Pete Wargent blogspot

Co-founder & CEO of AllenWargent property buyer's agents, offices in Brisbane (Riverside) & Sydney (Martin Place), and CEO of WargentAdvisory (providing subscription analysis, reports & services to institutional clients).

5 x finance/investment author - 'Get a Financial Grip: a simple plan for financial freedom’ (2012) rated Top 10 finance books by Money Magazine & Dymocks.

"Unfortunately so much commentary is self-serving or sensationalist. Pete Wargent shines through with his clear, sober & dispassionate analysis of the housing market, which is so valuable. Pete drills into the facts & unlocks the details that others gloss over in their rush to get a headline. On housing Pete is a must read, must follow - he is one of the finest property analysts in Australia" - Stephen Koukoulas, MD of Market Economics, former Senior Economics Adviser to Prime Minister Gillard.

"Pete is one of Australia's brightest financial minds - a must-follow for articulate, accurate & in-depth analysis." - David Scutt, Business Insider, leading Australian market analyst.

"I've been investing for over 40 years & read nearly every investment book ever written yet I still learned new concepts in his books. Pete Wargent is one of Australia's finest young financial commentators." - Michael Yardney, Australia's leading property expert, Amazon #1 best-selling author.

"The most knowledgeable person on Aussie real estate markets - Pete's work is great, loads of good data and charts, the most comprehensive analyst I follow in Australia. If you follow Australia, follow Pete Wargent" - Jonathan Tepper, Variant Perception, Global Macroeconomic Research, and author of the New York Times bestsellers 'End Game' and 'Code Red'.

"The level of detail in Pete's work is superlative across all of Australia's housing markets" - Grant Williams, co-founder RealVision - where world class experts share their thoughts on economics & finance - & author of Things That Make You Go of the world's most popular & widely-read financial publications.

"Wargent is a bald-faced realty foghorn" - David Llewellyn-Smith, MacroBusiness.

Sunday, 30 November 2014

Low Rates Blowtorch Investor Credit (But No APRA Action)

Credit Where It's Due

The Reserve Bank released its Financial Aggregates data, and the figures revealed a tentative tick in the box for low interest rates biting just a little more than they have been.

While personal credit growth remains the definitive laggard, total credit growth for housing is up at a healthy annualised 7 percent clip, and business credit growth is slowly making its way back to respectable levels.

Business credit grew by 4.3 percent year-on-year following a better 0.7 percent result for the month.

Business Credit

As the below chart shows, business credit growth, while historically speaking only modest, is now tracking in the right direction again and at its best annual rate of growth since the month of June 2012 at 4.3 percent.

This chart gives us an interesting insight into the state of the economy through the financial crisis. 

No technical recession, perhaps, yet effectively business was in recession before stimulatory policy reversed the trend.

Housing Credit

With an expanding population and an inflationary economy we would expect to see outstanding housing credit growing over time, and indeed the total of housing credit outstanding passed a new high at more than $1.4 trillion in October.

$1.4 trillion is not an easy number to conceptualise but as a point of comparison the Australian Bureau of Statistics puts the total value of residential dwelling stock at around $5.3 trillion, and CoreLogic-RP Data calculates $5.6 trillion.

Given that total outstanding housing credit generally just increases faster and then slower again, it is the rate of change which is of interest.

Notably, seasonally adjusted investor credit has been leading the way in this cycle as mortgage lending rates have become more attractive.

The below chart shows the annual rate of growth on a rolling 12 monthly basis.

Notably, while both forms of housing credit continued to expand in the month of October, the rate of investor credit continues to grow more quickly than that of credit written for owner occupier housing loans.

Investor credit surged by another $4.8 billion or 1 percent in October, the largest monthly jump we have seen in well over a year.

As a result the total share of investor credit is now at the highest level in Australia's history at 34.1 percent.

This skewing towards investor credit is a broad trend which appears likely to continue over the decade ahead, for a whole host of reasons (higher capital city house prices, casualisation of the workforce, households forming later in life etc.) and as such investor sentiment and activity will be a key driver of capital city housing markets at both the macro and micro level.

Indeed, this is already the case.

Witness for example the dearth of investor in activity in Adelaide which has increased dwelling values by only 2.8 percent of the past year (recording a 0.3 percent fall over the past quarter) as compared to the investor frenzy in Sydney which has pushed a great many inner suburban prices up at a 15-20 percent pace. 


There has been a good deal of discussion of the deployment of macroprudential tools to slow the rate of investor lending, and the October aggregates data must clearly keep this issue in the spotlight.

While the Reserve Bank of Australia (RBA) does not have a mandate for "picking winners" it does have a mandate for financial stability, and it is under the latter heading that investor lending will be categorised as an issue for scrutiny.

There are some notions in which the RBA will not indulge, including a return to the unsuccessful experiments with quantitative restrictions on credit such as seen previously in the 1960s and 1970s.

