Two Rises is Enough

Market Wrap with John Edwards

What a difference a few months makes.

In early July 2009 the Governor of the Reserve Bank was still cautious but was noting that housing prices were moving upwards as were borrowings. He said "Economic conditions in Australia have been stronger than expected a few months ago", the spectre of increasing interest rates was starting to be a topic in our papers and thoughts. The First Home Buyers Grant had started to become less attractive as prices had now largely absorbed it. We were at the top of the growth cycle. By the 28th July our Governor was starting to recognise that we were not generating stock but just running up prices and potentially generating a problem. In his speech of that day he said "A very real challenge in the near term is the following: how to ensure that the ready availability and low cost of housing finance is translated into more dwellings, not just higher prices."

By the 4th August the tone was clearly starting to change.

"The Board's judgment is that the present accommodative setting of monetary policy is appropriate given the economy's circumstances. The Board will continue to monitor how economic and financial conditions unfold and how they impinge on prospects for sustainable growth in economic activity and achieving the inflation target."

The RBA was starting to assess and speak about the "appropriateness" of the then current monetary policy. Our newspapers through the eyes of the expert economists started to clearly indicate that interest rate increases are on the horizon. They were at this stage also starting to speak and warn of a "bubble" developing in the housing market.

In September the RBA release said "The Board's judgement is that the present accommodative setting of monetary policy remains appropriate for the time being." The critical words being "for the time being." The population was being primed for an increase and our media were warning us to be ready for an increase, as better than expected economic data unfolded.

In October it happened and again in November with a 0.25% increase. So let's look at the housing market over the same period. See the graph above.

Until the 30th of September 2009, first home buyers were eligible for a government grant of $14,000 when purchasing an existing residential premises and $21,000 for a new house. That grant was scaled back to $10,500 for existing homes and $14,000 for new homes. It will be reduced further to $7,000 for existing homes and $10,000 for new homes on December 31.

It is clear that the RBA's potentially greatest tool is probably not just the blunt weapon, interest rate increases but the spectre of its use.

The slowing of values occurred almost immediately that the threat of rising rates began to surface. Yes there were also other things like the "run off" of Government's spending spree via cash handouts but you can't escape the evident relationship between the adjustment in growth rate and the RBA rhetoric and actions.

The one thing, which is very important in all of this is the fact that the market did react relatively quickly to the early May announcement but took considerable time to gather a full head of steam. Having moved forward it took very little to dampen the markets activity. The market could not be described as anything other than fragile. Yes demand is there and there is a shortage of new stock and so actions which deliver affordability drive it forward. Diminish affordability and it quickly slows which is what is happening.

In my view, there should be no further interest rate increase for the moment until employment picks up. I am looking for a period of increases in the permanent employment numbers, not overall numbers which are influenced by part time positions. I suspect that market forces (affordability) will take care of any potential excessive growth in the housing market and that coupled with further rhetoric from the RBA it will achieve their objective. It does not provide supply, but action to assist developers accessing credit and low interest rates will assist them in delivering lower cost product.

The slowing of the market has brought a return to growth in the rental cost of housing. At this stage it is almost not measurable other than the fact that there are no further falls in rental prices. Rental yields on an annual basis are now all but stable and in some markets providing some growth. This is against a background of house price growth in the last 12 months. Additionally, in some markets there are small increases. These characteristics of rental yields, I can almost guarantee will be a feature of the next 12 months.

Yes, there is a slowing in growth in our markets but it must happen as Government brought forward growth and condensed it into a few short months to maintain economic activity. Provided that interest rates are not advanced by more than about 0.5% there should not be any negative adjustments in housing prices across Australia.

Table 1 presents the growth rates for Australia for the month of October 2009. Melbourne is indicating that it is becoming very sensitive to interest rate increases due to affordability issues. These same issues are seen in the ACT and Sydney due to chronic supply issues, while unaffordability and slowing growth is more seasoned and not presenting the same level of volatility.

As can be seen from the best performers last year in Table 2, clearly no matter what happens there will always be areas which move forward strongly and provide investors with opportunity. It is imperative that in making our investment in this climate, we look forward not to the present or the recent past. We should focus on suburbs that are about to move forward.

On Wednesday the 25th November 2009 from 6 to 9pm, I will deliver a presentation on the current state of the market and how we identify these potential investment areas and show how you can research in th same way as we do in Residex with the aid of our research material. It is a small, private get-together of about 30 people in the CBD of Sydney, which be taped and the DVD entitled "The Housing Market's Future Revealed" will be made available in time for Christmas. If you want to be part of this small audience please call Barbara or Frank on 02 9954 1199 to get details and book your place. The cost of attending will be $75 but you will get the opportunity to ask questions and will be sent your own copy of the DVD free of charge when it is issued in early December. If you are not one of the fortunate people that can attend this, you may buy a DVD of this presentation by e-mailing mailto:info@residex.com.au?subject=DVD%20of%20Presentation

I hope to see you and answer your questions.

John Edwards, CEO