Worse Than the 1989 Recession?
Australian Property Market Update
5 December, 2018
Doom and gloom in the media over falling house prices is escalating, with one media outlet headline warning, “Sydney housing downturn to eclipse 1989 recession.”
Wow, that sounds ominous! Is it fear porn, or are we truly headed toward a level of housing market pain equivalent to a 17 percent interest rate? Let’s breakdown the latest stats and assess what it would take for the market to devolve to such a low point.
The Auction Market
If our auction market is any indication, perhaps we are headed back to 1989.
At first glance, this week’s nationwide preliminary clearance rate of 47 percent seems to be an improvement on last week’s final result of 42 percent. However, last week’s preliminary result was essentially the same as this week (46.9 percent) on similar volume (around 2700) before being adjusted down a massive 499 basis points once all the results were counted.
This shows us that agents are still desperately trying to manage public sentiment amidst an ailing housing market by selectively reporting early auction results to soften the Monday morning headlines. It stands to reason then that this week’s final clearance rate will be back in the low-40s by the time Thursday rolls around.
They may fall even further in the Autumn. As you can see below in the chart from Corelogic , auction clearance rates are still trending down pretty hard, which means we may see auction clearance rates in the 30s before too long.
Sydney is currently sitting around the mid-40s, but according to an SQM Research report, there has only been three times in history when the clearance rate there fell into the 30s:
- October/November 2008 during the GFC
- May 2004 after the NSW vendor stamp duty was introduced
- July 1989 when the RBA cash rate hit 17 percent
Just because we see auction clearance rates in the 30s does not mean we are headed to property investor purgatory. After all, the GFC was just a minor blip on the radar. But agents there will be doing everything they can to manage buyer sentiment amidst the dark headlines in the media.
Here are the latest preliminary auction results from CoreLogic:
Expect the final result to be reported on Thursday to look more like last week’s final result detailed below:
How Low Can We Go?
While there’s a lot of talk at the moment about auction clearance rates trending toward the 30s, all we really need for home prices in Sydney and Melbourne to be falling is an auction clearance rate in the 40’s. Anything below 50 percent has historically meant a downward trend.
In light of weak demand and burgeoning supply, the median dwelling price in Sydney has now fallen about 8 percent in the last twelve months, down 9.5 percent from the peak 17 months ago. Melbourne home prices have fallen nearly 6 percent.
How does that compare to the housing market woes during the 1989 recession? It just so happens Sydney’s record house price falls occurred during that time (between 1989 and 1991). The total decline was… wait for it… 9.6 percent (essentially where we are now). Give it another month, and we will have surpassed the Sydney dwelling price declines of our last recession.
But across the rest of the country, it’s not so bad. Here’s what house prices movements are looking like in our other capital cities, according to CoreLogic’s metric:
While anyone who bought in Sydney or Melbourne a year ago is likely feeling a little anxious, we need to keep in mind that after such rapid growth outpacing inflation, we were due for a pullback. Hopefully this will be a much-needed wake-call to investors to remember the fundamentals of affordability (wage growth vs. house price growth) and understand the role cheap credit plays in the housing market.
In the News…
RBA Cash Rate on Hold Though Lending Data Looks Bleak
The RBA Board met yesterday and decided to leave the cash rate on hold for a 28th consecutive month, despite some less than stellar credit growth statistics. The next monetary policy decision will be on the first Tuesday of February.
The RBA’s October Financial Aggregate data (the amount of credit provided by Aussie lenders) was released last week. It’s not good news for the housing market, but there are no surprises there. Total housing credit growth figures are at the weakest point since July 1984, increasing only 0.3 percent in October.
For a deep dive into the RBA’s housing credit data, check out Corelogic’s report.
Saxo Bank Imagines the Ultimate Armageddon Scenario
Back to the topic of doom and gloom headlines… Danish Saxo Bank wins the award for most creative economic hell-on-earth scenario for the Great Southland. It’s a fun read. The Aussie bit starts on page 15 of the Outrageous Prediction 2019 report.
Here are a few of the highlights…
“The confluence of dramatic restrictions in credit growth, oversupply, government filibusters and a slowdown in global growth delivering an exogenous shock cement the doom loop; property prices Down Under crashing by 50%.”
“Australia falls into recession for the first time in 27 years as the plunge in property prices destroys household wealth and consumer spending.”
“Governor Lowe’s hand is forced toward unconventional monetary policy and he implements QE1 Down Under.”
The crazy part about the report is that it doesn’t actually sound all that far-fetched! OK, maybe the 50 percent price fall is a little extreme.
Bond Market Tipped to Push Interest Rates Higher
Whether we end up back in 1989 in terms of economic pain will likely depend on where variable mortgage rates go from here.
The Federal Open Market Committee (FOMC), that’s the Federal Reserve equivalent of the RBA Board, will be meeting in about two weeks to decide whether to raise its target funds rate. Most economists expect the Fed to hike rates at that meeting, which means the Fed will be buying fewer bonds.
This effectively causes bond prices to fall and bond yields to rise. The knock-on effect tends to be an increase in wholesale lending rates for Aussie banks, which in turn leads to rising borrowing costs for Aussie borrowers. As interest rates rise here at home – well – you know where that leads.
Is It Really Worse Than the 1989 Recession?
Earlier in the year, Steve McKnight and I sat in his office and worked out what it might take in the economy today for households to experience a similar level of pain as 1989.
Back then, the cash rate rose to 17 percent and variable mortgage rates spiked into the low-20 percent range. That seems completely out of the realm of possibility today, so no dramas, right?
Well, not exactly. Home prices have risen a lot since then, but wages haven’t quite kept pace. As Australians have taken on more and more debt, with less and less discretionary income to absorb increases in interest rates, our economy has become more fragile. This means that interest rates don’t actually need to rise to 17 percent for Aussies to experience a 1989-level of mortgage stress.
In the end, after Steve and I crunched the numbers, we worked out that the standard variable mortgage rate would only need to rise about two percent, to around 6.5 percent, for mortgage holders in Melbourne and Sydney to feel the same pain as borrowers felt in 1989, when interest rates were over 17 percent.
Just in case you missed that… 17+ percent in 1989 = 6.5 percent in 2019.
If you’re interested, here’s a screenshot of the numbers we came up with…
So is the housing market really looking worse than the 1989 recession? Nah; we’ve still got room for interest rates to move a little higher.