Moreover, the RBA believes that prudential measures are largely an issue for the prudential supervisor (APRA), and as such the central bank will remain respectful of the supervisor's expertise - a simple enough point, one would have thought, but the Reserve kindly drew us a stick man cartoon to clarify the issue, just in case.

Interest Only Loans

A related but slightly separate issue is the rise of interest only loans.

APRA's latest API Property Exposures data released this week showed that 34 percent of loans outstanding related to investors while a record 36.8 percent of mortgages outstanding as at Q3 2014 were interest only loans. Most strikingly, some 42.5 percent of mortgages written in Q3 were interest only loans.

While this may appear to be inherently risk-laden, it is surely not a surprising trend given the nature of today's interest only loan products, and any real devil must be within the detail.

Low doc loans, for example, which do tend to be comprise some "riskier" lending, have fallen to just 2.7 percent from 3.6 percent a year ago, the lowest level for low doc loans ever recorded in the data series.

Meanwhile, in the absence of any regulatory intervention, interest only loans are also likely to increasingly (perhaps even rapidly) become the product of choice for home owners as well as investors.

Why? Simply because the modern variable rate interest only mortgage is a superior product for the responsible borrower, due to its flexibility and the option to make repayments to the principal but on the borrower's own terms.

The major bank lenders will tell us that effective prudential measures are already in place, with loan books showing very low delinquency rates and 180bps serviceability buffers in operation.

Meanwhile, the RBA's own research has shown that most borrowers are well ahead on repayments largely thanks to the unique structuring of interest only loans in Australia and some smart management of household finances in the prevailing low interest rate environment (an issue we looked at here on Property Observer last month).

Can homeowners in aggregate be trusted to use interest only home loans sensibly?

"Crackdown" to be Delayed

The Reserve Bank's rhetoric has suggested all along a reluctance to take specific actions to cool a housing market which it had itself wanted to heat up (in order to stimulate dwelling construction and consumption) other than the odd bit of jawboning aimed at Sydney investors from the Governor and other members.

With house price growth threatening to stall (CoreLogic-RP Data's index shows home "values" as having decreased in Adelaide and Melbourne over the past quarter, and by $18,000 or 2.6 percent in November alone in Melbourne's case), any potentially rigorous macroprudential changes appear likely to be delayed further.

More stock is hitting the housing market with auction numbers at or around record levels, and this has taken much of the sting out of investor credit growth. 

APRA Chairman Wayne Byres announced on Friday that any regulatory crackdown in predatory lending would be delayed, with the supervisor not wishing to make stringent changes which may then need to be subsequently reversed if housing market sentiment cools.

Byres has hinted that APRA has clearly identified its possible risk areas including investor credit, interest only loans, the adequacy of stress testing and longer loan terms, but the regulator seems to be unclear why an owner occupier would take out an interest only loan (surely obvious to those on the ground, for the reasons discussed above).

However, APRA will clearly not be rushed into the making of any rash decisions, and as such housing market sentiment will be watched with much interest after the Christmas break.

Saturday, 29 November 2014

63 Not Out

Thoughts for the family and friends of PH and Sean Abbott during sad times for the cricket family. Vale Phil, a tragic loss. 

Saturday Summary - Most Interesting Articles of the Week

Summarised by Michael Yardney at Property Update here!


Parabens Timor-Leste - happy returns to our friends in East Timor on the anniversary of the Proclamation of Independence. Viva. 

Commodities smashed - AUD nudges "84 Handle"

Market action!

Some very interesting market action taking place in recent days and weeks.

The crude oil price has been smashed down by yet another 10 percent plus to yet another new four year low having lost more than a third of its market value since June as a glut of supply overwhelms the market, with corresponding impacts on certain share prices in Australia.

The sound of a few budget forecasts being gently torn up around the world...extraordinary.

Lower oil prices have a mixed effect on Australia's economy, but mainly a positive one - inflation should come down a bit, and it's great news for transporting businesses and companies with high fuel costs.

On the other hand there will be some budget impact to tax revenues since Australia is a net energy exporter, and energy stocks will clearly be impacted.

Santos (STO) shares dived by a massive 13 percent on Friday, with much more now to come next week.

On the other hand, cheaper fuel prices are of course welcome news for other businesses such as those in the aviation industry, with shares in Qantas (QAN), for example, leaping by 7 percent or 12.5 cents during the same trade to $1.92. 

Also as I write this the copper price is getting smoked, off by more than 3.8 percent to below $2.85 (wowsers), while silver is copping another absolute pasting, down by 7 percent.

Gold has fared somewhat better, declining by around 2.7 percent at the time of writing.

An interesting time for commodity prices, that's for sure!

Australia being a commodities exporting country is ultimately likely to see a corresponding weakening of its currency (depending of course on particularly our key commodities fare respectively) and the Aussie dollar has breached another important barrier, momentarily sneaking below 85 cents...

A lower dollar would be of help to exporters, and may also make Australian assets relatively more attractive to foreign investors.

