Warwick Petschack

AMP Capital through its Select Property Portfolio No.3, and the Galileo Group today announced the Sulman Penthouse, in the exclusive The Residence Hyde Park, had sold for $17 million to a private buyer.

This sets the new record as the highest price paid for a single apartment in Australia.

AMP Capital Select Property Portfolio Fund Manager Warwick Petschack said the unique nature of the development had resulted in the record breaking sale.

“The Residence Hyde Park is an award-winning residential development that has set new standards for luxury living.

“We are very pleased with the sale of the Sulman Penthouse, which is the eleventh high end apartment sold within the development this year alone,” Mr Petschack said.

The Sulman Penthouse is the pinnacle of luxury, with the main living, three bedrooms plus study and enormous wrap around terraces sprawling across one whole level. Above the living area is the private roof garden, separate kitchen, pool and spa, all providing panoramic views across Hyde Park, the Opera House and Sydney Harbour. The sale was brokered by Nigel Napoli, Divisional Director Savills Residential Projects.

Galileo Group’s Managing Director Neil Werrett said the sale was the result of intense interest in the apartment over the last month.

“This is arguably Australia’s most outstanding apartment and the buyer has secured a truly unique opportunity within the Sydney prestige real estate market,” Mr Werrett said.

Located at 18 College Street, next to Sydney Grammar School, The Residence features a concierge service and a range of facilities including a gym, 20 metre lap pool and temperature controlled wine room.

The Residence was completed in late 2012 and is one of Sydney’s most prestigious and sought after residential addresses. There are only two apartments still available, including the Archibald Penthouse which enjoys similar amenity to the Sulman Penthouse with three bedrooms, luxurious indoor/outdoor living areas and a private rooftop terrace featuring separate kitchen, pool and spa areas. The Archibald Penthouse is available for sale through co-ordinating agent CBRE’s Ben Stewart at a price of $16 million.

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What does it all mean?

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The big picture

• There is an old adage in economics – there are lies, damned lies and statistics. And when it comes to the issue of housing valuations and affordability, there is a lot of data that can be categorised in the two former terms and much less in the latter.
• As we go across the country we are amazed at the number of people concerned that our home prices are overvalued. Magazines like The Economist must take some of the blame, together with web sites like Demographia and even some industry groups like the Housing Industry Association.
• Home prices in Australia are determined by demand and supply. In recent years demand has been strong, driven by the biggest in-bound migration in history. But in some parts of the country, supply – new dwelling construction – has not kept pace. In large part this has been in NSW as well as Queensland. In other parts of the country, governments have increased land supply, reduced barriers for developers and rezoned land for housing. And as a result dwelling starts are running above long-term averages.
• The Reserve Bank Governor was asked a question on Australian home prices when he delivered a speech in London on March 10. The comments weren’t well reported, but he highlighted the fact that home prices aren’t rising strongly at present, that arrears rates on mortgages are low, gearing isn’t high and that, overall, home prices “are probably not top of my list of worries.”
• However Glenn Stevens did say something else: “But I think – the other thing I’ll say is that it’s quite often quoted very high ratios of price to income for Australia, but if you get the broadest measures, a country-wide price and a country-wide measure of income, the ratio is about 4 ½ and it hasn’t moved much either way for 10 years. And that is higher than it used to be, but it’s actually not exceptional by a global standard as far as I can see.”
• What he was quoting here was the analysis by Rismark International and RP Data on housing affordability. To measure home affordability you need to compare all incomes across Australia with all home prices across Australia – city and regional. Unfortunately a raft of industry bodies don’t do that and it produces spurious outcomes.
• The bottom-line is that Australian home prices aren’t so extraordinary after all. Once foreign investors start focussing on the facts rather than fiction then perhaps a few more dollars will start flowing Down Under. Because it is a concern abroad, and it’s not being helped by misinformation.

The week ahead

• Most of the ‘top-shelf’ economic indicators aren’t released until late in the coming week. But there is still a good spattering of indicators for investors to focus on in the next few days. And in the US, the main game is also late in the week with data on employment (non-farm payrolls) on Friday.
• On Tuesday, Reserve Bank Assistant Governor Malcolm Edey will speak at a credit/debit cards conference while population data will be released the same day. Population growth has slowed markedly over the past 18-months, easing from a 40-year high of 2.2 per cent to 1.7 per cent. Australia’s population growth is still one of the fastest rates in the world, but arguably it should be higher given our tight job market and urgent need for skilled migrants. Australia has been poorly served by political debate on migration.
• On Wednesday, the Department of Education, Employment and Workplace Relations releases data on skilled job vacancies while the Bureau of Statistics releases broader data on job vacancies. The job market is tight, but the Reserve Bank says it isn’t overly tight. Home sales data for February is also issued.
• On Thursday, February data on retail sales, building approvals and lending (private sector credit) are released. Retail spending certainly hasn’t been flash of late, up 0.4 per cent in January and up 1.8 per cent over the year – below the rate of inflation. But the Commonwealth Bank Business Sales Indicator lifted in February, and as a result we tip a 0.6 per cent increase in retail trade in the month.
• And building approvals have also been weak, although the Queensland floods and cyclone make analysis tougher. Approvals slumped by 15.9 per cent in January, although we expect a modest 4 per cent lift in February. The floods will depress readings on approvals in the short-term but boost data from mid-year.
• In the US, most investors will only have eyes for one indicator – non-farm payrolls (or employment) to be released on Friday. The job market is clearly picking up with new claims for unemployment insurance sliding. In fact the four-week average of claims is the lowest since July 2008. Economists tip a rise in non-farm payrolls of around 180,000 in March after gains of 192,000 in February. But the jobless rate is expected to remain high near 8.9 per cent.
• The other indicator that will be in focus is the ISM manufacturing gauge for March, also released on Friday. The gauge stands at 61.4 – a reading that hasn’t been surpassed in just over 27 years – so it is clear that a solid economic recovery is underway. Economists tip a March ISM reading near 61.6.
• Of the other indicators, personal income and spending data are released on Monday together with pending home sales. On Tuesday, the Standard & Poor’s/Case-Shiller home price index is released together with consumer confidence. On Wednesday the ADP employment index is issued together with the Challenger job layoffs series. On Thursday regional purchasing manger surveys are released in New York and Chicago together with data on factory orders. And on Friday car sales figures are released.
• Australian investors will also closely watch the Chinese purchasing managers survey on Friday.

