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Australia’s House Prices Must Fall

Australia | Jan 15 2009

By Andrew Nelson

On the surface, yesterday’s Australian housing finance read showed an unexpected stabilisation on the back of a surge in first home buyer demand. But dig a little deeper and you’ll see the outlook for construction and investment is still very weak.

After increasing for two consecutive months, the total value of housing finance approvals, excluding refinancing, fell by 1.2% in November to $13.57bn. The total value of new loans committed for housing fell 1.4% in November to be 23.8% lower over the year. Within these numbers, the recovery in demand from owner occupiers that started in September extended further.

All up, the total number of owner occupiers approvals rose by 1.3% in the month, which was better than the 1% that was expected by the market and outstrips the 0.8% rise in October, and it almost keeps pace with the 1.7% advance in September.

The most remarkable aspect of the report, however, is how much effect the boost to the first home buyers (FHB) grant has had. In conjunction with softening house prices and interest rate cuts, first home buyers flooded into the market at near record pace. Approvals for FHB surged 17.8% in the month alone. However, while the absolute level of FHB approvals is still well below previous peaks, the reported 34.4% FHB share of new loans is at a record high.

Overall, November housing lending showed a moderate fall and it was driven by a drop in investors. UBS notes that lending to investors dropped by 6.1% in November and was down 27.3% on a year on year basis. Volatile new dwellings numbers fell another 7.4% to be down 33.1% year on year and down a very sharp 46.4% since July.

In the broker’s view, the trend over recent months still suggests some stabilisation. However, surging first-home owner trends can keep offsetting the withdrawal of investors. The good news is the record low fixed rate share of borrowing also suggests that households will very quickly get the cash-flow benefit of recent and expected RBA rate cuts.

GSJB Were is of a similar opinion, saying there are increasing signs that housing finance approvals are stabilising after being in significant decline for the best part of the past 12 months. The broker points out that its favoured measure of approvals is running at just 1.4% of the stock of mortgage credit. Roughly speaking and making some allowance for reduced mortgage prepayment on weaker housing turnover, this measure is consistent with mortgage credit growth annualising at around 6%, says the broker.

But let’s take a look at this from another angle, Cresit Suisse’s angle. The Swiss broker is of the opinion that Australian housing approvals have continued their downward trend and it can’t see where any recovery in domestic, especially private sector, housing can occur. The broker thinks any significant housing improvement before the second half of calendar 2009 appears optimistic.

The broker notes approvals were 9,581 units in November, 12.8% below October levels. The decline was driven by weakness across both private housing and apartments. On the broker’s numbers, if you were to annualise November approvals it would imply 115k or 110k starts, which would be the lowest level since March 2001, before the GST.

Citi sums up its position quite simply, but effectively: “We have turned from very cautious to outright bearish on Aussie housing.” The broker notes that national prices have started to drop, and approvals are showing the US-style cliff-diving that has characterised the last 18 months of turbulence in all markets.

The broker believes there is not only negative momentum in Aussie housing, but it has actually gained traction and will be tough to reverse. This view sees the broker cut it expectations for Aussie starts to 110k-120k for CY09-10 (from 140k-145k). This would be just below the 25-year low of 120k. And the real bad news is this is the broker’s best base-case, not worst-case scenario.

Private house approvals were down 10% and have already fallen 21% this financial year. New construction of single family homes fell 27% over the twelve months, while other dwelling approvals were 22% lower and are now 51% lower on a year on year basis. GSJB Were thinks these numbers suggest that weakness in residential construction is likely to intensify in the near-term.

Interestingly, the broker thinks the recent finance approvals data for owner occupier construction are nowhere near as negative as private sector house building approvals and this suggests that the fall in approvals has been due to the developer side of the market rather than owner occupiers. But regardless of who is to blame and despite rate cuts and subsidies, the market has deteriorated further.

And now for the catch-22, the higher house prices go, the bigger the problem we have, but the lower that house prices go, the bigger problem we have. Citi notes that the current home price is over 6x income and this makes Australia a global leader in unaffordability. The broker points out the US housing bubble peaked at a mere 4x income. But, If price falls exceed 15-20%, starts could drop considerably below their prior lows. Low rates may help for a while, says Citi, but they’re not a  not a cure-call and rational buyers will not bid up housing price just based on today’s low rates.

Citi points to ABS data that show a lot of spare housing that has been overlooked over the last six months by those making claims of a huge shortage in housing that must support housing prices in the years ahead. However, Citi notes that about 9% of total housing stock is currently unoccupied and also, the average household has 2.5 people, but has 3.1 bedrooms. That makes for a hell of a lot of spare accommodation to be soaked up.

In fact, the broker thinks that as economic hardship deepens, many second homes will likely hit the market, while family downsizing will also release extra homes.

The message is clear, house prices must fall and until then, starts and finance will continue to decline. As they decline, building approvals will continue to fall and woe betide home builders and their material suppliers. Deutsche Bank thinks housing credit is likely to continue growing around 0.4/0.5% per month, or about 5-6% on an annual pace. This would be the slowest rate seen in the near 35 year life of the private sector credit numbers.

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