With house price growth and sentiment appearing to be slowing in many markets, notably including Melbourne, futures markets are finally beginning to come around to the idea that another interest rate cut will be required in 2015.

At the close on Friday it was about an each way bet according to implied yields.

Real Estate Talk

Catch me on the Real Estate Talk show this week here.

Friday, 28 November 2014

Sydney House Prices Rise by 16.83 Percent

From Residex for the month of October 2014.

Although house prices are up by 6.7 percent in Australia in the past year, the market has basically been driven by Sydney (+16.83 percent).

Unit prices also increased by 6.7 percent, with Sydney also leading the way with 14 percent capital growth.

Since there is no pressing oversupply of stock in Sydney, rents are also rising at a furious pace in the harbour city according to the Residex figures, up by 8.5 percent over the year for houses and 4.9 percent for units.

After a lacklustre half decade, housing finance data suggests that Brisbane is set for a strong performance in 2015.

Property markets much more muted elsewhere.

Mining's a Hole But Intentions are Good (Capex!)

Prawn Sandwiches, Anyone?

Had to laugh this week when an Arsenal football fan was arrested for spraying the Manchester United bench with red wine.

In the very same footballing week, a waiter had already caused a kerfuffle at the glistening new Wembley Stadium by serving food during the game, thus blocking fans from watching the match. 

Ha - modern football, eh! Nothing could make me sound much older than saying that it's all a far cry from "them olden days" when we paid 50 pence to stand on the terraces at Blackpool!

No frills or prawn sandwiches back then, of course, but disposable incomes are generally a bit higher today than they were in the 1980s, and Premier League football in particular has become hugely commercialised.

Traditionally a working man's sport it was once de rigeur for fans of southern teams to come up our way (Yorkshire) and berate northern football supporters with the then-popular chant "what's it like to lose your job?" - 'humorously' crooned in a similar strain to that of the Welsh hymn Cwm Rhonnda (basically "Bread of Heaven").

Were the goading chants taken with a cheerful bon homie? No, not particularly, but then as I recall rival football fans didn't take anything at all with much good humour back then.

The thrust of the old football chant was that Britain, then as now, suffered from a noteworthy north-south economic divide.

Manufacture, Resources and Service Industries

Roll back through enough decades and the north of England was once the industrial powerhouse of Britain - leading the world through an Industrial Revolution - with the south of the country being viewed by many northerners as a place for soft wastrels and a general drain on the country. 

However, in our neck of the woods, industries such as steel fell into decline and dramatically cut its workforce. The coal industry in South Yorkshire died too. And as with many developed countries. manufacturing fell into a steady decline, today accounting for only around 8 percent of the workforce.

Some of Britain's success stories since have included a fortuitous discovery of North Sea Oil (it was Scotland's oil really, but was deftly massaged into UK national revenues) and the City - financial services and banking. 

Britain has had another stroke of good fortune since the John Major years, that being that it did not enter the European Monetary Union (EMU) and did not adopt the Euro as its currency, and as such the Bank of England (BoE) has retained control over its own interest rates.

Different Rates for Different States

The BoE has dropped British interest rates to rock bottom for the past half decade and engaged in quantitative easing (QE), but even with your own currency monetary policy can still be quite a blunt tool.

The BoE is the central bank of the United Kingdom, and as such sets its base rate of interest for a diverse range of regions which incorporates 86 traditional counties as well as several different countries (though I still haven't worked out if Wales is actually a country or a principality).

It's a seemingly impossible task when you think about it. 

How does one go about setting interest rates simultaneously appropriate for a region which had been devastated from the halving of its shipyard industries, such as the north-east was in the early 1980s, yet a London housing market which went on triple in value in a decade during the "Lawson boom" as UK economic growth hit a rollicking quarterly growth rate of 2 percent?

Today, London may once again benefit from a few rate hikes, but hikes for Northern Ireland could mean 1 in 6 people at risk mortgage of mortgage stress by 2018.

Short answer - it can't be managed easily.

Capex Not Crapex

Hey hey, anyway, on to today's capex results, and whaddya know, some brighter news for the Aussie economy!

As implied by its full definition "capital investment", capex refers to when a business or enterprise invests in an asset such as a factory, warehouse, equipment, plant or machinery for the purposes of furthering its objectives or deriving a future economic benefit.

Capex is a good thing for economic activity now, and it is expected to be of more benefit to the economy down the track as the asset is put to use. Rising capex is thus a good sign, falling capex is more likely to be a pre-cursor to a dollop of economic malaise. 

It's long been feared that total capex in Australia would drop off a cliff as the mining construction boom unwinds, but although total new capex is down by 5. 9 percent over the past year, total capex actually increased fractionally in Q3, albeit only by a seasonally adjusted smidgeon.

The ABS has been having a bit of a 'mare with a few of its seasonal adjustments of late, so I've charted the original figures for total capex in red too. 

