Making sense of property signals

PORTFOLIO POINT: Looking forward gives one signal; looking back gives another. Here’s what it all means.

For those who follow the property media avidly, the number of stories purporting to reveal the true direction of the market can be quite disturbing. Headlines that scream of massive price growth one day can be followed by reports of the housing industry’s decline on the next.

Last week’s release of the ABS House Price Indices showed that all eight capital cities recorded double-digit annual house price growth, led by Melbourne with a rise of 27.7%, followed by a rises of 21% in Sydney and 20.6% in Canberra. And yet headlines still warn that “Housing weakness emerges”.

What are investors to make of this?

It is important investors understand that two contradictory types of residential property market indicators are being discussed without an explanation of their context. The first type tells us about the current state of the market; the other set flags where the market should be in six months’ time.

To get a really good view of the property market and its likely trajectory, the serious analyst must organise market indicators into their two main types: those that look forward and those that reflect present day reality. This gives an interesting picture of an undersupplied market that is rebalancing and cooling at a sustainable pace, not a rapid descent into a new Ice Age, as many headlines suggest.

Present market indicators show the results of strong buying activity in the December 2009 and March 2010 quarters. According to the ABS, “the strongest growth came from established houses with relatively high prices”.

The standouts were houses in Melbourne and Sydney, with price growth of 6.7% and 5.3% in the March quarter respectively. While auction clearance rates remained high in both cities, we may see the market demand cooling a little after the latest interest rates rise. A large proportion of hot-under-the-collar buyers have bought in the past six months – that’s what all the big headlines were about – but they seem to be out of the marketplace now.

Other current policy changes that may affect the property industry are also worth mentioning as contributing factors. Investors who were waiting to see if the government’s response to the Henry tax review would affect their status and strategy have now been cleared to enter the market. In the end, it was just another cynical move from a timid government reeling from a number of political and economic gaffs and backing away from decisive reform in an election year.

As for future indicators, certainly there are high expectations that interest rates may continue to rise over the next six months. An anomaly between the price data of different agencies may be pointing to a different future scenario than that forecast by those only watching strong present day indicators.

Australian Property Monitors and RP Data figures both show property prices rising more slowly in the March quarter than ABS statistics, which only include prices for detached houses.

APM found prices across the board rose 3.1% in the three months to March 31, down from a 5.3% rise in the previous quarter. RP Data found that in the first three months of 2010 Australian dwelling values rose by 4.2%.

While growth appears especially strong, on a “seasonally adjusted” basis, the March quarter capital gain was 2.9%. Apparently, RP Data consulted with the Reserve Bank when developing the methodology to control for the seasonality in residential property values.

The indicators for housing finance and housing starts, both slowing, are also important future indicators to watch, and here the government’s response to the Henry review may have future implications for the market.

With no likely moves on negative gearing or capital gains tax by the government, how will investors respond? Equally, with such a carefully scripted move designed explicitly to avoid frightening the market in an election year, when exactly will we see the much needed nuts and bolts reform of the byzantine maze of property taxes and stimulants that are having an increasingly erratic effect on the Australian economy and interest rates?

Again the clash of indicators makes it difficult to analyse exactly where we're going to be in six months, but examining the behaviour underneath these indicators tells us about the elements of supply and demand moving and shaping the market ahead.

Consider the two major factors pushing up supply. News of rapid price growth and 20% increases in Melbourne, Sydney and Canberra has certainly been instrumental in lifting the supply of properties for sale. Second, with five big selling weekends in May, we're likely to see this supply hit its peak for the first half of 2010.

The welcome combination of increasing supply and a gentle easing of demand should see the market rebalanced as buyers become more greatly dispersed among available housing stock, easing the intensity of competition at auctions.

Rather than a confusing clash of negative and positive data, the picture I see is of our current trend of rising supply and gentler demand continuing as we move forward into the second half of 2010, notwithstanding the typical winter hiatus in the southern states. The elements shaping the residential property market should move price growth into a sustainable phase in the second half of 2010.

Property Q&A

This week:

• Off-street parking.
• Where to for my third investment?
• Should I increase my land component?
• Do government changes pose a risk?

Car parking

I am looking for an investment property in the inner eastern suburbs of Melbourne for about $800,000. I know you recommend off-street on-title parking for apartments, but what about for houses? How would off-street parking, or the lack of it, affect the price for a property that is ideal in every other respect?

A car space can add value to house types in certain areas. Some inner-suburban precincts were designed before cars became popular and have narrow streetscapes. In these precincts, few houses have off-street parking and residents are often unable to find a space on the street near their home. In Melbourne, this means areas such as Fitzroy, Prahran and Richmond; in Sydney, it includes such areas as Glebe, Darlinghurst and Woolloomooloo.