Sharemarket

• CommSec has adjusted its forecasts for the All Ordinaries/ASX 200 for the remainder of the year. The Japanese earthquake, tsunami and nuclear shock have clearly had a depressing influence on investor confidence together with air strikes against Libya. Separately, foreign investors remain cold on the Australian market. Our economy is treading water and both the mining resource rent tax and proposed carbon tax are seen to have depressed the outlook for the economy. The high Australian dollar is also crimping foreign interest in our sharemarket. Sure, China continues to expand, boosting earnings and profits for resource companies. But mining represents just 9 per cent of the economy. It is the other 91 per cent that investors are worried about.
• We now expect the All Ordinaries/ASX 200 to be around 4,900 points mid-year and 5,200 points by the end of the year. Our expectation of a softer Australian dollar in the second half of 2011 (US92 cents by end year) should boost interest of foreign investors – a group owning 40-45 per cent of our shares. And high corporate profits do point to a firmer sharemarket as well.

Interest rates, currencies & commodities

• The Japanese nuclear shock has certainly thrown the spotlight on energy prices. Most would have expected that uranium prices would have weakened in response to the problems experienced by a number of Japanese nuclear plants. And certainly that has been the case with the spot U308 price down from around US$73 a pound to US$60 a pound in the past few weeks. But its worth pointing out that the current price is well up from recent lows of US$40 a pound in June last year and most nuclear plants still are tied to longer-term price contracts.
• The price of competing natural gas has lifted from US$3.75/mmbtu to US$4.25/mmbtu, but this is still in the middle of the US$3.25-5.25/mmbtu range over the past year. And the price of the other fuel that Japan could switch to – thermal coal – has actually fallen by 4 per cent since the earthquake. Still Tohoku Electric Power had to suspend its coal imports because of earthquake damage. The longer-term outlook is more positive, especially given that Germany has decided to suspend seven nuclear reactors and plans by other countries are also under review. And this longer-term outlook is an important consideration for investors in the energy sector.

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• Capital city home prices were unchanged in seasonally adjusted terms in February after a 1.5 per cent slide in the prior month according to the RP Data-Rismark Hedonic Australian Home Value Index – the largest property database in Australia. Outside capital cities, prices fell by 0.5 per cent in February.
• Capital city home prices are up just 0.8 per cent on a year ago – the slowest growth rate in 23 months. Prices in the ‘Rest of State’ markets were up down 0.2 per cent in annualised terms.=
• Prices rose in just three of the seven capital cities in February with Canberra prices up 1.9 per cent, followed by Sydney up 0.6 per cent, and Melbourne up 0.1 per cent).Prices fell most in Darwin (down 6.7 per cent), followed by Brisbane (down 1.2 per cent).
• Prices are higher than a year ago in all capital cities except Perth, Darwin and Brisbane.

What does it all mean?

• Australian home prices are effectively going nowhere. In March 2010, prices were seemingly going gangbusters with annual growth standing at 14.1 per cent. But home prices are now tracking at a 0.8 per cent annual rate – the lowest growth rate in almost two years and well below the long-term average pace of 8.0 per cent.
• Effectively you can strike another item off the Reserve Bank’s worry list. The rate hikes delivered over 2010 have taken the heat out of the housing market ensuring that the normal supply-demand fundamentals are ruling the roost across capital city housing markets.
• Interestingly there are marked differences in home prices across the nation and it is a similar story when you look at rental yields. States like NSW has seen a significant amount of under building compared to the likes Victoria however the lack of supply – lower vacancy rates – in NSW has resulted in higher rental yields on offer.
• It is likely that housing conditions will remain soft in the near term, however the long term fundamentals certainly look more attractive Importantly the longer term fundamentals for the housing sector remains sound. More importantly as the Reserve Bank Governor has highlighted on many an occasion housing affordability has remained relatively stable over the last decade. And RP Data & Rismark has also added further weight to this argument noting that real wage gains over the past decade has ensured that affordability remains sound. In fact Australia’s dwelling price-to-disposable income ratio was at 4½ times at the end of 2010 and has not significantly changed since the end of the last property cycle in 2003.