Jolly good. But how so have we recorded an increase given falling mining investment? The answer is that other industries - though notably not manufacturing - are responding to low interest rates and stepping up to the plate.

So while mining investment slipped by a further $640 million in the quarter, transport, postal and warehousing investment, for example, increased by $713 million. 

In other words, the economy is rebalancing away from mining construction, which is what most people who don't hate on the Australian economy would rather like to see happening.

One would expect the mining states to bear the brunt of any capex collapse.

In the event Western Australian mining capital expenditure produce a very robust result in Q3 - likely a combination of project overruns and yet more construction, though state level quarterly data is volatile - with other industries picking up nicely too, while Queensland's decline has not been quite as sharp as feared, at least when viewed over a three year time horizon.

New South Wales recorded an increase in the quarter.

Intentions Are Good

Perhaps the most important part of the capex release is the expected expenditure, which is derived from the management accounts of a sample of thousands of key companies:

"Estimate 4 for 2014-15 is $153,210m. This is 7.5% lower than Estimate 4 for 2013-14. Estimate 4 is 2.2% higher than Estimate 3 for 2014-15."

That's a very good result in the circumstances, and way better than the ~$145,000 million that many had expected. Notably, expected 2014-15 expenditure is now improving quarter on quarter (circled below) as other industries pick up their game.

The "capex cliff" may be taking on more the shape of a capex...camber? Off-ramp? Need to have a think on that one. Potentially a shallower rate of decline, anyway, which would be welcome news.

Some industries do look set to roll over and die, though.

State Versus State...

To finish up for today, I'd just like to come back briefly to my original point on monetary policy and the difficulties facing a central bank with its blunt interest rate tool. 

While much if not most of regional Australia is suffering from soft labour market conditions and rising unemployment (as I considered here), current monetary policy settings are at the same time too easy for Sydney.

I've been building my case over the years that in many respects Sydney may have the best placed economy - and strongest housing market - in Australia.

With a city population exploding higher by ~90,000 per annum, boom-like retail trade conditions, a Greater Sydney unemployment rate declining to just 5.1 percent and house prices continuing to rise at close to a 17 percent annualised clip (Residex), interest rates are too low for the harbour city at their current setting.

It was first mooted a couple of years that the Reserve Bank may be forced to wear a Sydney housing boom, and thus it is proving.

Although it is true that New South Wales has a well-diversified range of industries, it nevertheless remains the case that NSW capital investment growth has also been very heavily reliant on mining, although other industries are now gradually responding to low rates by deploying capital investment.

NSW has an ace up its sleeve, though. After a dismal lack of dwelling and infrastructure construction over the past decade, there is now multi-faceted building boom underway, showing up to some extent in the capex prints together with a twin boom in residential and non-residential construction (which is now up by a massive 54 percent since Q1 2012, a huge increase in activity).

Across the Queensland border, mining construction is now in near freefall, putting pressure on other industries, which have responded just a little to date. Watch out for soft rental markets in regional Queensland

The mining construction boom never really made it to South Australia with the cancellation or delay of a raft of projects, and as such SA has a few tricks held in reserve from a resources perspective, such as Woomera and a possible Olympic Dam expansion. 

It's just a shame for the state's economy that commodity prices have now tanked, which will keep an effective lid on mining capex for the remainder of this cycle.

One of the challenges for SA has been that manufacturing traditionally made up around half of its total capex spend, but so much manufacture is now dying with the automobile industry set to be the next to wind up.

The Wrap

The capex data set is a dream for nerds such as myself to analyse with alnost limitless scope for charting trends, but let's leave it there for today.

Summarily, challenges remain with mining investment still set to fall sharply, but this was a really good release with some promising signs of rebalancing and a solid pipeline of investment planned for the year ahead. 

New Home Sales Tick Higher in October

New Home Sales +3 percent

The latest round of new home sales data released from the Housing Industry Association yesterday.

HIA's Chief Economist Harley Dale noted: "Australia is on track to commence a record number of homes this year", which means that an abundance of new stock is going to hit the market in 2015-16.

New home sales increased by 3 percent in October, with detached house sales in the quarter rising in Queensland and New South Wales. 

Property Update

Property Update is a great free resource for property related information in Australia - subscribe for free here.

With this week's construction data and new home sales figures, new homes and properties are all the rage this week. 

Today on Property Update Tyron Hyde of Washington Brown considers new versus old property depreciation benefits:

"Buying new property will always result in the highest tax depreciation benefits.

Generally speaking the higher the building, the higher the depreciation. Why? Because taller buildings have more services like lifts, gyms and fire services.

And services like these attract higher rates of depreciation in comparison to bricks and concrete.

But it’s also important to remember that purchasing a new property can sometimes cost more than buying a 3 – 5 year old property.

The difference in depreciation benefits between these options is not necessarily as substantial.

Purchasing a ‘newish’ property can mean paying less stamp duty and might mean a higher depreciation deduction relative to the purchase price.

