Developers to feel pinch as home values sink further

PROPERTY developers with an exposure to the residential sector are in for a bumpy ride in coming months, with Morgan Stanley analysts predicting a drop in home values of between 5 and 10 per cent.

By InvestSMART · 4 Jul 2011

By InvestSMART ·
4 Jul 2011

Comments

PROPERTY developers with an exposure to the residential sector are in for a bumpy ride in coming months, with Morgan Stanley analysts predicting a drop in home values of between 5 and 10 per cent.

Stockland and Mirvac have the biggest exposure to the home market but their earnings will be protected from big falls by the strong office market.

In a report to clients on Friday, Morgan Stanley said it expected the continued negative pressure on the Australian housing sector means a re-rate is unlikely in the short term.

"We cut earnings for Stockland and Mirvac and downgraded Mirvac to underweight. Stockland is our preferred pick of the residential names," the report says.

"We expect house prices will decline 5 per cent in 2011 and will be negative to flat in 2012: this assumption is on the basis that prices stabilise later in 2012.

"We believe developers may fare slightly better in price growth through varying product and project mix," the report says.

"Despite this, our bear case suggests downside risks to house prices exist, with potential nominal price falls in 2011 of about 10 per cent and a further 10 per cent in 2012."

Mirvac was already hit when it was forced to write down its Tennyson Reach development in Brisbane by $80.8 million to a nil value due to the impact of January's floods in Queensland.

"While the balance sheet impact is relatively minor, when combined with ongoing capital expenditure commitments Mirvac's acquisition/buyback capacity is diminishing in the absence of further asset sales," a real estate analyst at Deutsche Bank, Matthew Bertram, said.

Further weighing down property developers is the news that the country's high-rise residential construction market is also showing few signs of recovery.

The latest Leading Indicators report by the research and advisory group Davis Langdon says there was an 18 per cent decrease in the commencement of new high-rise developments in the last quarter of 2010.

Go to Google News, then click "Follow" button to add us.

Share this article and show your support

Frequently Asked Questions about this Article…

What home value decline do analysts expect and how might that affect property developers?

Morgan Stanley analysts forecast a drop in home values of between 5% and 10%, with an expectation of a 5% decline in 2011 and prices to be negative-to-flat in 2012. That weaker housing market is likely to make the coming months bumpy for residential property developers, increasing downside risk to earnings and project returns.

Which developers have the biggest exposure to the Australian home market?

According to the report, Stockland and Mirvac have the largest exposure to the residential/home market. Their residential exposure leaves them more sensitive to falling house prices even though other parts of their businesses may provide some cushioning.

How did Morgan Stanley change its recommendations for Stockland and Mirvac?

Morgan Stanley cut earnings forecasts for both Stockland and Mirvac and downgraded Mirvac to an 'underweight' rating. The report still named Stockland as its preferred pick among the residential developers covered.

Why was Mirvac hit recently and what was the financial impact?

Mirvac was forced to write down its Tennyson Reach development in Brisbane to a nil value after January’s floods in Queensland, resulting in an $80.8 million write-down. While described as a relatively minor balance sheet impact, it has reduced Mirvac’s acquisition and buyback capacity unless it completes further asset sales.

Can other parts of developer businesses protect earnings from falling home prices?

Yes. The article notes that earnings for developers with exposure to the home market—like Stockland and Mirvac—will be partly protected by a strong office market, which can help offset weakness in residential divisions.

What does the high-rise residential construction market look like right now?

The high-rise residential construction market is showing few signs of recovery. Davis Langdon’s Leading Indicators report recorded an 18% decrease in the commencement of new high-rise developments in the last quarter of 2010.

Are there scenarios where house prices could fall more than analysts’ base forecasts?

Yes. Morgan Stanley’s bear case outlines downside risks with potential nominal house price falls of about 10% in 2011 and a further 10% in 2012, indicating a materially worse outcome than the base 5–10% range.

How might developers try to reduce the impact of falling house prices on their businesses?

The report suggests developers may fare slightly better by varying product and project mix—for example shifting focus across different housing types, locations or price points—to manage price growth and reduce exposure to any single segment of the market.