So we all know that COVID-19 has caused havoc on the Australian, and global, share markets. But what about property? Here in Australia we love our bricks and mortar but is our love for owning property about to bite us in the bum?
There is no doubt that the recent occurrence of COVID-19 has the potential to place pressure on property prices in Australia with some experts predicting a 30% decline over 12 months. To work out where the pressure lies, and understand the impact this could have on prices, we need to go back to basic supply and demand metrics and consider some of the underlying factors that typically drive property prices.
One of the biggest factors that drives property prices is unemployment and it’s a simple connection – if people have jobs they can afford to buy houses, if people don’t have jobs they can’t afford houses.
Unemployment in Australia is currently sitting at 5.2% as at March 2020 but this is expected to go up quite drastically. The department of treasury is expecting this figure to increase to 10% over the next 3 months as a result of COVID-19.
The issue however with unemployment is the way that the figures are calculated. You are classified as employed if you work one hour per week! So the real concern here is underemployment. A lot of people are not working at their full capacity and, as a result, earning a lot less than they would like. The governments Jobkeeper payments, although a fantastic lifeline for many people and businesses, are adding to the underemployment.
So with an increase in unemployment and underemployment on the cards, this will likely reduce demand for property. Lower demand would typically equate to a drop in prices. The real issue would come if high unemployment and underemployment continues for an extended period of time (over 6 months) causing people to start defaulting on mortgage repayments.
At the moment, most homeowners that have lost their income have the ability to freeze their mortgage repayments and capitalise the interest costs. But this is only a short-term measure, a band aid fix if you will. If interest gets capitalised too long, there will be no equity left in the property and people will start defaulting on loans.
This would see a flood of houses put onto the market by lenders who desperately try to recoup their capital leading to an oversupply of properties when demand is low. A recipe for disaster.
As a result of COVID-19 there has been a nation-wide moratorium on residential evictions for 6 months. What this basically means is that if you have a rental property and the tenant can’t afford to pay you rent due to COVID-19, you can’t kick them out for 6 months.
Now the tenant doesn’t just get a free ride, each state has their own policies, but essentially there needs to be a negotiation between landlord and tenant on how much the rent is going to reduce during this time and how they are going to pay back the lost rent.
Now again, this is potentially negative for property prices. I have seen a lot of people’s financials who own rental properties and there is a common trend – they typically carry lot’s of debt against their properties.
You see, the old way to get filthy rich was to borrow as much as you can, buy a property with it, claim the tax benefits, wait for the property to double in value, sell the property, pay out the debt and be left with lots of money. Rinse and repeat. This strategy doesn’t work these days and yet a lot of people still run with it!
Many landlords can’t afford to take a cut in rent, especially not for 6 months. This may lead some owners to sell their property. Again, this could cause an oversupply in the market when demand is already low which would push property prices down.
Auction clearance rates
When looking at the health of the property market it can sometimes be handy to consider the auction clearance rates. This represents the number of properties that went to auction and sold.
Typically, it’s considered that when auction clearance rates are above 70%, it’s a sellers’ market. Demand is exceeding supply and property prices are strong. Recent figures released show that nation wide in Australia, our auction clearance figures have dropped to 35% which is near an all-time low.
This suggests that not only is it a buyers’ market at the moment but also there are very few buyers at the current prices, suggesting we will see prices eventually drop to meet the market.
Furthermore, we are seeing a huge number of auction withdrawals where sellers had their property ready to go to auction and cancelled it. However, these figures may be heavily skewed by the fact that people simply do not want strangers going through their house in fear of catching the virus.
Potential credit squeeze
A credit squeeze basically refers to the inability to obtain finance and there are a number of factors that can contribute to a credit squeeze.
Firstly, banks have a requirement to maintain a minimum level of capital for every dollar they lend out. We have recently seen reports coming out from the big banks saying that they are feeling the impact of COVID-19 with Westpac announcing it has $2.2 billion in impairment charges. This is basically bad debt that they are writing off the books.
When a lender suffers a loss like this, it reduces the pool of money they have available to lend out which creates the credit squeeze.
Now there are many things that both the banks and government can do to avoid a credit squeeze but this is a very real scenario we are facing and if a credit squeeze does happen, people will be able to borrow less money. Borrowing less money means less funds available to spend on a house, pushing property prices down.
In addition to the credit squeeze caused by reduced availability of funds on the lenders side, you have borrowers ability to borrow reduce due to a drop in income. As mentioned previously, unemployment and underemployment are rising which means people’s serviceability has dropped. Less serviceability means smaller loans, less money to spend on houses – you get the drift…
Population growth is a key driver of property prices. The more people that live in a country, the more demand there is for housing. In Australia, we have historically had an influx of people from other countries moving over to lay down roots.
But with the world in lock down due to COVID-19 I think it is safe to say that the level of immigration will drop. The is so much uncertainty in the world at present that people are basically doing nothing. There is too much risk to venture into the unknown at this point in time.
So we can’t rely on migration to increase demand for housing until COVID-19 is over and people start to travel again. Who knows when that will be?!
Are there any positives for the housing market?
It is all looking pretty doom and gloom for property prices but let’s consider some of the positives. First of all, Australian’s love property. It’s a well-known fact that as Aussies we like the comfort of pooping in our own toilet.
If property prices drop, many who do have money and income will see this as an opportunity and will jump in with some purchases. At some price level, demand will come back to the market. The question is, how far could it drop before this demand hits.
Secondly, governments and the Reserve Bank of Australia (RBA) will intervene with measures to keep property prices stable. We have already seen two drops in interest rates since COVID-19 hit making borrowing the cheapest it has ever been. Some state governments are also looking at removing stamp duty with Victoria leading the charge and there is also talk about increasing first home buyer benefits to entice young people to enter the market.
Finally, as bad as it might seem now, COVID-19 is a temporary issue. In the medium to long-term, I have absolute faith that we will find a vaccine for this virus and it will no longer torment us. There is going to be an economic hangover from this virus with less jobs, lower consumer confidence, etc but eventually we will return to a more normal buying pattern.
All of this is good for demand and will support property prices.
What should you do?
Everyone’s situation is different so there is no one blanket response suitable to this question. However, what I would say as a general response is this….
If you are thinking about buying a property, just be patient. Whether you are buying as an investment or as an owner-occupied place of residence, there is no need to rush in at this stage. Personally, I would be holding off for at least 6 to 12 months while I continue to accumulate cash and reassess where things are at later down the track.
If the virus ends, and people go back to work fairly quickly, then property prices will not likely fall much at all. But if the virus lingers and we remain in this high unemployment, low economic growth, environment for an extended period then I do believe property prices will come materially down.
If you already own property, don’t sell in panic! Like with most growth asset classes, the only time a price drop becomes a reality is when you sell. This crystallises the loss. Buying and selling property is an expensive exercise, there are lots of costs that come with it, so you don’t want to be making large decisions to sell based purely on speculation.