Australian home prices continue to slide and look likely to see a 15% fall 

Key points -

• The slump in national average home prices continued in October with prices down another 1.2% according to Cotality, their seventh monthly fall.
• The rapid decline, more rate hikes than expected and rising unemployment combined with the structural change associated with the tax hikes on investors suggest that the top to bottom fall is now likely to be around 15%.
• Prices aren’t expected to bottom until around the September quarter next year and should start a modest recovery in 2027-28 as the RBA shifts to rate cuts.
• The home price slump will weigh on economic growth via negative wealth effects, but it’s not significant enough yet for the RBA to shift gears toward cutting rates given high inflation is the more pressing problem. But it likely will be by the second half next year.

Introduction

Cotality data shows national average home prices fell 1.2% in October, with capital city prices down 1.4%.

Prices nationally have now fallen 6.7% from their high in March, with Sydney leading the fall with a 10.1% drop. While national average property prices are still up nearly 50% this decade, average dwelling prices in Melbourne have fallen back to around early 2021 levels and those in Sydney are back to around late 2021 levels.

The perfect property storm has further to go

The Australian housing market is likely to weaken significantly further for
several reasons:

• The pressure from rate hikes is intensifying with the RBA having already hiked four times this year and looking like it will hike again this week taking the cash rate to its highest in 18 years.

➢ Rate hikes are usually associated with weaker property prices and this cycle is proving to be no exception. This is because they cut how much buyers can borrow, can boost distressed sales and hit home buyer confidence.

➢ The drip feed of higher rates will also put more pressure on existing homeowners already suffering from mortgage stress. Another rate hike this week will mean roughly an extra $110 a month in mortgage interest payments for mortgage holders and a total increase of $550 a month since January or $6600 year – which runs the risk that we may be close to a tipping point for some mortgage holders. The weaker jobs market and rising unemployment risks also adding to distressed sales.

➢ While we think the RBA after another rate hike this week will have done enough to slow demand in the economy to cool inflation, the risk of further hikes is high and in any case RBA commentary is likely to continue to lean hawkish warning of more hikes to come for a while yet and we don’t see it cutting rates until the December quarter next year.

• The Budget tax hikes on investors - the move to curtail access to negative gearing and return to the taxation of real capital gains is continuing to drive a big decline in investor demand for residential property in the near term because  it means a significantly lower after-tax return for investors. 
• Poor buyer confidence –consumer confidence is running around levels often associated with recession.

With price falls now the most rapid on record since 1980, average prices already down 6.7% with no loss of negative momentum, the drags on demand set to continue for a while yet and a likely rise in distressed selling, we are revising our expected top to bottom fall to around 15%. This is deeper than the range of average capital city property price declines seen over the last 40 years or so but is consistent with the perfect storm now hitting the property market. However, by the September quarter next year, property prices are likely to bottom with the market starting to anticipate RBA rate cuts.

What does it mean for share markets?

The experience of the last 35 years suggests that while first Fed rate hikes in a tightening cycle can cause a dip in shares, the bull market usually resumes until rates become onerously tight, which weighs on profits. This can be seen in the next chart. US shares had wobbles when rates first started to move up in February 1994 (US shares had a 9% correction), in June 2004 (US shares had an 8% correction) and in December 2015 (US shares had a 13% correction) but thereafter they resumed their rising trend and a bear market did not set in till 2000, 2007 and 2020 after multiple hikes. Of course, the 2020 bear market was ostensibly due to the pandemic. Recession did not come for seven years after the February 1994 first hike, for three and a half years after the June 2004 first hike and for four years after the December 2015 first hike. This is because the first rate hike only takes monetary policy to less easy, and it’s only when monetary policy becomes tight that the economy gets hit. The start of Fed tightening in the last cycle in March 2022 was different as shares were already in a falling trend and this continued until October 2022 culminating in a 25% fall. But inflation was much higher then – with US core CPI inflation of 6.5%yoy when the Fed started to hike necessitating a more aggressive increase in interest rates whereas now it’s much lower.