There's good and bad news for house prices, and an emerging surprise.
The good news, of a sort, for the two-thirds of Australian households that are owner-occupiers is that average house prices have dropped less than in other countries. Here, the average for house prices fell by 3.3per cent last year.In the US, average house prices across 20 main cities have declined by about 19 per cent during the past year, while in Britain, Spain, New Zealand and Ireland the slump averaged about 10 per cent.
Our milder decline reflects, in part, the increases in interest rates announced by the Reserve Bank of Australia from mid-2002 that dampened the boom in house prices in some regions, notably Sydney. And the associated downturn in construction, at a time of high immigration, helped us to avoid the housing oversupply that's depressing house prices elsewhere.
My guess is that the downturn in average house prices in Australia will continue this year but it will remain mild, perhaps a further drop of 5 per cent overall. The parts of the housing market vulnerable to further price falls would appear to include some houses in up-market suburbs where earlier increases in house prices were well above the national average; some houses -- whether for owner-occupation or investment -- burdened by heavy borrowing; and many holiday houses.
As a result of the sharp drop in interest rates, the lower house prices and the temporary increase in government grants (to $21,000 on a newly constructed house)
for eligible first-home buyers, housing affordability has improved markedly during recent months.
As a result, and despite the increase in unemployment that is forecast, Australia could soon see an emerging recovery in house prices.
As Tony Meer and Philip O'Donaghoe from Deutsche Bank point out in a recent research report -- which I draw on heavily in this and the next three paragraphs -- Australia's housing cycle is driven more by interest rates and less by the state of the overall economy than is the case elsewhere. Our widespread use of variable interest rates is an important influence on this.
The choice between buying and renting has changed dramatically during the past six months.
The chart compares the payments (both capital and interest) required on the average new mortgage to the average payment required on new rental property.
During the very long term, it costs 35per cent more to buy than to rent.
From 2003 to 2007, the combination of increasing house prices and rising interest rates shifted the balance strongly in favour of renting.
Today, the average household can meet the costs of repaying its housing loan for about the same payments a month as it costs to rent. First-home buyers face a price incentive to buy rather to rent. As they do, some existing owner-occupiers will trade up, enabling the house price recovery to begin to spread out further.
The research also suggests that investors in housing are less motivated than first-home buyers when interest rates fall cyclically. And rental yields are not much of a motivating force.
Instead, investors are likelier to respond to the capital gains they observe, and extrapolate ahead, in the upswing stage of the housing market. Investors add momentum to the upswing in prices.
I draw these conclusions from what's happening to house prices at present: the average house price has still a little way to fall, but the slump in house prices here will remain much less than in other countries. But we are probably not far from an emerging recovery in the prices of houses purchased by first-home buyers, initiating ``trickle up'' effects.
At the same time, first-home buyers need to allow that interest rates on mortgages will not remain as low as at present. For investors, there's merit in taking a more counter-cyclical view on when to enter the market.
Don Stammer chairs Praemium Limited and the investment committee of INGIM's Portfolio Solutions Group. The views expressed are his alone.
