The Wrap: Housing, Office REITs & Banking

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Morgan Stanley's housing indicator fell in the September quarter; office property stocks may be in for downgrades; the shift towards digital banking continues.

-Softer demand outlook for housing
-Downside risk to Melbourne-exposed REITs
-The shift to digital banking continues
-Housing loans and responsible lending

By Angelique Thakur

Housing credit supply expected to improve

Regarding the housing market, Morgan Stanley is of the view the upcoming period will see a demand-driven cycle as opposed to the credit-driven cycle we witnessed in 2017-19.

This view has been corroborated by the findings of Morgan Stanley’s proprietary housing indicator – MSHAUS.

MSHAUS, a leading indicator for housing prices and building approvals, fell in the September quarter to -0.7 points. Morgan Stanley believes this suggests a softer housing market for the rest of 2020.

The indicator is made up of various components including demand-supply balance, rental conditions, mortgage serviceability, housing accessibility, credit supply and house price expectations.

The fall this quarter was primarily due to an increase in the net supply which in turn reflects the sharp decline in net migration – and consequently housing demand – due to the pandemic.

Morgan Stanley analysts expect the situation to persist while border restrictions are in place. The impact of declining migration was also seen on rental conditions, impacted by higher vacancies in Sydney and Melbourne.

Balancing the index are two of the other components – mortgage serviceability and credit supply.

Helped by a combination of income stimulus, payment holidays and rate cuts, mortgage serviceability is at its strongest since 2002, finds Morgan Stanley.

The other factor, credit supply, has been one of the key drivers of weakness over the last few years. While still soft, credit supply is expected to turn positive due to changes to responsible lending laws and a demand rebound seen from owner-occupier home loan customers.

Going ahead, the outlook for pricing is more balanced, suggests Morgan Stanley, with recent auctions even hinting some modest near-term upside to prices and a stable 2021.

Melbourne-exposed REITs

According to Morgan Stanley, the market may be too bullish on Melbourne-exposed property stocks. The broker highlights earnings expectations haven’t moved since August even though the Melbourne lockdown has gone on for a longer time than anticipated.

Vicinity Centres’ ((VCX)) exposure to Melbourne is 50% and the broker feels the REIT will earn only 55% of its contracted rent in the first half, down from 65%. For the second half of FY21, the rent expected to be collected dropped to 75% from 85%. 

Melbourne exposure for GPT Group ((GPT)) is 36% and Morgan Stanley expects rent collections for the group will be 60% of the total rent in the first half of FY21, rising to 80% in the second half.

While Waypoint REIT ((WPR)) and Arena REIT ((ARF)) have material exposure to the city, the triple net nature of their leases makes Morgan Stanley comfortable enough to leave its forecasts intact.

For the residential side of the market, Morgan Stanley is not worried at the moment. The HomeBuilder stimulus looks to have offset the lockdown impact with home sales in the September quarter about 19% higher than in the June quarter.

Unsurprisingly, Morgan Stanley chooses to maintain its Underweight rating on GPT Group and Vicinity Centres.

Branch numbers continue to reduce across banks

Branch numbers across banks are on a decline, according to APRA’s points of presence data numbers. To June 30, the total number of branches across the banking system fell by -141. This implies a -2% reduction and implies a continuation of the decline seen in recent years. 

Strangely, the onset of covid-19 seems to have slowed down the pace of the decline. JP Morgan analysts think another possible explanation could be the lease on some of the bank branches are long-dated.

All major banks saw a -2% reduction in branches with the exception of the Westpac Bank ((WBC)) although JP Morgan suspects this may be due to a re-classification related quirk.

JP Morgan analysts suggest falling branch numbers will help keep operating expenses flat for retail divisions. With more than 100 branches spread across Australia, JP Morgan believes both Westpac Bank and Commonwealth Bank ((CBA)) have the maximum scope to reduce their branches.

Some tailwinds aiding the shift towards smaller branch footprints are a rapid increase in digital banking and declining foot traffic in branches. A case in point is the total transactions (by value) that are being done digitally have gone up to 66% for the Commonwealth Bank, up from 52% in 2016.

The impact of repealing responsible lending

Repealing responsible lending laws may not stimulate housing credit as much as expected, concludes a study conducted by UBS to look into the impact the repealing of responsibility laws will have on the economy. The study was conducted post the government’s announcement seeking to repeal responsible lending laws.

The broker comes up with some interesting insights. According to UBS, the tightening of loan verification procedure may have slowed the lending process but the broker does not find any evidence to suggest credit was not available. The survey shows borrowers were able to access credit despite stricter verification.

Data from ABS shows owner-occupied housing lending rose by 29% in August to a record high of $16.2bn. Even after catering for some post lockdown catchup, UBS believes this figure points towards strong underlying housing lending.

Since there is little evidence of responsible lending constraining housing lending, UBS thinks its repeal will not lead to any material uptake in credit. The repeal may however speed up the approval process, adds the broker.

