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That Sinking Feeling

Date: 05/12/2018

Have you heard the gag about property values? The one that says ‘prices only ever go up’? Well, according to Roy Morgan research, nearly 1 in 10 Australian households certainly aren’t laughing. That’s the number of Aussie mortgage holders who are thought to now have negative equity in their homes.

Negative equity describes the horrible financial scenario where your loan exceeds the value of your property, meaning that if you were to sell, you’d have to chip in money in order to move on. The combination of negative equity and negative cashflow (that is, when the expenses are higher than the rental income) is usually a precursor to a devastating financial outcome.

The graph below shows how the situation has deteriorated in the past twelve months and reveals that every state except Queensland is now experiencing more situations of negative equity than last year, with WA and SA leading the charge.

Source: Roy Morgan

First homebuyers are thought to be most at risk; mainly those that borrowed aggressively to get into the market and had only a small amount of  ‘equity’ at the time of purchase. Whatever margin they had has since been gobbled up by values falling faster than their mortgage balance.

Liberal Woes

You probably saw that the opposition Liberal Party was smashed in the Victorian State election, suffering a defeat thought to be amongst its worst in the past 74 years. The Federal Government, which is now being overseen by a minority Liberal government, is surely living on borrowed time.

Federal Labor, now almost certain to win the next Federal election in a landslide, have policies pertaining to negative gearing and the wind-back of the capital gains tax discount.

If you thought they might change their opinion in the midst of falling property prices, think again. Backed by a paper titled Levelling the Playing Field – The Economic Case For Reforming Negative Gearing the think-tank that provided Labor with its basis for changing the negative gearing rules concluded that, despite recent property value declines:

After considering the facts, this report concludes that the policy is still the most appropriate approach to reforming negative gearing. It will level the playing field between owner-occupiers and investors, bolster financial stability, improve the budget bottom line, and encourage new construction.

Hope On The Horizon?

With the property market flat lining, who (or what) will be our saviour?

The REIA is calling for urgent ‘property CPR’ in the form of winding back the laws and fees that are currently a disincentive to foreign buyers purchasing real estate. The REIA believes we need to coax them back in order to breathe new life into the flagging property market.  Times, and commissions, must be grim!

It won’t be the findings of the Royal Commission into bad banking behaviour. ANZ Chief Exec Shayne Elliott recently conceded that the maximum amount banks would lend an average household for a mortgage had fallen by about $110,000 or 20 percent in the last three years. Reduced borrowing capacity equals less money available to purchase property, which equals downward pressure on property prices.

One lesson we can learn from what happened in the US is that when liquidity froze, as it did in 2007, it took years to thaw. We ought to expect harder lending conditions for at least 12 months, and realistically quite a lot longer than that, from when the Royal Commission hands down its findings in February 2019.

Is There Any Christmas Cheer?

Perhaps the one bright spot on what might otherwise be a miserable Christmas for property investors is the announcement that Rio are going ahead with a new $3.5b mine in WA. This will stimulate WA jobs, not only at the mine, but also with respect to trickle down industries such as contractors, consultants, etc. Oh happy days!  Viva la Perth!

What’s Ahead For 2019?

As I said back in my market update earlier in the year, if I was a risk averse investor looking for medium term generic gains (i.e. market appreciation), I’d focus on Brisbane, then Adelaide, then Perth. Melbourne and Sydney are off the list for the short term. Hobart is running too hot for me to want to take that risk. Here’s some guidance on what to target, and why:

If you are looking to invest, then remember that, in order to make money from capital appreciation, someone will have to pay you more for it tomorrow then you are paying today.

  1. Affordability

    Target areas where you have sufficient deposit and borrowing ability to buy, without placing yourself in excessive financial stress.

  2. Houses, not homes

    Buy the ugliest house, in the best street, as close to town or a train station that you can afford. Later add value by turning the house into a home.

  3. Scarcity

    Buy where there are features or amenities that are not valued highly today, but will be appealing tomorrow. Examples include new roads, planned train stations, job opportunities, proximity to amenities, etc.

Merry Christmas

As this is my last article for 2018, let me finish up by saying that I truly hope that you and your loved ones experience a peaceful blessed Christmas, and a happy New Year. See you in 2019.