Washington Brown’s Online Tax Depreciation Calculator shows a first year deduction of $18,000 for a Brand-New high rise unit costing $650,000 in Sydney.

The calculator also shows that paying $650,000 for a unit built in 2011 would still attract a first year deduction of $17,000.

That’s only $1,000 difference over the whole year – not enough to make or break the deal in my opinion!

Another thing to consider is that when you buy a second hand property you can often get a more realistic view of the real value of the property by researching any re-sales that have occurred in the building once the building has been completed.

That’s only way to find out the true value of a property.

Almost new property (at 3-5 years) will still get you more than enough depreciation benefits. In summary, you don’t necessarily have to be buy Brand-New to get the best depreciation."

Indeed, and a point I was have alluded to frequently over the last year - record new property construction means a record supply of this type of new stock, which generally struggles to make sense as an investment.

Tyron is being tactful here, but since we don't have clients with high rise units or new or off-the-plan properties, we can be more blunt!

Buying a new unit as a place of residence is one thing, but high rise units are generally a rubbish investment for a host of reasons. Lifts, gyms, pools and 24 hour concierges cost the earth and are a genuine pain for landlords.

New properties may sneak a few dollars in extra depreciation to put on your tax return as noted by Tyron above, but the tax-effected amount is likely to border on trifling

And in any case, depreciation is generally a little higher on new builds because new stuff does depreciate, often including the real value of the property.

Price Differential is Key

Imagine you buy a new 2 bedroom apartment with "all the bells and whistles" (ah, how I have come to hate that phrase!) for $575,000 today, for which after stamp duty and closing costs, you are all-in at about $600,000. 

Equivalent established 2 bedroom properties that are five years old are selling for around $475,000.

Given that we have an inflation target in Australia of 2-3 percent, and given that in a decade's time the glut of new stock will no longer command its newness premium, how long will it take for you to get back to break-even point on your investment (i.e. a real return on investment of $nil)? 

8 to 12 years? After holding costs, perhaps longer, and we haven't even adjusted "returns" for risk. As an investment case it would certainly leave a share market investor scratching their heads.

Yeah, I know, you'll do better and find the property "hotspots", and the developer will throw in a "discount" or a storage cage. If you say so.

Property can be a grand investment if you know what you're doing, but in this era of low interest rates, low inflation and higher land prices, the developers and the sales agents will cream off their profits from new builds. 

You'd struggle to convince me buyers of new stock at today's prices will make a return, though. 

For Versus Against Buying New

This neat article from Your Investment Property sums up the situation beautifully. 

George Raptis, who has been around on the real estate scene for longer than Raptis would even probably care to mention, lays out just a few of the many reasons in favour of established property from an investment case perspective.

The case for why new properties are a better bet is put forward by...well, a couple of developers. 

And as their mangled rhetoric aptly demonstrates, new apartment sales makes perfect financial sense...for the developers!

Thursday, 27 November 2014

Fat Fingers!

I do have fat fingers when it comes to typing, which is why I've never got on with i-Phones very well, though I do like my i-Pad.

A minor moment of obliquely related amusement on the markets yesterday when some gold data providers reported that gold prices had spiked by more than US$250/oz in a matter of moments.

This led of course to no small amount of excitement and confusion, and probably more than a few heart palpitations for those holding short positions.

Alas for holders, it turned out to be some fat fingers at work and a data glitch.

Could happen for real one day, though!

Wednesday, 26 November 2014

Construction Data Flashes Red on Systemic Risks

Klaxons Sounding (x2)

The ABS released its Construction Work Done figures for the September quarter which underscored two key systemic risks for Australia's economy and housing markets, with the following alarm bells now sounding loud and clear:

(i) the long anticipated "mining construction cliff" is now well underway, with engineering construction spend registering a significant 12 percent decline over the past year to be 15 percent off from the peak; and

(ii) a forthcoming glut of new build residential properties, particularly of attached dwellings: units and apartments.

Let's take quick 'shufty' in four short parts.

Part 1 - Total Construction Slides

Total construction work done remains elevated in historical terms at a seasonally adjusted $51,146 million in the September quarter. 

From a macro-economic perspective, of course, it is the trend which is of importance, and total construction has now passed its peak, declining further by a seasonally adjusted 2.2 percent in Q3 to be 5.1 percent lower over the year in chain volume measures terms.

This was a slightly undercooked result versus expectations, and hardly the most auspicious of starts for the inputs into the Q3 National Accounts. 

Of significantly greater concern is what will eventuate for mining and engineering construction prospectively, with total spend already being some 12.1 percent lower in chain volume measures terms than only one year ago.

With commodity prices tanking it will be increasingly difficult for marginal projects, such as some of those in the coal sector, to pass through feasibility studies to the construction stage, thus reinforcing the entrenched downtrend.

