A slowdown in the housing market is now becoming "entrenched", with rising mortgage rates set to be the biggest drag on the residential sector this year, according to Westpac chief economist Dominick Stephens.
However, Stephens said in the latest Westpac Home Truths economic note that he believed the impact of the Reserve Bank's 'speed limits' on high loan-to-value lending had probably already gone past its peak.
"We have had another round of data confirming that New Zealand’s housing market is firmly in slowdown mode," he said.
Real Estate Institute data for January showed, based on Westpac seasonally-adjusted figures, that house sales fell for the fourth month in a row, while the time taken to sell rose, Stephens said.
"This month we also saw the beginnings of weaker price data. The REINZ House Price Index fell in seasonally adjusted terms for the first time since April 2012. And Quotable Value’s monthly price index registered a sharp slowdown in the pace of price appreciation."
Stephens said he didn't think the housing market slowdown was "necessarily" going to become any more severe over the next couple of months. "If anything, we might see a small tick up in market turnover".
"...The impact of the RBNZ’s mortgage restrictions has probably passed its peak. Banks have reduced lending to people with small down payments by more than enough to meet the RBNZ’s requirements, and can now afford to increase lending a bit."
However, over the course of the year the Westpac economists expected rising mortgage rates to "become the biggest drag on the market".
"We expect floating mortgage rates will rise by about one percentage point this year [which would take them to around 6.75%], while fixed mortgage rates rise by a lesser increment. This will have the usual impacts – property investment will look less attractive, as will getting a mortgage instead of continuing to rent."
The Westpac economists have maintained their forecast of 6.5% house price inflation this year, down from 10% last year.
In talking about the recent run up of housing prices, Stephens reiterated and expanded on some of Westpac economists' earlier views that the real cause was lower interest rates rather than a supply problem.
"Housing markets can be affected by a variety of factors at different times – housing supply, population growth, interest rates, and taxation to name a few. Among the possible drivers, opinion in New Zealand seems to have zeroed in on housing shortages as the explanation for the house price run-up of 2012-2013," Stephens said.
'Didn't fit the evidence'
But this "physical shortages explanation" did not fit the evidence well, and did not explain recent year-to-year changes in the rate of house price inflation.
"Something else must be going on – and if we want to have a shot at correctly anticipating the next change in the housing market, we have to understand what it is.
"The supply-shortage story failed to predict the sudden acceleration in house price inflation of 2012. There was no corresponding change in the physical supply of houses versus population at that time (Auckland had been building too few new houses for years; the Canterbury earthquake occurred a year earlier; net migration ramped up a year later).
"This latest downturn is another housing market development that was not predicted by physical supply shortages. Net migration has accelerated recently, and although there has been some increase in construction activity, it has not been of sufficient magnitude to explain this housing market downturn.".
Predicting turns in the market
In contrast, Stephens said the economist had been able to predict major turns in the housing market over the past few years by focussing on financial factors such as mortgage rates.
"Back in mid-2012 we observed a very sharp decline in fixed mortgage rates, and correctly predicted that double-digit house price inflation would promptly ensue. That prediction was based on our Investment Value of Housing model [see chart below], which calculates the value of a median house to a property investor
"The investment value of a given property is sensitive to interest rates – the more cheaply an investor can borrow, the higher the price he/she can pay for a house while still realising a profit at a given level of rents. When interest rates fell sharply in 2012, our Investment Value model rose sharply. This was a valuable signal of house price inflation to come."
Stephens said the latest slowdown in the housing market had "played out similarly".
"There was a sharp increase in fixed mortgage rates beginning in August 2013. Our Investment Value model fell sharply, suggesting a market slowdown was around the corner. Around the same time the RBNZ introduced new mortgage lending rules that restricted the availability of credit to some aspiring buyers, and resulted in very large increases in the mortgage rates available to others – another financial factor that pointed in the direction of an imminent market slowdown."
25 Comments
Agree with most things, good to see someone else challenging the 'housing shortage' myth in auckland.
Rents in Auckland have not gone up much, the physical number of houses to population is not the issue.
The number of listings of houses for sale to number of active buyers in the market is the real 'supply-demand' that determines pressure on house prices.