• It is important to highlight that while the housing sector is cooling it is not about to collapse in a heap. Overall CommSec expects house prices to consolidate over the next few months, but for the year as a whole we would expect prices to lift by 5 per cent. The Reserve Bank is likely to remain on the interest rate sidelines in the near term, while healthy jobs growth, rising population and sliding rental vacancy rates will support housing activity in the medium term.

What do the figures show?

House price prices

• The RP Data-Rismark Hedonic Australian Home Value Index was unchanged in February after a 1.5 per cent fall in the previous month.
• House prices fell by 0.4 per cent in the month while apartments rose by 0.5 per cent.
• Capital city home (dwelling) prices are up 0.8 per cent on a year ago, the slowest growth rate in 23 months. House prices are up 0.2 per cent and apartment prices are up by 2.4 per cent.
• Prices rose in three of the seven capital cities in February with Canberra prices up 1.9 per cent, followed by Sydney (up 0.6 per cent), and Melbourne (up 0.1 per cent). Across the other cities prices fell most in Darwin (down 6.7 per cent), Brisbane (down 1.2 per cent), and both Perth and Adelaide (down 0.4 per cent). In Hobart, prices fell by 7.4 per cent in January (February data not yet available).
• Home prices are higher than a year ago across all capital cities except in Brisbane (down 5.3 per cent), Darwin (down 5.2 per cent) and Perth (down 4.1 per cent). Prices are up most in Sydney (up 3.3 per cent), followed by Melbourne (up 2.5 per cent), Canberra (up 0.7 per cent), and Adelaide (up 0.6 per cent).
• February home prices aren’t available yet for Hobart. In the year to January, home prices in Hobart were down by 4.1 per cent.

What is the importance of the economic data?

• The RP Data-Rismark Hedonic Australian Home Value Index is based on Australia’s biggest property database covering more than 340,000 sales during 2010. Unlike the ABS Index, which excludes terraces, semidetached homes and apartments, the RP Data-Rismark Hedonic Index includes all properties.
• The monthly RP Data-Rismark Hedonic Index compares month-to-month index results. Quarterly results are measured comparing end months rather than averaging each month in the quarter. For example, the first quarter of 2009 index results would compare the end of March index with the end of December index.

What are the implications for interest rates and investors?

• The rate hikes have certainly taken their toll on the housing sector over the past year and unfortunately for the sector it is unlikely that a turnaround is going to take place anytime soon. Overall CommSec expects house prices to consolidate over the next few months, but for the year as a whole we would expect prices to lift by 5 per cent.
• A softening in home prices combined with the prospect of interest rates remaining unchanged until mid year is clearly positive for budding home buyers. Less doom and gloom stories about interest rates and unsustainable home prices will be beneficial for consumer sentiment more generally.

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• Chinese consumer prices rose at a 5.1 per cent annual pace in November – the fastest pace in over two years but driven by higher food prices. Non-food inflation was just 1.9 per cent in November. China is using sales of state food reserves in an effort to cap food prices.
• Annual growth rates for industrial production and investment were slightly above market expectations but the latest data on retail sales was broadly in line with the consensus view. Chinese authorities are continuing to achieve success in controlling property prices.
• Ahead of the release of the data, the Peoples Bank of China increased bank reserve requirements for the third time in a month, with ratios lifted by 50 basis points, effective December 20.

What does it all mean?

• In Australia the Government and Reserve Bank would largely be powerless to address a sharp lift in food prices. They would conclude that the vagaries of weather are outside their control and lifting interest rates would be largely pointless given that inflation wasn’t generated by the strength of the economy. But in China, authorities take a different view. Food represents a bigger share of the household budget and authorities are also keen to prevent consumers becoming disaffected by higher living costs.
• So Chinese authorities are releasing state food reserves to keep a cap on food prices. And it is reported that the State Council is boosting efforts to increase the production of vegetables and other basic goods. The central bank is also determined to keep the broader economy in check, increasing bank reserve requirements for the third time in a space of a month. A lift in interest rates over the next few weeks also can’t be ruled out, but arguably production and retail sales are growing at sustainable rates and property inflation continues to moderate.
• Contrary to the belief of many investors, the fact that Chinese authorities are determined to restrain inflationary pressures is a positive, not a negative development. A much more negative development would be if inflation was allowed to grow unchecked. The main concern is if the authorities overdo the efforts to tighten the economy.
• Chinese authorities are continuing to achieve success in controlling property prices. Prices lifted just 0.3 per cent in November and the annual rate slowed to 7.7 per cent in November.
• China is Australia’s major trading partner. And we have reached the point where if China sneezes then Australia would be at the risk of developing a cold. Clearly the Chinese economy remains in strong shape but the battle over inflation is the main issue to watch.

What do the figures show?