Moreover, the sheer scale of the mining construction boom on the way up (even today engineering comprises more than 56 percent of construction expenditure reported here at a punchy $28,710 million in Q3) means that there must eventually be an equivalent drag on the way back down - a drag which will be nigh on impossible for work done in the other building and construction sectors to offset.

Low interest are thus clearly set to be with us for some time to come, which must in turn impact investment decisions and other construction trends, as the financing component of new developments remains historically speaking very cheap.

Part 2 - The Mining Cliff Cometh

The engineering construction data by state unsurprisingly revealed that total spend in Queensland and Western Australia is now receding sharply. 

Other states which benefited less dramatically from the boom years are also now in decline, albeit to a less significant extent, as the resources boom continues to transition into the export phase from the construction phase.

The ABS provided few details concerning what caused the tremendous spike in Q3 engineering construction in the Northern Territory, although cost blowouts at the Ichthys LNG project have been reported elsewhere related to the struggling UGL, while Inpex continues to report project progress in its regular updates. 

From a national perspective, we must now expect further declines ahead, and therefore tomorrow's capex data release takes on an additional level of interest!

Part 3 - NSW Now Leads Building Work Done

With a massive 54 percent seasonally adjusted increase in non-residential building in New South Wales since Q1 2012 (mainly related to Sydney projects) in concert with a solid pipeline of residential building, NSW now leads the nation in terms of building work done, which is promising news for the state economy.

But while an inherent infrastructure and dwelling deficit are working in favour of the NSW economy, some other states are building too much of what they do not need. 

Residential building work done has increased by 9 percent over the past year. However, new house building has now slipped past its cyclical peak, representing adverse news for the construction sector,  and note the alarming trend of the red line below for "other new residential" building.

We have known for many months of course that Australia has been approving far too many apartment buildings in certain locations, and now these building approvals are becoming a stark reality, showing up in the construction data as an unprecedented spike which is still booming.


New Builds Risk Flashing Red - Systemic Risk?

The next three years will see Australia break many all-time records in the residential property space.

These include the highest annualised rate of apartments constructed in Australia's history, and thus in turn record developer kickbacks and commissions paid to 'investment advisers' (i.e. developer salesmen) for the sourcing of willing interstate buyers of the detritus which developers have been unable to flog themselves (itself quite a notable achievement in the prevailing climate of cheap credit).

And the inevitable corollary will be a record number of investors losing their hard-earned cash on dud new development investment properties.

We would never recommend new build units anyway from a risk management perspective - they are too expensive and inherently lacking in scarcity value - but we cannot be any clearer on this point at this stage of the cycle. Too risky.

The Block?

Just as an infestation of cookery shows in Australia has paradoxically coincided with a record boom in the consumption of takeaway food, similarly the glut of TV renovation shows has not led to an equivalent uptick in major home renovations.

There have been many murmurings of a boom in renovation intentions but this is not to be evidenced here in the "Alterations & Additions" data, reflected by the moribund trend in the green line of the above chart.

The Housing Industry Association (HIA) forecasts a miserly 2 percent increase in renovations work in the year ahead following on from a 0.9 percent increase over the past year. 

"Every little helps" from a macro-economic perspective, of course, but as the above charts clearly demonstrate these renovations numbers are merely a drop in a very large ocean of construction spend as compared to the forthcoming declines in engineering work to be completed.

Part 4 - Residential Building by State

Lastly for today, a glance at residential building by dwelling type at the state level. We already know that Victoria has been building huge numbers of new houses as compared to elsewhere, but new detached house building has now surreptitiously tiptoed past its cyclical peak.

As you can see from the chart below, it is new units and apartments which are the greatest risk area for this residential property market cycle, as developers construct unprecedented volumes of attached dwelling stock.

With apartment construction hitting record heights there will also inevitably be a glut of new stock to be sold on by commission-hungry agents. Caveat emptor!

Our previous detailed analysis of the data including here and here has shown that apartment approvals in Sydney have long since rolled over and accelerating Greater Sydney population growth reduces oversupply risk on a city-wide basis to some extent, despite some pockets of new stock over-supply (cf. CBD, inner south). 

However, it must also be observed here that with unprecedented construction of attached dwelling stock set to take place through the 2-3 years ahead, particularly in Brisbane, Melbourne, Perth and Sydney, but also elsewhere, there will inevitably be some blood spilt down the track for a substantial number of today's purchasers of new and off-the-plan properties.

Scarcity Value

Always remember that, as in any asset class, buyers of and investors in residential property should look to purchase an asset with an element of scarcity value.

In this respect, with building approvals breaking record highs in 2014 - a glut of new supply being precisely the polar opposite of scarcity - and the price of new stock at sky high levels, it is therefore almost by definition the most risk-laden time to buy new property that we have yet seen.

One of the many problems with new build investments is that all too often the choice boils down to an over-priced house (as compared to established stock) in a fringe suburb where few people want to live, which is a poor investment, or an over-priced apartment in an suburb which is set to be flooded with new apartments, which is frequently an even worse prospect.