No one wants to sell if they think next year their house will be worth 100k more. Everyone wants to buy if they think next year they will be paying 100k more. This simple dynamic is seen during every housing cycle, and is the dominant factor again this cycle.
If you look at trademe listing numbers per population you can see this correlation and the numbers are very interesting:
- Auckland has 9847 listings and population of 1.38 million = 140 people per listing.
This is a fairly high number of people per listing if you compare with. Eg Rotorua:
- Rotorua has 952 listings and population of 68900 = only 72 people per listing. So half the supply-demand dynamic as seen in auckland.
There are however cities so boring that they slip under the media radar, eg Palmerston North:
- Palmerston North has 489 listiings and population of 82,100 = 168 people per lisiting. Even more of a supply demand imbalance than auckland.
That's a good metric you're using there Simon. A quick way to guage housing supply. I find it rather amusing that Westpac have only just come to the conclusion that lowering the cost of credit increases credith growth (affordability) and hence house prices. However, demand will be much more elastic this time round as the interest rate cycle begins its uphill leg.
As a result of last year's interest rate movements in the US, mortgage applications are forecast to decline by 36% this year.
A sign of the times as high household debt results in the affordability void closing up quickly as servicing costs rise.
And the interest rate influence is also undeniable.
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Look at past cycle price graphs (rbnz), very similar so far, just scaled down a bit. Strong gains over 10%, then slowing down as interest rates move up, but still positive, i.e 5%, over next 3-4 years.
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We might be around the 2004 point of last cycle (peak yoy gains of last cycle). Interest rates increased from 2004 until 2008, and prices kept edging up (even at 10% floating). The early part of the cycle see's auckland price gains, before settling down. The later part of the cycle sees the provinces play catch up as property with higher yields become required by banks to compensate higher interest rates.
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Provinces like palmerston north, where the median house price is below the first home buyer price cap of 300k, and where yields and low prices make buying low risk, are due for a re-rating as PI's seek safer and better yielding property to buy with their significant equity gained over past 3 years from their auckland properties.
Interesting Simon, do you think that NZers will ever become prudent savers and not outrageous 140% of income borrowers and therefore able to fund themselves as many other countries have and have lesser interest rates as a result? - I dount it and its the borrowers who are the bleaters. . The decimated ones seems to be the borrowers coz the savers sure have been getting a great return and increasing their wealth....go figure
"We have maintained our forecast of 6.5% house price inflation this year, down from 10% last year."
6.5% this year on top of 10% last year?
That means a house that was worth $500K last year has gone up by $50,000 to $550K.
Another 6.5% this year adds $35,750 to that, giving a total of $85,750 increase in just 2 years.
If thats a "drag on the market" I'll take it everytime thank you very much .
6.5% growth is a good outlook for property owners. Still above the RB's preferred rate though. It will be intersting to see how the economists forecasts change as interest rates rise.
And it was 19% growth in West Auckland last year so another 6.5% this year will keep the westies very happy.
People, I'm really not feeling it (the article). They are argueing their Investment Value index predicted the 2012 rises in House Price, but I can't really see it on the graph. I just see something where two lines move up generally to the right, and in the detail sometimes go in opposite directions and sometimes go in the same direction. I wished they had published a measure of how well do the lines match, because I'm not seeing it.
Now, they further suggest that it is interest rates underlying it (reflected in their Investment Value Index), and while I don't have access to their fixed rates going back to 1990, I can get floating rates back to then from the Reserve Bank site, and I'm still not seeing it. Relationships to do with the flow of capital in and out of New Zealand seem like a better measure, because they are at least moving in unison with house prices most of the time.
Here is a graph of changes in house price (as a proportion of the amount of the previous quarter) against changes in interest rates (as a proportion of the amount of the previous quarter).
https://www.dropbox.com/s/v9fketotuohpnqu/houseVSinterest.png
Anyone feel like debating it is interest rates on the basis of that graph?
I still agree with them that there is not a lot of mathmatical evidence for it being supply though. However I think increasing supply may help.
Thanks, I'll go check things. I did do that just before bed, and may have plotted the raw change rather than the relative (which, as you noted, would drastically change the height of the variation). That said, the moves would be at the same times, and one thing that would be true regardless is that the two times house prices have decreased sharply, that has been matched by a following decrease in interest rates, so house prices are the leading indicator (though with only two events I wouldn't draw to many conclusions on the stength of that).