• The annual rate of consumer price Inflation lifted from 4.4 per cent in October to a 28-month high of 5.1 per cent in November due to higher food costs (consensus 4.7 per cent). Food prices rose by 11.7 per cent over the year while non-food prices rose by just 1.9 per cent.
• The annual rate of producer price inflation rose from 5.0 per cent to 6.1 per cent in November (consensus 5.1 per cent) in response to higher costs for raw materials like cotton, fuel and cement.
• Industrial output expanded at a 13.3 per cent annual pace in November, up from the 13-month low of 13.1 per cent in October (consensus 13.0 per cent). Production is still well off the highs of 20.7 per cent annual growth in January/February.
• China’s urban fixed asset investment, such as spending on roads and power plants, grew at a 24.9 per cent annual pace in the 11 months to November (consensus 24.3 per cent), and up from 24.4 per cent over the 10 months to October.
• Retail sales grew at an 18.7 per cent annual rate in November (consensus 18.8 per cent), up from the 18.7 per cent annual pace in the year to October.
• Broad money supply (M2) rose at a 19.5 per cent annual rate in November, the fastest pace in six months.
• Chinese property prices slowed again in November. Urban property prices rose by 7.7 per cent in the year to November, down from 8.6 per cent in the year to October, and the 12.8 per cent peak in April.
• In November alone, property prices rose by 0.3 per cent after a 0.2 per cent lift in October.
• In the first 11 months of 2010, new property sales were up 9.8 per cent, up from 9.1 per cent in the first 10 months of the year.

What is the importance of the economic data?

• China’s National Bureau of Statistics releases its monthly economic statistics around the middle of each month. Quarterly GDP data is released around the 16th of January, April, July and October. China is Australia’s largest trading partner and changes in the Chinese economic have major implications for the Aussie economy.

What are the implications for interest rates and investors?

• Investors are worried about rising inflation in China. While the main issue is higher food prices – a temporary situation and outside central bank control – investors are worried that higher inflation may become entrenched. There also is the concern that authorities may make policy mistakes – either tightening policy too much or not enough.
• The Chinese economy continues to expand at a firm clip but growth rates of investment, retail sales and production are well off highs earlier in the year. Australia’s Reserve Bank will certainly keep a close eye on developments in China but there are no major concerns at present. The main focus is the efforts to keep inflation in check.

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• New dwelling approvals rose for the first time in seven months – up 9.3 per cent in October.
• The RP Data-Rismark Hedonic Australian Home Value Index – the largest property database in Australia – reported that home prices rose by 0.3 per cent seasonally adjusted terms in October. House prices outside capital cities eased by 0.1 per cent in the month.
• Capital city home prices are up 6.5 per cent on a year ago while prices in the ‘Rest of State’ markets are up just 2.4 per cent.
• Private sector credit rose by only 0.1 per cent in October, largely driven by weakness in business credit which fell by 0.8 per cent in the month. Credit growth stands 2.8 per cent higher over the year.
• The broad measure of Australia’s external position – the current account – worsened markedly in the September quarter. The current account deficit widened by $2.4 billion to $7.8 billion in the September quarter.
• Overall CommSec expects that the economy grew by around 0.5 per cent in the September quarter.

What does it all mean?

• The release of five economic indicators has certainly given economists and analysts a lot to ponder. And at first glance the data certainly paints a mixed picture of the Australian economy. House prices and building approvals recorded a healthy rebound, while private sector credit remains sluggish, and the current account deficit widened.
• The improvement in building approvals is certainly encouraging but needs to be put in context. Dwelling approvals have slumped by over 30 per cent in the past six months and the latest rebound is mostly all apartment approvals, which tend to be lumpy. A few more months of rising approvals will be needed to claim a turnaround.
• Even the rise in property prices is the first in five months. Clearly the interest rate hikes have taken some of the steam out of the housing sector and a consolidation period will remain part of the landscape in the near term. It is important to highlight that while the housing sector is cooling it is not about to collapse in a heap. Overall CommSec expects house prices to consolidate over the next few months, but for the year as a whole we would expect prices to lift by 5-8 per cent.

• Given that all the backward looking data that plugs into the economic growth calculations has now been released, focus will turn to the tomorrows growth result. Overall CommSec expects that growth is likely to be around 0.5 per cent for the quarter – good but not great. The data on Government finances suggest that the public sector added to economic growth in the September quarter but was offset by the slide in net exports which is expected to detract 0.4 percentage points to GDP.
• There is no doubt that the domestic economy is limping along at present. Activity has been subdued with consumers keeping a tight rein on spending, while domestic businesses are also feeling the pinch of higher interest rates. In fact the latest data on private sector credit confirms that the business sector remains cautious and unwilling to borrow. Business credit has slumped for four straight months and is down over three per cent on a year ago. Until the conservative mood of Australians changes, the economy will continual to struggle and the Reserve Bank will stay on the interest rate sidelines.

What do the figures show?

Building Approvals:

• New dwelling approvals have risen for the first time in seven months, up 9.3 per cent in October. Dwelling approvals are up just 1.2 per cent on levels of a year ago.
• House approvals rose by 1.9 per cent in October (private sector up 1.5 per cent), after sliding by 1.2 per cent in September. Apartment approvals rose by 24.5 per cent in October (private sector was up 23.6 per cent) after sliding by 12.7 per cent in September. In annual terms apartment approvals are up 61.6 per cent on a year ago.
• The value of building approvals rose by 4.1 per cent in October and was lower by 18.4 per cent on a year ago.

