Housing at the tipping point

The housing market has been frozen for some time … but there are signs it could thaw in 2013.

PORTFOLIO POINT: The latest interest rate cut will help spur the property market in the new year, but don’t expect double-digit growth.

Thank you Reserve Bank. Now we’re in business. Following the cumulative 150-basis point cut over the last 13 months, this month’s additional 25-basis point cut in interest rates may well be the tipping point for the housing market we’ve all been waiting for after two years of weakness.

That optimism is based on experience. The new cash rate of 3% enables lenders to offer rates for new borrowers and refinancers for as low as 5.5%. Given the typical net rental yield for investment grade property is around 3.5%, the funding difference is now around 2%, and that is before tax benefits.

Looking back at the data over recent decades, this is a very small gap. Generally, when we’ve previously seen the funding gap fall to these levels, it has foreshadowed strong capital growth. Think 2008, 2001, 1997 and 1987.

For those currently renting who are weighing up whether to buy, the additional cost of servicing a mortgage relative to paying a rent is now in many cases less than a $400 or $500 a month based on a $300,000 mortgage. Many will see this additional impost as worthwhile in order to become home owners. Similarly, prospective investors will only have to find a few hundred after-tax dollars each month to bridge the shortfall between incoming rent and outgoing interest payments.

This inevitably leads to stronger demand and, in due course, capital growth where supply is constrained. The market is primed for growth.

But don’t get too excited. I’m not predicting a roaring market in 2013. Notwithstanding a reasonably robust economy, consumer confidence is fickle and skittish. Since the global financial crisis, there has been a psychological change in Australian attitudes to debt and borrowers will be more restrained. Moreover, lenders are being more prudent as well. This is to be welcomed. The last thing we want is for people to take on too much debt and find they are caught short once interest rates eventually increase again.

Making predictions is a thankless affair, and it’s incredibly difficult to get it right. But here goes anyway. Overall, I expect capital growth for our capital cities of around 2-3% in 2013, and perhaps more if interest rates are cut again in the first quarter of the year.

Sydney

Turning to our major capitals, Sydney has experienced relatively modest growth in recent years but has outperformed in 2012. Indeed, it is likely to be one of the few cities that records positive growth over 2012.

There is undoubtedly bottled-up demand in Sydney and a tightness in the rental market that will encourage first home buyers and investors in 2013. But, on the flipside, Sydney’s outlook may be tempered by the disproportionate size of its financial services sector, which has struggled since the GFC. That said, I anticipate some reasonable growth in prices in Sydney of around 4-5% in 2013.

Melbourne

If you watched the commentary over the last couple of years, there was a fair degree of prognostication about the imminent demise of the Melbourne market. The prevailing view was that after a 35% hike in prices over 2009 and early 2010, Melbourne was due for a battering. Well, Melbourne only fell back 10%, which wasn’t much out of line with other capital cities.

Nevertheless, Melbourne has had, relatively speaking, a building boom in recent years and hence there is an issue of significant unsold stock in fringe suburbs. Consequently, these areas should be avoided. Whilst prime investment grade property is still in demand I anticipate that 2013 will be a year of very modest recovery for Melbourne, of around 2-3%.

Brisbane

Brisbane has been hit by a perfect storm in the last few years. The widespread destruction of the floods of 2010 added insult to a region injured by the impacts of a strong Aussie dollar on significant industries such as tourism. The storms may have generated perceptions that inner Brisbane property comes with material flood risks, which may have hampered investment demand. Consequently, Brisbane prices are generally lower now than they were in 2008. We now also have a situation where unemployment in Queensland is picking up in major part due to cost cutting by the Newman government. Now, this may be a positive in the long term – think of the impact of Jeff Kennett in Victoria – but it may well impede confidence for a while. But Brisbane will prove its resilience in 2013 with growth of around 3-4%.

Perth

We’ve all heard ad finitum about the two-speed economy. In truth, it’s probably only Western Australia that is truly going gangbusters while the rest of the country muddles through. In that light, Perth’s property performance seems surprisingly muted in recent years. In fact its performance has been no better than the rest of the country. In reality, to date, much of the mining boom is bypassing Perth, with fly-in, fly-out workers travelling from across Australia straight to the mining towns.

But the conditions do seem ripe for a strong recovery. The vacancy rate is drum tight and the number of first home buyers is high, at around 30%. There is substantial infrastructure build either underway or in the pipeline, which is likely to improve the amenity of many parts of Perth. There is also a great deal of residential property building underway. This is normally bad news for investors, but it is likely that developers will struggle to find the manpower to build everything. I therefore expect prices in Perth to grow around 5-6% in 2013.

