Sydney’s Spring 2010 residential property market – a bubble ready to burst?

Driven by cold weather, a never ending Federal election and lingering uncertainty about the global economy, much of the Sydney residential property market has been in a holding pattern for the last six weeks. Media reports of rising auction clearance rates during that period masked a generally low underlying turnover.

Even a swag of positive economic data, stable interest rates, the continuing minerals boom and a generally robust profit reporting season failed to entice buyers to take up an ever increasing supply of on and off market properties especially in the $2 million plus bracket.

As that trend is set to continue, one thing is at least certain: the Spring time pressure on Sydney’s prestige residential prices will be downwards. Whether or not the result will be a buyers’ market at the top end of the Sydney property market will also depend on the motivation of vendors to meet that market. With little evidence of vendors under financial stress and school holidays looming, the most likely outcome this Christmas will be a continuation of relatively low sales volumes.

With more time than usual on their hands, a variety of mainstream commentators made their annual pilgrimage to the topic of housing affordability and the possibility of there being a Sydney house price bubble.

This year they seized upon a remark in the 10 July 2010 edition of The Economist that “… based on comparing the current ratio of house prices to rents with its long term average…Australian property is the most overvalued of any of the 20 countries we track“.

Others, such as Gerard Minack, a senior economist at Morgan Stanley jumped in with predictions not of a bursting bubble as he predicted (wrongly) two years ago, but of a gradual deflation as banks tightened credit and negatively geared investors quit the property market disillusioned with low capital appreciation.

While a tightening of credit remains the most credible of those risks, quite why there would be such an exodus given the increases in rental returns over time as a result of an apparently insoluble housing shortage, was not explained.

Sydney’s residential property prices are undoubtedly high even by international standards. However, the fact that Sydney’s real estate market has consistently defied such predictions and even did so during the worst of the GFC now begins to undermine the credibility of the doomsayers’ position.

For Sydney’s real estate market, the GFC was an extreme stress test. Given that Government housing stimulus packages during the crisis were relevant only to first home buyers, why did prices elsewhere in the Sydney property market not collapse? Would the explanation not provide the most reliable guide as to the longer term direction of Sydney property prices?

In the view of CurtiseCall and irrespective of this being the publication of Curtis Associates which has a vested interest in that market, the objective answer to the latter question must be yes.

For a variety of reasons, some positive and others negative, the Sydney property market possesses features more conducive to price rises than falls.

On the positive side, Sydney’s population is expected to continue increasing, while unemployment and interest rates are relatively low as they were during the GFC. In addition, Australia’s well regulated and prudential banking system also helped it escape the worst ravages of the GFC. That system remains a permanent feature of Australia’s financial landscape as does the convention of extracting personal covenants from borrowers which serves as a restraint on excessive individual gearing. In other words, unlike the US, borrowers can not just hand in the keys when the going gets tough.

On the negative side and as discussed in CurtiseCall – April 2010 , a lack of transparency and poor information flows contribute to an inefficiency as does the apparently insoluble housing shortage mentioned earlier.

Much of the latter problem is caused by expensive, inefficient and often corrupt planning processes. The extent of this problem is exposed in a recently released study commissioned by NSW Treasury showing a fall in the number of new dwellings completed in Sydney from 32,358 in 1999 – 2000 to 14,795 in 2007 – 2008. The same report estimates that to meet demand, Sydney will need 25,000 – 50,000 new homes annually.

Perhaps the last word on this topic belongs to the Nobel prize winning economist Professor Joseph Stiglitz who, during a local briefing on 5 August 2010, had some things to say about high Australian housing prices. Both his language and analysis were inconsistent with there being an Australian house price bubble about to burst.

According to Professor Stiglitz, “[t]here is the beginning of a cause of concern and it would probably be prudent [for the central banker] to take some actions“.

In addition to this concern being at its beginning, its cause is not the presently high Australian property prices but the possible impact of the minerals boom on future housing prices because natural resources booms can cause an “expansion of the non trading sector, in particular, real estate and real estate bubbles“.