House Prices

• The RP Data-Rismark Hedonic Australian Home Value Index rose by 0.3 per cent in seasonally adjusted terms in October, following the 0.1 per cent drop in the previous month. The monthly growth rate peaked in January at 1.7 per cent and has consistently softened since.
• House prices rose by 0.7 in the month while apartments rose 0.5 per cent.
• Home (dwelling) prices are up 6.5 per cent on a year ago with house prices up 6.4 per cent and apartment prices up 6.8 per cent.
• The biggest fall in home prices occurred in Perth (down 1.8 per cent), followed by Brisbane (down 0.2 per cent). Prices rose the most in Canberra (up 1.8 per cent), followed Darwin (up 1.7 per cent), Adelaide (up 0.9 per cent), and Sydney and Melbourne (down 0.6 per cent).
• Home prices are higher than a year ago across all capital cities but Perth (down 1.8 per cent) and Brisbane (down 0.7 per cent). Leading the way is Darwin (up 10.8 per cent), followed by Melbourne (10.7 per cent), Canberra (up 9.6 per cent), Sydney (up 8.4 per cent), and Adelaide (up 5.5 per cent).

Private sector credit

• Private sector credit (lending) rose by just 0.1 per cent in October after a flat result in September. Credit growth is up 3.3 per cent on a year ago.
• Housing credit grew by 0.5 per cent with lending to owner-occupiers up 0.6 per cent and investor housing up 0.5 per cent. Housing credit is up 7.7 per cent on a year ago. Owner occupier housing credit is up 7.5 per cent on a year ago – slowest pace in records going back 20 years. Investor housing lending remained up 8.1 per cent on a year ago – a two year high.
• Personal credit rose by 0.2 per cent in October after rising by 0.4 per cent in September. Other personal credit was up 2.4 per cent over the year. Business credit fell again in October, down 0.8 per cent after a similar fall in September. Business credit is down 3.2 per cent on a year ago.

Government Finances
Government consumption spending rose by 0.5 per cent in the September quarter after a 1.8 per cent lift in the June quarter. But public investment was up 1.9 per cent in the September quarter after remaining flat in the June quarter. General government investment rose 1.6 per cent in the quarter while spending by public corporations rose by 2.7 per cent.
Balance of Payments

• The broad measure of Australia’s external position – the current account – worsened markedly in the September quarter. The current account deficit widened by $2.4 billion to$7.8 billion in the September quarter. The balance of goods and services moderated from a surplus of $6.6 billion to a surplus of $5.8 billion. And the net income deficit widened by $1.7 billion to a deficit of $13.2 billion.
• In the September quarter exports of goods and services fell by 1.2 per cent, outpacing a 0.2 per cent fall in imports.
• The trade sector (exports less imports) will detract 0.4 percentage points to economic growth in the September quarter.
• The terms of trade (ratio of export prices to import prices) rose by 0.8 per cent to a record high of 108.6 in the September quarter.
• Net foreign debt fell by $8.3 billion to $666 billion in the September quarter.

What is the importance of the economic data?

• The Bureau of Statistics’ monthly Building Approvals release contains figures on local council approvals to build residential structures such as homes and units as well as commercial premises such as offices and shops. Approval is one of the first stages of the construction ‘pipeline’ and is thus a key leading indicator of future activity. An increase in approvals would point to stronger future activity for construction-related companies.
• The RP Data-Rismark Hedonic Australian Home Value Index is based on Australia’s biggest property database including over 280,000 sales during 2009. Unlike the ABS Index, which excludes terraces, semidetached homes and apartments, the RP Data-Rismark Hedonic Index includes all properties.
• The monthly RP Data-Rismark Hedonic Index compares month-to-month index results. Quarterly results are measured comparing end months rather than averaging each month in the quarter. For example, the first quarter of 2009 index results compare the end of March index with the end of December index.
• Private sector credit figures are released by the Reserve Bank on the last working day of the month. Credit is separated into three categories – housing, other personal and business. Private sector credit is effectively the amount of loans outstanding in the economy. If growth in lending is strong then it suggests that credit from financial institutions is freely available, underlying demand for assets such as cars and houses is firm and that the price of credit (interest rates) is attractive.
• The quarterly Balance of Payments figures have few short-term effects on financial markets. The importance of the data is merely to highlight Australia’s trading position with the rest of the world as well as the contribution of foreign trade (exports less imports) to the latest estimates of economic growth. Trade has been a drag on economic growth over the past four years with a lack of productive capacity holding back exports while rising incomes have boosted imports.

What are the implications for interest rates and investors?

• The Reserve Bank would be well aware that the forward looking data suggests that growth is likely to be subdued in the near term. Interest rates are likely to remain on hold for the next few months, to support investment and activity.
• The ongoing boost to the terms of trade will have longer term implications for the domestic economy. Driving up incomes, employment and spending.

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Key points

• Australian housing is not in a bubble but it is very overvalued, and combined with high debt levels leaves Australian households vulnerable should anything significantly threaten house prices. It is a reason for the RBA to tread carefully in raising interest rates.
• Poor and worsening affordability will likely lead to soft house prices over the next year or so. Key factors to watch for in terms of the risk of a substantial housing slump are a collapse in China leading to much higher unemployment, excessive tightening by the RBA and a big increase in the supply of housing. None seem likely in the short term, but are worth keeping an eye on.

Introduction

Australia has come through the global financial crisis in good shape. However, there is one nagging concern – what I have long called Australia’s Achilles heel – and that is the excessive level of house prices and associated household debt. Lately the debate has focussed on whether Australian housing is a bubble, with some saying it’s expensive and therefore must be a bubble, which will burst with disastrous consequences.

