to 2.5%.
” Financial markets are still betting on a cash rate above 3% before mid-2023, while economic commentators show a broad range in their cash rate forecasts.”
With the housing debt to household income ratio at record highs, household balance sheets are likely to be more sensitive to rising interest rates. High inflation could be another factor contributing to softer growth conditions in the housing sector.
A prolonged period of high inflation is likely to lead to lower rates of household saving and may potentially weaken prospective borrower’s ability to meet serviceability assessments from lenders.
Consumer sentiment also remains low, with Westpac and the Melbourne Institute’s monthly reading falling another 5.6% in May to its lowest level since August 2020. Historically there has been a strong correlation between consumer attitudes and housing market activity.
These factors, together with stretched housing affordability and a more conservative approach from lenders, especially towards borrowers with high debt levels, are likely to contribute towards less housing demand over the medium term.
However, Lawless notes several mitigating factors as well.
“Labour markets are tightening, sending the unemployment rate to generational lows and placing additional upwards pressure on wages growth,” he said.
“As income growth outpaces housing values, the home deposit hurdle will gradually lessen, reducing one of the key barriers to entry for home buyers.”
“Strong labour market conditions, together with a growing economy will help to contain mortgage arrears and mitigate some risk of a surge in forced sales placing additional downwards pressure on housing values.”
Another factor helping to contain distressed listings amidst rising interest rates is that most households are well ahead of their mortgage repayments. In the latest Financial Stability Review, the RBA noted the median repayment buffer for owner occupiers with a variable mortgage rate had grown from 10 months of scheduled repayments at the start of the pandemic to 21 months of scheduled repayments in February 2022.
Even with a two percentage point rise in mortgage rates, the median repayment buffer would reduce to 19 months, which is still substantial. With the median household well ahead on their mortgage repayments, the risk in falling behind on their debt obligations is reduced. Mortgage stress should also be minimised to some extent by mortgage serviceability assessments at the time of the loan origination.
All borrowers have been assessed under a mortgage rate scenario 2.5 percentage points higher than the origination rate, and since October last year, borrowers were being assessed with a buffer of 3 percentage points.
Under these serviceability scenarios, Lawless said it was reasonable to expect borrowers should be able to accommodate higher mortgage repayments costs, although such a rapid rate of inflation could create some challenges for borrowers with thinly stretched budgets.
“With the RBA set to steadily raise the cash rate through the rest of the year and into 2023, we are likely to see falls in housing values become more widespread as mortgage rates trend higher,” he said.