Alas there will forever be some nailed on guaranteed winners from this phase of the construction cycle, including the developers who have long land-banked their own gains from key development sites, and the so-termed 'investment advisers' plundering thumping sales commissions on new stock.

Scant consolation to be found for those at the end of the food chain who lose out, though.

Tuesday, 25 November 2014

Confidence Up - Consumption to Follow?

Weekly consumer confidence increased to 114.3 points on the ANZ-Roy Morgan confidence rating to be above the long run average level.

Source: Roy Morgan

As noted the other day, in a speech last week the Reserve Bank considers a recovery will run in the following order:

"The central bank runs its models using history as a guide, and the Board believes that a recovery will proceed from household expenditure to business investment to labour market conditions, in that order."

The Roy Morgan index implies that a pick-up in consumption will follow, so it will be interesting to see how the Christmas period track in terms of retail sentiment.

Our chart packs have shown that New South Wales already has been experiencing boom-like condition in retail over the past year, both in turnover and chain volume measures terms.

However, an economic slowdown in several other states has dulled the overall picture for Australia.

Outside Chance of More Easing?

The next Reserve Bank of Australia (RBA) Board Meeting is coming up on December 2, and unsurprisingly futures markets have all but discounted any chance of a pre-Xmas interest rate cut.

December 2014 30 Day Interbank Cash Rate Futures contracts are trading at 97.505 implying that a cut in December is effectively a "moonshot" at about a 1 in 50 chance. 

No shocks there.

However, while most institutions are sticking with their forecasts for a hike some time late next year, a couple of notable forecasters have amended their 2014 forecasts to build in the expectation of a further cut in this cycle.

Futures markets haven't gone that far yet but September and October contracts have traded at settlements of 97.605, in turn implying yields of only 2.395.

On balance rate cuts are still considered to be done for this cycle, but the odds of another cut are considered greater than they were a couple of months ago.

The Value of UK Housing Stock 2004-2014

UK Housing Stock +57 percent

Two interesting infographics I prepared to illustrate a key point about house and land values.

Below is the total value of UK housing stock in 2004 at £3.22 trillion.

London (16 percent) and the south-east (19 percent) have always made up a sizeable chunk of the total value of Britain's housing stock.

Of course, over individual years certain regions may fare better than others, but over the longer term certain trends should be observable.

Roll forward a decade to 2014 and we see that with the exception of Scotland, most British regions have seen the total value of their housing stock increase by a compounding rate of a surprisingly consistent 3-4 percent per annum.

Broadly speaking, housing across the country boomed and then receded, but housing in most regions has done little more than track inflation, with the retail prices index increasing by 37 percent over the same time horizon.

Variances by Region

In regions such as the East Midlands and the North East, the value of housing stock has increased at less than the rate of inflation over the past decade at 32 and 33 percent respectively.

The total value of UK housing stock has risen from £3.22 trillion to £5.02 trillion over the past decade, mainly driven by the capital city of London, which now accounts for nearly 23 percent of the total value of housing stock - a huge increase.

Where demand is high but there is a reasonable amount of land made available for development in the South-East of England, the value of housing stock has appreciated at around 4.5 percent per annum over the past decade.

Where the demand is highest but the supply of land is all but fixed - within the green belt in London - the total value of housing stock has increased at close to 8 percent per annum over the last decade.

In Prime Central London the numbers are significantly higher again at more than 10 percent per annum.

There are, of course, all manner of theories pushed around the place when it comes to real estate.

At a high level, the basic crux of a functioning housing market is that if demand and then prices rise, new supply is then created which cools the market back towards equilibrium.

This is why Britain's regional markets have mostly now failed to appreciate much above the rate of inflation over a very long period of time.

However, where demand increases but land is finite, such as in central London, over the long term prices can outperform inflation, and indeed they have been doing just that over the decades.

London and the South East Drive Growth

In the past year the total value of housing stock has increased by 14 percent of £630 billion, but more than half of the increase was accounted for by London and the South-East alone, with values elsewhere relatively static.

Despite what some try to claim the increase in housing stock has not been driven exclusively by increases in UK household debt.

Far from it, in fact.

The increase in the value of housing stock has increased by more than four times the rate of increase in mortgage debt, and as such housing equity increased by £1.42 trillion or 61 percent over the decade to well over £3.7 trillion.

That is to say, the total value of housing stock (£5.02 trillion) is a massive £3.7 trillion higher than the total value of mortgage debt (£1.29 trillion). 

Drivers of equity growth include an inflow of foreign capital, particularly into London, and rising incomes over the first half of the decade.

The value of housing equity is heavily skewed towards London and the South East of England.

ABC Cuts 10 Percent of Staff (and SA Production)

ABC Cuts 10 Percent of Workforce

The  ABC network finally announced the details of its $254 million of cuts yesterday.

Despite the protests of Christopher Pyne that it must surely be cheaper to produce television programming in Adelaide rather than Ultimo (i.e. inner Sydney), the ABC proceeded to announced that television production in Adelaide would be terminated.