This view is epitomised in a recent article in The Philadelphia Trumpet (a US newspaper) that warned “Pay close attention, Australia. Los Angelification (referring to the 40% slump in LA house prices) is coming to a city near you.” The counter view is Australian housing may be expensive but not dramatically so & can be justified by a severe undersupply.

Is Australian housing in a bubble?

It is natural for those in the US to look at Australian house prices and see a bubble. Australian house prices have left US prices for dead over the last two decades.

Source: Case-Shiller, Nationwide, ABS, AMP Capital Investors

But is it really a bubble? An asset bubble is thought to require: overvaluation, easy money fuelling price gains and speculators buying on the basis that past price gains will continue amidst euphoric investor psychology. In terms of overvaluation, Australian housing gets a tick. On most measures Australian housing is very expensive. Australian house prices are running around 35% above their long term trend (see the next chart). According to the OECD the ratio of house prices to incomes is about 36% above its long term average and the ratio of house prices to rents is 58% above its long term average, both of which are at the top end of OECD countries.

Source: ABS, AMP Capital Investors

But other signs for the presence of a bubble are absent.

• Housing credit is only growing at about 8% pa (well down from the 20% pace seen about seven years ago).
• Only 39% of housing finance is going to investors (compared to more than 50% seven years ago).
• There is no sense anymore that buyers are rushing in for fear of missing out.
• Weekend auction clearance rates have slumped.

Source: Australian Property Monitors

• The Australian housing market hasn’t seen the same deterioration in lending standards that occurred in other countries over the last decade: loan to valuation ratios for new dwellings are little changed over the last decade; homeownership rates haven’t increased – in fact they have fallen for the typical first home buyer age group; and non-conventional loans (eg sub prime loans, option ARMs, etc) have never had a strong foothold.
• Most of the increase in mortgage debt over the last few decades went to older and wealthier Australians.
• There is little evidence Australians are struggling with their mortgages. Non-performing housing loans are less than 1% of the total and have been around this level for years. In the US the comparable figure is 8%.

And finally, Australia does suffer from a shortage of housing. In contrast to the US which saw a huge supply surge during its period of strong price gains into 2006, the supply of housing has been subdued in Australia, particularly relative to the expansion in the population, which has been faster than in India over the last five years. As a result, according to the National Housing Supply Council there is now a cumulative net shortfall of about 200,000 dwellings. And on current trends this is set to get much worse. The undersupply is reflected in continuing low vacancy rates in rental housing – currently averaging 1.6%.

Source: National Housing Supply Council

Outlook

While Australian housing is very overvalued, it’s not inevitable it will have a bust. Many of the tell tale signs of a bubble are not present and just because house prices are overvalued doesn’t guarantee a bust. For example, the Bank for International Settlements found that of 16 housing booms studied over the 1970 to 2001 period only six ended in a bust. However, there is little doubt the intersection of high house prices with high household debt levels leaves Australia vulnerable. Key potential triggers for a bust would be a big increase in the supply of new dwellings, a big rise in unemployment perhaps on the back of a collapse in China or a big rise in interest rates. Right now none of these seem likely. There is no sign of any imminent large land release from state governments, China is trying to cool down a food driven increase in inflation but is not likely to tolerate a sharp slowdown in growth and the RBA is likely to tread carefully in raising interest rates, particularly after banks added more to the last rate hike.

The most likely outcome is an extended period of constrained range bound house prices as average income levels catch up. To some extent this is what has occurred in Sydney over the last six years. After strong gains into early this year, house price gains have since been flattened by a return to poor affordability. With mortgage rates rising sharply in November, and more increases likely next year, a further deterioration in affordability is likely and this could well see prices fall slightly over the year ahead. While the shortage of housing should prevent a sharp fall in prices, a rise in mortgage rates (currently around 7.8%) to much above 8.5% could prove to be a big dampener on house prices next year.

Source: Commonwealth Bank/HIA. REIA, AMP Capital Investors

Is housing a good investment?

After allowing for costs, residential investment property and shares generate similar long term returns. This can be seen in the next chart, which shows an estimate of the long term return from housing, shares, bonds and cash.

Source: ABS, REIA, Global Financial Data, AMP Capital Investors

Over the long term, the returns from housing and shares tend to cycle around each other at similar levels. In fact, both have returned an average of 11.5% pa over the last 80 years or so. While housing is less volatile than shares and for many seems safer, it offers a lower level of liquidity and diversification. The bottom line is once the similar returns of housing and shares are allowed for, and these characteristics are traded off, there is a case for both in investors’ portfolios over the long term. For the time being, with housing looking expensive and offering a net rental yield of around 1.5%, shares are probably a better bet as they are cheap on most valuation measures and offer a more attractive dividend yield of around 5 to 5.5% once allowance is made for franking credits.

Concluding comments

At this stage a housing bust in Australia seems unlikely. Key things to watch for though would be a surge in supply, much higher levels of interest rates and anything that sharply pushed up unemployment. In the meantime a lack of supply should prevent sharp falls in prices, but on the flipside, the continuing drip feed of higher interest rates will likely serve to weaken prices slightly over the year ahead.