Adelaide

Finally, Adelaide property remains sluggish with low auction clearance rates and a sense that vendors have yet to accept lower prices. Although there are patches of the market that are performing well, these tend to be the exception. It’s not unusual for Adelaide to lag other cities over the property cycle and this cycle looks no different. I don’t think Adelaide will do much in 2013. It might see a little positive growth of 1-2%. With a population of only 1 million, it’s crucial that investors focus on the suburbs within 2-3 kilometres of the CBD.

Of course, it’s fascinating to crystal ball gaze over the next 12 months, but property investment must be a minimum of a seven to 10-year commitment in order to ride out the peaks and troughs of the economic and property cycle. So be sure to think long term. With that attitude, you’re less likely to view 2012 as the ho-hum year for property investment that is often portrayed in today’s media, but rather as one of the great investing opportunities.

Property Q&A

This week:

  • Should I sell at a loss, or hang in?
  • Seeing through the Gold Coast gloom
  • Stairways don’t always lead to investment heaven
  • Will apartments outperform houses?

Should I sell land at a loss, or hang in?

I have a block of land in Erskine (suburb of Mandurah, WA). It was purchased as an investment and not a place I would desire to live. It is relatively close to the canals, but with no view of the water and has a number of cheaper blocks for sale surrounding it in the $190,000 range. It was purchased five years ago for $270 000 before the boom peaked and rose to a level of in excess of $450 000. I borrowed the entire amount and have been paying interest only. Alas, I left it too late to sell and due to the collapse in land values for the Mandurah area it is now worth less than I paid for it. The agent suggests that I must drop it to around $240 000 and even then may not sell it. When you take into consideration the mortgage payments I have been making with the loan, the loss is even more substantial. I have the financial means to hold on for longer if needed. Should I try and offload the land or hang in for the longer term?

You own analysis is spot on, I’m afraid. This scenario is exactly why I don’t recommend buying or holding land as an investment, particularly in regional areas. You have neither scarcity nor an income. Moreover, it is a salient lesson around the inevitable consequences of an investment predicated on the success of one industry – resources in this case.

The best advice I can give you is to meet the market, sell and wear the losses. The only other option worth considering is building on the land and then selling. By all means obtain independent advice and do the sums on the latter, but I suspect the likely return would not justify the effort and risk of compounding your losses.

Seeing through the Gold Coast gloom

I have had an investment property in Coomera, Queensland for 10 years. I am selling it and the real estate agent has valued it at the same price that I paid for it 10 years ago! Will I be better off selling it to invest in other areas?

It’s been a sorry time for property investment on the Gold Coast over recent years. The region suffers from high unemployment due to declines in inbound tourism, has struggled to digest an oversupply of new residential buildings and won’t do so until prices unwind further from their current levels. I don’t expect a material recovery for the Gold Coast market any time soon.

The one silver lining for you is that you may be able to extricate yourself from this investment and at least break even. Sell this property and look to invest in growth-orientated property in a capital city such as Brisbane.

Stairways don’t always lead to investment heaven

I currently have a two- bedroom, single fronted single story Victorian terrace in Dulwich Hill as an investment. We are looking at putting in an attic conversion and wondering how much stairs will impact the appeal of a house. As a general rule do stairs detract from the appeal of an investment grade property?

The addition of stairs often disturbs the balance of a ground floor plan and can fatally compromise the room in which they are installed.

If this was your home, you might consider taking advantage of the roof space by putting in attic storage accessed via a collapsible ladder. But from an investment perspective, I’d be wary of creating another bedroom.  More rooms and more tenants don’t necessarily mean a better outcome.  More tenants mean more wear and tear and it won’t be cheap to do properly; indeed, it may cost several tens of thousands of dollars.  You may be better off putting the money towards a separate investment property.

Will apartments outperform houses?

Apartment versus houses: which will achieve higher capital growth in the short, medium and long-term?

Some theorise that apartments will perform better than houses in the future due to affordability issues dampening demand for houses. On the other hand, it is the land component of a property that is the main constituent and driver of property values, and houses invariably have a much higher land value than apartments.

I’m essentially agnostic when it comes to choosing between houses and apartments. It’s the quality of the individual property that matters in terms of location, position and architectural style.

Historically, house values have tended to grow at a slightly faster rate than those of apartments, but houses also tend to require more maintenance which probably erodes most of the advantage.

A decision about whether to invest in an apartment or a house is generally about budget. Those on a lower budget (say below $650,000) should focus on apartments, as you’re likely to have to make compromises that will affect your capital growth prospects if you attempt to buy a house.

This is my last regular column for Eureka Report. Wishing you all a happy holiday season and New Year.


Monique Sasson Wakelin is a co-founder and director of Wakelin Property Advisory, an independent firm specialising in acquiring residential property for investors. Monique can be found on Twitter: @WakelinProperty.