Kate Ellis MP also voiced her concerns about the "devastating impact" on Adelaide and South Australia, issuing a media release stating that the state had been let down by Tony Abbott and Pyne.

"Abbott Government cuts to the ABC will have a devastating impact on South Australia with confirmation today of the closure of South Australia's TV production, the closure of the Port Augusta regional office, and a massive loss of local jobs."

Indeed, this is a point of concern which we have been highlighting on this blog page for a very long time - Adelaide needs reinvigoration, job creation, investment and infrastructure. Absolutely the last thing it needs is more cuts.

Our analysis of the recently released State Accounts showed that a combination of public sector payrises and exports have just about kept the state's nose above water, but only just, with annualised Gross State Product and State Final Demand failing to show many convincing signs of life.

Employment Growth Stall

This could never be good news at any time, but this is exactly the opposite of the type of news which Adelaide needs in its current situation.

The Productivity Commission has already reported on the likely impact of the shuttering of the automobile manufacture industry which is expected to cost a devastating 40,000 jobs, with South Australia and Victoria the areas to be severely impacted.

Other reports have stated that the economies and employment markets of Adelaide and Melbourne could take until 2025 or even 2027 to recover from the job losses from the closure of the car manufacturing industry.

Total employment growth in Adelaide has already been negative for a period of time closing in on five full years, even before the impact of auto industry job losses takes its hold.

Regional Offices to Close

The ABC also announced that it will close its regional radio bureaus in Morwell, Nowra, Port Augusta, Gladstone and Wagin in favour of production in Sydney and Melbourne. Reports

"Among the other high-profile cuts: the Adelaide TV production studio will close, TV production in smaller states will wind down and be based in Sydney or Melbourne, and regional radio bureaus will be shut down in Wagin, Morwell, Gladstone, Port Augusta and Nowra."

The total number of resulting regional jobs losses is unlikely to be large, but this point is significant since it is very much reflective of a wider trend away from regional employment and towards the large capitals.

Regional employment in South Australia in aggregate has never recovered from the early 1990s recession as the chart above implies, there being more regional employment in the state in the late 1980s than there is today.

This is far from being only an issue for South Australia, however. As highlighted by the chart below the larger states have also failed to create regional employment over the past eight years – there were more full-time positions filled outside the respective state capitals in 2007 than there are today.

Right across our chart packs the data is revealing similar trends, with only Queensland and to some extent Western Australia producing any meaningful growth in regional employment of note in recent years.

Low Mortgage Defaults

The level of impaired loans across bank mortgage loan books is remarkably low at the present time, a point reinforced by the recent Q3 results reported by monoline mortgage insurer Genworth, as we looked at in some detail here.

In part this is thanks to prevailing low interest rates and the stress tests enforced by lenders in Australia. Consider the following points made by Bill Evans of Westpac in this recent enlightening Business Spectator Article:
  • 65 percent of property investors with Westpac loans are ahead on their repayments
  • 90 plus day delinquencies are just 0.47 percent for the portfolio and only 0.37 percent for investor loans
  • Westpac uses a serviceability buffer of 180 basis points over the standard mortgage rate of 5 percent
This is welcome news, especially since there is very little realistic prospect of there being even 25bps of interest rate hikes on the immediate horizon, let alone 180bps.

Concluded Evans:

"Overall, lenders are adopting prudent lending practices...the case for Australia’s property markets being unbalanced due to excessive investor activity is not strong. In time I expect that the RBA will also reach such reasonable conclusions."

Unemployment and Credit Report Risk

One of the factors which can cause mortgage defaults and thus property markets to unravel – high interest rates – is decisively off the table for the foreseeable future.

As one might expect to be the case through a real estate cycle, while property owners are presently benefiting from low interest rates, the trade-off is that one of the other main factors which can cause a material property correction, a weakened labour market, clearly is in evidence...particularly in certain regions of Australia.

Note that we’re not saying here that there is necessarily any cause for panic or scaremongering (regularly accused of this), rather than one should keep a very close track on unemployment rates around Australia, since the general trend has been up over recent years.

Moreover, the property advisory sector is chock-a-block full of vested interests who all too rarely highlights risk areas such as rising unemployment rates to potential buyers of real estate.

Last week I looked in some detail at how a few of the regions of Australia have unemployment rates which are running too high for comfort.

Highlighting many of the very same regions as my blog post last week, this week Veda released its Australian Credit Scorecard listing - featuring prominently in its Top 10 Worst Regions for Potential Credit Default in Australia: Logan-Beaudesert (1st in the country), Ipswich (2nd in the country) and Moreton Bay (4th in country).

Of perhaps less significance, all of the top regions for credit scores were located in Sydney and Melbourne.

Not a lot more to say on that except that rising regional unemployment is definitely an issue to keep a close eye on. Listed below are a few regions which might warrant a glance.