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• There’s no doubt that researchers have it easy nowadays compared with their predecessors even just a decade ago. There is just so much information freely available. And it’s important to note that the definition of researchers can cover a broad cross-section of people. It may be economists, small-business people, local governments and
  even large corporations.
• Just this week the Bureau of Statistics has released the latest National Regional Profile, providing a vast array of data covering the period from 2004 to 2009. The data included items such as home prices, wealth levels, demographic information and industry composition. And the good news is that researchers can drill down to relatively fine geographical areas.
• No doubt it would be good to get even timelier data. But it is a simple case of cost/benefit. There is a vast amount of data that can be collected but would the outlay of our taxpayer dollars be worth the benefit?
• Amongst the more interesting results were the estimates of home prices (or more specifically, the average value of private sector houses. The data is only provided up to June 2009 but it is nevertheless useful to see how values, and therefore wealth, has changed over time. Usually the information is only available at a national level or for capital cities, so the regional figures provide an extra layer of information.
• Looking at the data at a statistical sub-division level, the stand-out areas over the past five years have been De Grey in the Pilbara and Carnegie in central Western Australia. From 2004 to 2009, home prices in the De Grey region rose 236 per cent while Carnegie values lifted 220 per cent. Admittedly the values were very volatile over the period – it certainly wasn’t a steady increase.
• Still it’s important to note that Western Australia grabbed the first six spots on the list of strongest home price gains over the five-year period.
• On average across the 201 regions assessed, home prices grew by 46 per cent over the five-year period, or around 9 per cent a year. That is, only slightly above the very long-term average, so it hardly is descriptive of a housing “bubble”. And there were actually six regions where prices retreated over the period according to the data. Interestingly the figures suggest that Albury home prices fell by 20 per cent, while in the ACT, Belconnen prices eased by 1.7 per cent and Gunghalin-Hall fell by almost 19 per cent. In contrast South Canberra home
  values were assessed to have lifted by 70 per cent over the period.
• Sometimes there can be gremlins in the data, but importantly it is actually having the data that causes researchers to look more closely to see whether there are underlying issues or problems to be investigated.

The week ahead

• Regular readers would know that every change in season is ushered in with a barrage of economic data, and certainly it is no different with the onset of summer in Australia. Around a dozen key indicators will be released over the coming week – fortunately we have another week to wait for the next Reserve Bank Board meeting.
• On Monday, the Bureau of Statistics (ABS) releases the latest Business Indicators publication, covering data such as inventories, sales and profits. On Tuesday, RP Data issues the latest update on Australian home prices while the Reserve Bank releases private sector credit (lending). And on the same data the ABS issues the balance of payments, government finance and building approvals.
• Some analysts may say that Wednesday is the highlight of the week with the latest economic growth estimates (GDP) to be released. But the data is quite old now and certainly the Reserve Bank has already got a good handle on what the figures will show. The Performance of Manufacturing survey is also issued.
• On Thursday international trade and retail trade figures will be released. And on Friday the Performance of Services survey is issued.
• In terms of the forecasts, home prices were probably close to flat with credit (lending) up 0.1 per cent. Simply, people just don’t want to take on more debt, and higher interest rates aren’t helping the situation.
• Building approvals probably rebounded by 5 per cent in October – they certainly need to, having fallen 31 per cent over the past six months, or the biggest drop in a decade. The trade surplus should have been maintained close to $2.5 billion in October. And retail trade may have again edged 0.5 per cent higher, keeping annual growth at a sub-standard rate near 4 per cent.
• And the economy probably grew by 0.7 per cent in the September quarter – a result that is good, but not great. Consumption and investment are growing at modest rates, but Aussies are still not prepared to fully commit to the future, worried about what else may fall from the cupboard.
• In the US, there is also a fair slab of data to be released, but most will only have eyes for the employment (nonfarm payrolls) figures to be released on Friday.
• Earlier in the week the Case-Shiller home price data is issued on Monday alongside the Chicago purchasing managers index and consumer confidence. On Wednesday there is an avalanche of data including the Federal Reserve Beige Book, car sales, the ISM manufacturing index, ADP employment report and construction spending. Pending home sales and weekly jobless claims data are issued on Thursday. On Friday the ISM services index and factory orders figures will no doubt play second fiddle to the jobs data.
• Economists are tipping another solid month of job gains with payrolls expected to have lifted by 150,000 in November, close to the October result. Perhaps US businesses are again embracing the future, with the help of a weaker greenback to drive exports. But the jobless rate probably remained near 9.6 per cent.
• Of the other data, the ISM manufacturing index may have eased from 56.9 to 56.0 but it remains at a healthy level. Again, the ISM services index may have been little changed near 54.3. Consumer confidence is tipped to lift from 50.2 to 52.0; construction spending probably eased 0.1 per cent and factory orders lifted by 0.3 per cent.

Sharemarket

• Will there be a ‘Santa Claus’ rally this year? Some analysts think there will, in fact tipping very solid gains, but certainly the month of November hasn’t been a good lead in. Still, the optimistic forecasters have history on their side with the All Ordinaries only sliding on four occasions over the past 20 years and seven times in the past 30 years.
• So why the good track record? Some will put it down to ‘window dressing’ by fund managers. Whether it is the US or Australia, fund managers rule off the books for the month, the quarter and the calendar year. And it is in the interest of fund managers to show the best possible returns in order to attract new investment inflows.
• And then there is the forward-looking approach by investors to take into account. Investors are likely to end this year, much the same as the last – expecting better times ahead. The Australian sharemarket fell in both December 2007 and December 2008, but that was understandable given the GFC. In December last year stocks lifted by 3.5 per cent, extending the rally that began in early March. This year there is again the sense that the healing process in underway, although tinged with a little more frustration than last year.