Regards,

– Steve McKnight

P.S. Remember that if you’d like to hear from me more often then be sure to connect with me at PropertyInvesting.com’s Facebook page. I regularly post links to interesting articles and provide my thoughts and comments on newsworthy things I see.

Profile photo of Steve McKnight

By Steve McKnight

Steve McKnight, the founder of PropertyInvesting.com, is a respected property investing authority as well as Australia's #1 best-selling business author.

Comments

  1. Profile photo of Richard M

    Thank you for a wonderful year Steve!!

    All your insights and selfless actions continue to guide our community. The community you started.
    Thank you for everything.

    Merry Christmas to you and your Family!!

  2. Gary Mitchell

    Thanks for all your insights over the last year.
    Hope you, your family and all the other investors have a good Xmas and a brighter new year.
    Remember don’t loose your nerve just try to stay in front of the game.

  3. Franz

    Thanks Steve for all your efforts and sharing your extensive knowledge

    Merry Xmas and Happy New Year to you and your family

  4. Brad

    Thanks Steve.

    As always your articles are on point! Have really enjoyed reading your pieces and insights throughout the year. Keep them coming.

    Plenty of opportunity for those holding cash in the near future one suspects.

    Merry Christmas!

  5. Steve

    Thanks Steve,

    This may have been addressed somewhere…
    If I understand correctly, falling property values makes for a buyer’s market. But buyers are finding it increasingly difficult to get finance or borrow more (maximum lend fallen about 20% and reduced equity to borrow against.)
    What does that mean for rental prices/returns? Is it a case of less able to buy, therefore more having to rent, therefore putting upward pressure on rentals?

    • Profile photo of Benny

      Hi Steve,
      “What does that mean for rental prices/returns?”
      That’s a good question. Your comment “with less people able to buy, they must rent, thus rents may well climb” sounds good in theory. To my mind though, there are several other considerations that will impact at this time, so maybe not so clearcut.

      If/when things go really bad, many might move in with others (back to their parents, or share a house with someone else – siblings/friends). That would affect demand for rentals adversely – moving out of existing tenancies, leaving some landlords scratching to get tenants.

      Then again, depending on “what else happens in the near future” politically, we might end up with the axeing of Negative Gearing – and that might see a quick surge in investors buying up ahead of any “grandfathering date” (leading to lower rents initially?) but then perhaps a drop in investors providing rentals – and that can only lead to an under-supply, thus a rent rise.

      If history is to repeat itself, it will likely be a year or two of austerity in the “bank loans arena” before something else changes and they relax their parameters to allow more borrowing. See, a bank is there to “lend money”, so if they are finding too few are borrowing, they will be looking for an angle to allow their mortgage books to fill up again.

      It sounds like being an interesting time in the cycle.
      Benny

  6. Profile photo of Jason

    The tide has turned.
    Thanks for your wonderful insights and education throughout 2018
    I look forward to you continuing to share your wisdom and education in 2019 and beyond
    All the best to you and your family over the Festive season
    Cheers,
    Jason

  7. Sam

    Hi Steve, some wise words in that article there, lending practices will be a lot tighter for a while like you said, 2019 will be an interesting year to keep an eye on especially post the royal commission reports. Merry Christmas to you and family for 2019 mate, thanks for all the articles and free webinars this year!

  8. Profile photo of ducduc63

    These investors used the market, told themselves they knew what they were doing, and MUST suffer the market results just as much as when they were diving in to demand their profits when it was going their way! I’m more than a little afraid – almost terrified in fact – that whoever IS in govt when it does really go south (I don’t think it has yet) will to try to buy back public opinion and start throwing yours and my taxpayer money at people who are losing their investments. The graph above shows these losses are already building up. How long before they all cry foul in west-Syd/Mel and demand some assistance, like tax breaks or low interest govt loans? Which means every taxpayer will be forced to donate to overly-greedy low-skilled investors who jumped on the neg-gear bandwagon. I have zero sympathy for people who went in way beyond their means to a market they didn’t understand. Neg-gearing has almost destroyed our housing market, built on the paper profits of existing properties. When they go to sell as so many will when they want their retirement money, and find there is no local money left, opening up to more overseas buyers just so those investors can avoid losses and maintain the unrealistic price is not going to help. The REIA is not a voice for our next generation of home ownership. And govt, having already contributed to this situation, needs to stay out of it. Hopefully the lessons will bite and the next generation will find a market again.

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