More importantly, the repeal will encourage banks to lend by reducing the risk of litigation.

There are pitfalls to repealing responsible lending, cautions UBS, which include an increase in the financial stability risk over the medium term especially since Australian households are already highly leveraged.

Supermarkets: strong online sales growth

The supermarket space is currently dominated by two themes, according to Macquarie analysts. One is the growth in online sales which has continued into the first half of FY21. Macquarie believes this will aid Woolworths ((WOW)) more than Coles ((COL)) owing to the latter’s investment with Ocado capping its online sales growth.

The other is the "shopping local" theme. Melbourne has seen the shop local trend continue under the lockdown. Macquarie notes the main beneficiary of this preference for local shopping is Metcash ((MTS)).

Heading into the final quarter of 2020, Macquarie expects stronger volumes growth to continue within supermarkets. The broker expects a record Christmas as gatherings resume in Victoria.

Analysing app and Google Trends for the supermarkets for the September quarter, Macquarie finds Coles has been losing traction online since August while Woolworths saw an uptick in October. Retail liquor continues to trend strongly with Dan Murphy the clear leader.

Macquarie retains its Outperform rating on Woolworths and expects strong performance across all divisions. The retailer had a strong start to the first quarter of the financial year due to its online sales growth and a successful Ooshies campaign (while Coles’ Little Treehouse Books campaign was not as popular).

Metcash is expected to benefit from strong sales in the hardware segment due to increased renovation activity and more time at home. Gains in the foods segment are expected to remain sticky in FY21. Macquarie rates Metcash as Outperform.

With its Little Treehouse promotion not resonating with customers and online sales lagging Woolworths, Coles has been downgraded to Neutral.

Consumer trends

According to data by Illion/AlphaBeta, home improvement spending remained elevated in Australia with spending during the week ending October 11 up 34% from 28% the week before that. The furniture and office segment saw sales up 33% from 28% on a weekly basis with Macquarie expecting growth in this segment to settle within the 20-30% range.

Analysing online search activity and Google Trends for the September quarter, Macquarie finds Wesfarmers is seeing strong momentum driven by Bunnings and Catch. Bunnings in particular stood out on Google Trends, notes Macquarie, in the home improvement segment.

Zip data shows garden and hardware segment was up 37% from 34% the prior week while spending on electronics rose 11%, down from 15%. Macquarie feels the electronics segment will be supported by a strong product pipeline during the Christmas period. With gatherings resuming in Melbourne, this segment is expected to get a further boost.

Macquarie finds spending in cafes, up 19% was flat versus the week ending October 4 but at its highest levels since July. Food Delivery remained strong with growth of 364%.

Macquarie retains its Outperform rating for JB Hi-Fi ((JBH)), Wesfarmers ((WES)), Woolworths ((WOW)), and Harvey Norman Holdings ((HVN)) and Coles.

Subdued construction outlook

Amid the ongoing covid-19 related uncertainty, the ANZ Bank research team expects private sector non-residential engineering construction to deteriorate over 2020-21 with businesses either deferring or cancelling investment commitments. This will lead to a slowdown in the development of new projects.

While the June quarter saw engineering construction work increasing across both private and public sectors, September quarter was a different story. Private sector non-residential work done fell -1.6% but the public sector non-residential building work done recorded a fall of -3.4%, the largest quarterly dip since 2016.

However, the pandemic alone is not to be blamed, says ANZ, since private investment was already falling, not only in Australia but across other developed economies. It looks like the pandemic merely accelerated the pace of the slowdown.

Adding to the woes, non-mining firms are planning to reduce their total capital expenditure by almost -20% in 2020-21. The mining sector has essentially shelved plans to increase mining capex throughout the sector with firms expecting flat growth.

Amid such bleak conditions, ANZ is pleased to see the federal budget 2020-21 focus has been on encouraging business investment. However, they admit the approach of trying to get the private sector to invest more rather than directly lift public spending is a risky move and could fizzle out if the private sector does not meet expectations.

Ultimately, it all comes down to the public sector to help fill the hole, concludes the team.

The government has announced a number of new and fast-tracked projects to help lift spending with capital spending revised up by $33.4bn for 2020-21 through to 2022-23. This puts the total spend as a percentage of GDP at 2.9% (just below the point reached post-GFC).

While the budget announced a slew of infrastructure investments, the analysts admit there are limitations to using infrastructure investment as short-term economic stimulus since these typically have long lag times. Instead, they consider spending on small-scale projects or maintenance works to be more realistic alternatives.

An example is the JobMaker Plan which was allocated $2bn over 2020-22 for small-scale road safety projects and upgrades. Another example is the Local Roads and Community Infrastructure Program that has been extended out to 2021-22 to the tune of $1bn.

With Western Australia the only state to have released its 2020-21 budget, ANZ expects to see more funding committed and even larger projects put forward.

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