Off-street parking can also add value to some top sector inner-ring houses, which are close to entertainment areas and have streets with lots of traffic. Residents buying million dollar-plus homes are unlikely to be thrilled about parking on a busy street. Examples of areas with these houses include Albert Park and South Yarra in Melbourne, and Potts Point and Double Bay in Sydney. In fact, in most instances off-street parking can and does add tens of thousands of dollars to the value of a property.

If you are buying an investment-grade house, off-street parking in most cases is desirable but not essential. Most Australian streetscapes have sufficient space for residents to park on the street outside their home with relative security. In inner and middle-ring suburbs, residents often have permit parking, which improves their chances of being able to park outside their home.

The parking rule is different for apartment buyers, however, and the reason is also fairly simple: A small block with 12 apartments often occupies the same amount of space as two or three houses, but the higher number of residents produces four to six times as many cars looking for space in the same area. It’s this excess demand for space that underpins the value of a car space for apartments.

The go zones

I liked your comment on April 7, that "I think we’ll find the prices paid for properties in inner suburbs, particularly spacious, well-positioned houses in these areas, will continue to surprise for some time into the future". Given that I already have two properties in NSW in my portfolio, where should I look to invest next? My preferred investment dwelling has both house and land.

Once you have consulted your accountant in relation to land tax issues and have decided that investing outside of NSW is the best strategy, I would suggest the best places to look for an investment grade house are in Melbourne and Perth.

In both cities, you should look for single-fronted period or older-style houses in quiet residential streets in inner and middle-ring suburbs. You will need a budget of around $800,000 for a house in the optimal areas of Melbourne and Perth.

Land value

I own a four-bedroom, two-bathroom house in Balwyn North in Melbourne’s eastern suburbs on a 650 square metre block. The current value of the property is $1.3–1.5 million. I have been looking at the nearby suburb of Bulleen – less valuable but the same distance from the city. It lacks the convenience of a tram but has a bus route. I could buy a similar size home for 20–30% less than my current home and increase my land holding by 50%. Would I be better off keeping my existing home in a more valuable area or moving to a less valuable area and increasing my land holding?

I will assume from your question that you are trying to own property with better long-term growth prospects and improve your short-term financial position at the same time. If you did make a move to a less valuable area, it is quite likely you would be able to increase the amount of accommodation and physical land you hold, but I’m afraid that is likely to come at the expense of the long-term growth in the value of your property.

Balwyn North has higher demand from buyers because its transport access is better, it has better shopping precincts and because it’s closer to many top private and public schools. The result is higher market demand for Balwyn North as a place to live, a place to invest in property and this is responsible for the higher land value.

Higher land value areas are more likely to grow at faster rate than other areas. After all, that’s why they are more valuable now. So while you will increase your physical holding of land by undertaking this move a little further out, you will actually be decreasing the dollar value of your land holding and its likely future growth.

If you are looking to downsize your property to repay debt or to release funds for another purpose, then this may be the right move for you. But if your primary intention is to achieve the best capital growth outcome from the property you own, you should stick to property in higher land value areas.

Regulatory risk

With the recent release of the Henry tax review, there is growing concern that Australia faces significant regulatory risk with regards to investing in residential property. Do you agree that the most significant risk is the government abolishing or phasing out investors' ability to offset expenses against their income?

While Treasurer Wayne Swan’s ruling out of any changes to negative gearing brought relief to many property investors, it only raised questions about where the government’s property investment policy is headed. The answer appears to be absolutely nowhere. In my view, the response to the Henry tax review was a cynical move designed for maximum effect in an election year.

Australia’s governments have an overdependence on property-related tax revenue, which comes at a high cost: rapidly decreasing housing affordability, a growing shortage of housing for buyers and renters and significant financial penalties for Australians who invest in residential property to secure their financial futures.

I think there’s little if any chance of this government cutting investors’ negative gearing benefits; governments understand very well that this would be a major change, which would prove costly to renters and property owners.

From a regulatory point of view, bodies like the tax office, the Australian Prudential Regulation Authority and the Australian Securities and Investments Commission would need many resources to monitor and enforce the changes as would the government, which would need to provide public housing to appease the millions of displaced tenants who could no longer afford their rent if negative gearing was quarantine abolished or significantly reduced. On the other hand, the likelihood of regressive stamp duties, land taxes and property-related GST expenses being reduced is also absolutely minimal.

Monique Wakelin is co-founder of Wakelin Property Advisory, a Melbourne-based independent property acquisition and advisory company, and co-author of Streets Ahead: How to Make Money from Residential Property.

Note: We make every attempt to provide answers to readers’ questions, however, answers are of a general nature only. Subscribers should seek independent professional advice for more in-depth information that is specific to their situation.

Do you have a question for Monique Wakelin? Send an email to monique@eurekareport.com.au.