Check it, and what happened was it started in Excel from the Reserve Bank site, and I got caught by some format as percentage vs actual values as I transformed the data. I should have been more careful there. But, because this was looking at the pattern of up and downs, the height of the values doesn't actually make any difference to the results.
For anyone wanting to check my work I took the Reserve Bank key graphs data, and combined the mortgage rates and house prices tables to make this spreadsheet (csv format)
https://www.dropbox.com/s/rk9ad2o70yfr37r/rb.csv
And then checked the results by doing this:
https://www.dropbox.com/s/5fdqp0hv7t502wc/interestHouses.html
Since I was checking my work anyway, I included the fixed rates from the Reserve Bank (though it only lists them from 1998), as there is some interest in them. They are fractional better than floating rates (but still far worse than many other indicators).
I think a key thing looking at the results graphs (and it shows up clearer for humans in the indexed one, but in numeric terms the results don't make much difference for computers if they are scaled or not) is that at times of big movements in house prices up or down since 2000 interest rates changes follow house prices changes. While this is a reverse of everything everybody is traditional taught, I would suggest that the openness of the New Zealand economy and housing market means that both are reponding to external events and capital flows.
DH - the only historical info I can find is on the trading economics website.
There's Govt budgets, Govt debt to GDP etc. I have been searching the Treasury website but as yet haven't found anything that could be suitable.
http://www.tradingeconomics.com/new-zealand/government-debt-to-gdp
I've done a few comparisons. There is no particular relationship between bank interest rates and the Current Account Balance.
Then I took the NZ public debt figures from the World Bank and initially it looked like there was a really good negative relationship- the more the borrowing the lower the interest rates (or vis-versa). However, the World Bank data only begins in 2006, so I used amount of Government Bonds in the Marketplace (Jan 93 to Nov 13) as a proxy for a longer debt series (I checked that the two had the same pattern for when the dates were the same). This showed that there is no long-term pattern between government debt and interest rates, it is just that since 2008 interest rates have crashed while since 2010 government borrowing has exploded, and for that period of time there seems to be a relationship. Here is the graph so you can see what I'm talking about
https://www.dropbox.com/s/bcx8fd7nof1qymd/bondsAndInterest.png
I should add, I find the red line over the past four years a pretty horrifying indicator.
I found the actual public debt figures in the end, they are on the treasury site but the page they are on does not use the term public debt or government debt, so I only found them via a related links section on the Debt Management Office site:
http://www.nzdmo.govt.nz/publications/data
Which took me to Treasury's:
http://www.treasury.govt.nz/government/data
With the debt figures inside the spreadsheet Fiscal Time Series - Historical Fiscal Indicators 1972-2013.
The overall results actually match the bonds result- there is no relationship with bank interest rates except that in the past 4 years debt has shot up while interest rates have shot down, so it looks like a reverse relationship in that period. But I think interest rates would be at record lows based on international ability to borrow even if the government had not borrowed unprecidented amounts of money so would discard that as being a false correlation.
I think looking at longer term fixed might give you a better correlation. In mid 2012 you could get 5 year fixed at 5.99%. For an investor locking in for 5 years under 6% is very attractive, it gives them more confidence in buying property as they know what their expenses will be for the next 5 years.
5 year fixed now at least 1% higher, most around 7.2%.
Example:
- 300k property in 2012 returning gross yield of 6%, requires $346 rent per week to break even (ignoring extra costs of home ownership, rates, insurance, maintenance).
- 300k property in 2014 now requires gross yield of 7.2%, or $415 rent per week to break even.
- I.e Rents would require a 20% increase to make investing in the same property just as attractive on a cash flow basis. (assuming you could buy that same property at the same 2012 price...)
- Whats worse is in that time Auckland property prices have gone up 15-25% plus. So your 300k property returning 346 in 2012 is now a 360k property returning only slightly more than 346/week (say 360).
- Same calc on same property at 2014 value of 360k, gives required rent of $498 to break even, or a 44% increase over the 2012 rent.
- Basically, it no longer makes sense to buy investment properties in Auckland as a general rule, hence the move to secondary cities that have much higher yields and haven't been hampered by recent price appreciation as in auckland.
