Rodney Dickens says the latest boom in Auckland house prices is not over but it won't last indefinitely

By Rodney Dickens*

Auckland house prices have in the past experienced Biblical style behaviour (i.e. feasts followed by famines, but also famines followed by feasts). It is too early to warn about the end of the latest boom in Auckland house prices, but it is timely to warn that the boom won't last indefinitely.

This Raving looks at the past behaviour of Auckland house prices and the behaviour of Auckland prices relative to prices in the rest of the country.

It provides insights that should be relevant to investors and other Auckland property buyers and sellers.

It confirms that Auckland house prices have on average increased more than prices in the rest of the country, although possibly by less than is commonly assumed.

But it also reveals that Auckland house prices have significantly underperformed prices in the rest of the country over protracted periods and especially after a sustained feast of the sort the Auckland market is currently partway through.

The unfolding Auckland feast will be followed by a famine

Rear-view mirror investing is extremely common (i.e. Auckland house prices have been booming so let's invest in Auckland housing). The same sort of rationale attracted lots of investors in the Auckland apartment boom and the national coastal property boom in the mid-2000s, with late comers to both getting burnt as I had warned would be the case prior to the respective demises of Auckland apartment prices and coastal property prices later that decade.

A review of history provides some interesting insights into the behaviour of house prices in Auckland and the rest of the country, including the tendency for famines to follow feasts and vice-versa.

The left chart shows the much greater upside in the Auckland median dwelling price reported by REINZ compared to the weighted average median for all other regions since 2012. The right chart shows the ratio of the Auckland median dwelling price to median for the rest of the country. The ratio is currently close to 2x.

The right chart shows only a modest upward trend in the ratio since 1992 (the green line). Between 1992 and 2015, the Auckland median price increased by 5.1% per annum (compound rate) versus 3.9% for the rest of the country (i.e. Auckland annual returns were about 1.2 percentage points per annum higher than in the rest of the country on average). However, the right chart also shows periods when Auckland house prices significantly underperformed.

From when the ratio peaked in 1996 until 2008 the median Auckland house price increased by 6.1% per annum (compound) versus 8.4% in the rest of the country. In this instance, Auckland prices increased at an above average rate, but prices in the rest of the country, on average, increased by more (i.e. 2.3% percentage points per annum more for 12 years).

The outperformance of house price increases in the rest of the country was most notable between 2004 and 2007 and when Auckland prices fell in 1998/99 (adjacent chart).

Past experiences suggest Auckland house prices do on average increase more, fitting with Auckland having experienced stronger population growth, but also that Auckland prices are both at risk of underperforming the experience in the rest of the country and of falling after periods of strong upside and outperformance. When this may happen next and what will bring it about will be covered especially in the quarterly Auckland Barometer reports. But there is more to the Auckland story.

Famine followed by feast and feast by famine are features of the behaviour of Auckland house prices (and of prices for other regions, many of which have experienced famine in recent years).

Each of the diamonds in the adjacent chart compares the compound annual return for the QV Auckland house price index over the last five years (bottom axis) with the return over the subsequent years (left axis). The data period starts in 1992 when the new, low CPI inflation era started.

Extending the time period back beyond 1992 would undermine the analysis by including past periods of high general inflation. The QV quarterly house price index is a superior measure of house price performance than the REINZ median price that is subject to short-term variations caused by changes in the composition of sales, but both provide similar insights over long periods.

The chart above also includes a trend line that shows a strong inverse or negative relationship (the green line). Periods when the average or median Auckland house price has increased significantly over five years (e.g. compound returns of 12% per annum or more), which reflects "feasts", have almost always been followed by five-year periods of low returns (i.e. "famines").

Equally, five-year periods of low returns (i.e. famines) have all been followed by five-year periods of high returns (i.e. feasts). If we replaced five years with seven years there would be something Biblical about the behaviour of Auckland house prices. But prices don't go up or down as a matter of faith or based in regular five-year cycles, but rather as a result of the behaviour of the key drivers (i.e. interest rates, population growth and local and central government actions that can at times have a major bearing on section prices and new housing costs). This highlights the importance of quality analysis like that contained in the Auckland Barometer and Housing Prospects reports (for more information on these reports visit http://sra.co.nz/index.php/property-research and http://sra.co.nz/index.php/housing-prospects, respectively and/or contact me).

This focuses on the extreme instances, although in Auckland's case extreme cases make up a higher percentage of the total than would be consistent with a normal distribution. But just as feasts are normally followed by famines and famines by feast, it is common for five-year periods of around average returns to be followed by five-year periods of around average returns.

This time around Auckland has so far experienced around three and a half years of feasting. This doesn't mean that it necessarily has one and a half years of feasting to come. The feast hasn’t lasted long enough yet to mean the next five years will inevitably bring famine. But with Auckland house prices set to continue to increase at an above average rate this year, it won't be too long until the upturn takes on full feast-like proportions that in the past have been precursors to famines and greater risk of downside at some stage.

The unfolding boom in Auckland house prices will itself play a part in driving the next famine.

There is a large and growing financial incentive for people to live in the rest of the country rather than Auckland, while the metrics are moving in favour of investors buying elsewhere. This link shows that there has been a massive increase in Aucklanders searching for property outside of Auckland. This will, most likely, include people searching for more affordable housing, retirees or near-retirees looking to sell Auckland property and buying elsewhere to fatten the retirement nest egg, and investors.

This link provides another example, related to Aucklanders buying new housing in Papamoa (Tauranga), which will partly reflect a response to super high Auckland section prices (adjacent chart).

Income for the average worker isn't dramatically higher in Auckland than in the rest of the country; certainly not in the context of how much more expensive housing is in Auckland.

If we view this in the context of people with young families (i.e. aged 35-39), the median income for Aucklanders (males and females) was $44,200 in the 2013 Census vs. $39,100 in Waikato and $35,800 in Bay of Plenty (i.e. Auckland was 13% above Waikato and 23% above Bay of Plenty). This compares to the Auckland median dwelling price reported by REINZ being 106% above the combined median dwelling price for Waikato and Bay of Plenty.

It is a similar story for relative section prices.

A strong financial incentive already exists for certain groups of Aucklanders to leave and for some would-be immigrants to Auckland from the rest of the country to be put off by unaffordable housing. The much larger increase in Auckland house prices than rents have also undermined rental yields and given investors reason to consider other markets.

People responding to such incentives will play a part in driving house price performances in Auckland vs. the rest of the country in the future.

As covered in our quarterly Auckland Barometer reports that cover prospects for house prices and residential building and in our monthly Housing Prospects reports that focus on the national outlook but also have coverage of house price prospects for 24 cities/districts, the Auckland boom is not over yet. Subscribers to these reports will get advance warning of the end of the boom, just as we provided clients with advance warning of when strong upside in Auckland house prices would start. 

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*Rodney Dickens is the managing director and chief research officer of Strategic Risk Analysis Limited.