Interest rates, currencies & commodities

• Many commodities have very developed futures markets. For instance futures quotes exist for US crude oil for the next eight years. Clearly this is extremely positive for oil users, allowing them to hedge risks well into the future. And for speculators it provides a range of opportunities to take positions. But what is the shape of the oil futures curve telling investors about future oil demand. The December 2010 oil price is around US$81.75 a barrel, and from there the curve climbs to US$85.17 by December 2011 before flattening to US$86 by December 2012. When you consider that oil prices were hovering around US$87 a barrel in early November, it is clear that traders still express doubts about the path of the global economy in 2011.

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• The TD Securities-Melbourne Institute monthly inflation gauge rose by 0.3 per cent in October after lifting 0.1 per cent in September, and 0.2 per cent in August.
• Importantly other underlying rates of inflation were relatively tame in October. The trimmed mean rose by 0.2 per cent and the inflation measure that excludes volatile items was flat in October.
• The Performance of Manufacturing index rose from nine-month lows, up by 2.1 points in October to 49.4. Any reading below 50 means the manufacturing sector is contracting. Across the sub indices, production rose from nine-month lows, however new orders slumped to a 16 month low, while exports tracked to the weakest levels in 11-months.
• According to the Australian Institute of Petroleum the national average retail pump price fell 0.3 cents a litre last week to 123.6 cents a litre. Over the next fortnight CommSec expects pump prices to trend sideways as the strengthening Australian dollar largely negates any increase in regional oil prices.
• The Bureau of Statistics house price index rose by 0.1 per cent in the September quarter to stand 11.5 per cent higher than a year ago. The data is consistent with the RP Data-Rismark index that is tracked by the Reserve Bank.
• HSBC’s China Purchasing Managers’ Index rose from 52.9 to 54.8 in October – a six month high. The measure of prices is at a 27-month high.

Click here to download this document (pdf)

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David Harrison, Managing Director of Charter Hall, said the positive retail investor sentiment to commercial property shown in the survey was very encouraging, and called for investors to follow the lead of savvy institutional investors who are taking advantage of emerging opportunities in the listed sector (where REITs are trading at a discount to NTA) and also in the unlisted (direct) property sector.

The Charter Hall survey found 60% of those intending to invest in the next 12 months planned to invest sizable sums of more than $50,000. The survey showed 36% of respondents favoured listed property, another 11.71% favoured unlisted (direct) property while 6.35% favoured residential property.

“We believe the commercial property market has reached the bottom of the cycle post GFC and for investors considering their re-entry to this sector, now is the time to do it to take advantage of property values we expect will continue to rise.

“Charter Hall is hearing reports from our agencies that institutional investors such as superannuation funds, high net worth individuals and syndicators are in the market looking for homes for mandates up to and in some cases in excess of $1 billion as confidence returns,” Mr Harrison said.

Overall, investors surveyed had a conservative allocation to commercial property with 47% of those holding a less than 10% allocation in their portfolios. Respondents also showed a strong preference for office space, with one third of investors preferring this sector.

Mr Harrison said the strong preference for office space suggested retail investors may be overlooking opportunities available in the retail and industrial sectors which are also expected to perform strongly owing to attractive characteristics such as lower volatility and higher prospective returns.

“Institutional investors are returning to the market on the strength of excellent buying opportunities, in a climate of reduced competition and rising tenant demand in the industrial space. Retail investors should
take the lead set by institutional investors as a reference point for their own portfolio allocations,” Mr Harrison said.

The CEO of Charter Hall Direct Property, Richard Stacker echoed Mr Harrison’s comments saying successful capital raisings by Charter Hall this year confirmed investors’ return to the market.

“Since January this year, Charter Hall Direct Property has raised more than $110 million in capital for the since closed Macquarie Martin Place Trust; the open Stirling Street Trust; and the Charter Hall Direct Industrial Fund. The success of these raisings is confirmation of increasing investor appetite and our ability to offer retail investors access to institutional grade property at the right point in the cycle,” Mr
Stacker said.

The survey found that investors’ primary motivation for investing in real estate was regular income with 43% citing this as their number one driver. Mr Stacker said retail investor demand for income was a key
consideration in the development of Charter Hall Direct Property’s Direct Industrial Fund (DIF) launched in July this year.

“We developed DIF in response to demand from advisers, investors and in particular SMSFs, looking for simple products that deliver steady income over the long term.

“The survey results show the fundamental characteristics of unlisted property, which include reliable income and capital preservation on a long term basis, continue to be attractive to retail investors and
SMSFs,” said Mr Stacker.

Reflecting the defensive investment strategies taken by many investors during the downturn, investors also revealed significant holdings in cash and term deposits with nearly one third of respondents holding more than $200 000 in these assets. However, investors also signalled their rising confidence with 74% of those surveyed believing the Australian sharemarket would rise in the medium term.

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