Looks legit to me. I worked out many months ago, and posted here, that it is impossible for NZ household debt to explain house price increases since 2002 (there is not enough debt borrowed to buy the houses) so the money has to be coming from elsewhere. For those interested that missed it, the one page summary is here:
https://www.dropbox.com/s/gpuhxvs4apfhz7s/bubbles.pdf
That said, I think (without reading his book or paying to go to a seminar) he may be overestimating the effect of China. While the recent Auckland buying has had a visible Chinese component, there has been money from Europe and America coming in as well (but people from America tend to underestimate what they are doing to other countries) from people wanting to stash assets. I suspect most of the 2002-2007 offshore money came from Australia, but that money is more sensitive to if Australia continues with allowing negative gearing on foreign property investments as it did from 2001. So I can't see it getting to 50%. 20% to 40% would be my range (worse in Auckland) if something triggers it. I'm not qualified to judge the likelyhood of a trigger event happening though, so have no particular opinion about his timetable or the likelyhood of that part happening.
DFTBA ....good article, thanks for the link.
However, it will all fall on "deaf ears" around here.....won't it "maaaaaates" :)
The issue I have is the "one eyed" view some PI's have about the property market (Auckland) ..... to me it is a "PONZI SCHEME" built on and saturated with cheap, "easy" overseas money..... our own mini version of QE !
Harry Dent is correct in saying if there is a bubble in China, and that bubble deflates or pops, it will affect Auckland, as those buyers will now be organising their property affairs in China, rather than purchasing a residential "bolt hole" in a far off land ...... and for their property in Auckland they will be looking for a "quick exit", to tidy affairs at home .... so wait for the "fire sale" bargains, as the Chinese hate to "lose face" and embarrass themselves with obvious financial losses.
Also, there are so many local "vested interests" in the property market .... banks, local government, the government itself (as so many MP's have residential property interests), lawyers, accountants, valuers etc etc .....sad really because all that energy, finance and time should be going in to create new business's and R&D to really get the NZ economy going ....but FAT CHANCE !!!! of that hahaha ...
Some of the expensive areas in China may experience a lost decade as Japan did. There is still 300 million chinese (population of USA) looking to move into urban china in next 10-20 years.
- They are relaxing the single child policy.
- A 'soft landing' in china where growth moderates, prehaps property bubbles deflate by staying the same in nominal terms over a long period of time, is more likely than a crash.
- Our dairy exports to china are not something that relies on massive capital expenditure or agressive china GDP growth to maintain. We will do fine during a China soft landing.
- Given the above I won't be putting any money on Dent's predictions. He has been wrong a lot (once saying the DOW would hit 40,000 in the 2000s).
Simon, it is unlikely China would experience sporadic "lost decades", it will be an all or nothing situation.
If China does go through economic turmoil, those hundreds of millions intending to move to urban areas are likely to look at the situation differently. People are capable of changing their minds. Remember, many of these predictions are based on China's current economic situation and don't account for the change in general sentiment if the situation changes.
Here is a graph of Auckland house prices and 4 indicators. Ignore the veritcal scale, this is just to show the relationships over time
https://www.dropbox.com/s/8xa9t1oermd9962/auck.png
The black line is Auckland house prices.
The green line is the inverse of fixed Mortgage rates, and it is a pretty good fit in this medium term series (a less good fit in a long term series because for the last few years mortgages have been in a pretty narrow band)
The red line is the value of mortgages taken out from banks. It is also a pretty good fit in shape. The trouble is that in 2012 and 2013 there was about 1.7 billion in extra money taken out in mortgages, but the value of NZ houses went up by around 80 billion, so that is not really enough to be playing a significant role. I would suggest it also means that NZ borrowings are following the overall trend rather than leading it, because they can't be.
The blue line, that is a pretty poor fit in the first part, but has been a great fit for the last 18 months is monthly Foreign Exchange turnover within New Zeland (described as Local in the Reserve Bank data). It is not officially a great fit because it is a poor fit before 2012, but if I smooth it out like the other data, it is a much better fit.
I would suggest anyone with early data about foreign exchange activity (like banks) could probably make some fairly accurate predictions about the Auckland housing market.
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