Autumn 2024. Lots to consider for Sydney property buyers.

The macro market

This is just a handful of the conflicting media extracts in the past quarter and just before tomorrow’s Federal budget:

Objective data say things aren’t so bad for top end Sydney property buyers

While there are justifiable concerns about Australia’s poor productivity and well founded scepticism about the bullish official 3.9% unemployment rate announced by the Australian Bureau of Statistics (ABS) on 19 April 2024, even the bears don’t dispute these later ABS statistics:

“In March 2024 in seasonally adjusted terms, the value of new loan commitments:

• for total housing rose 3.1% to $27.6b, after a rise of 1.9% in February. It was 17.9% higher compared to a year ago.
• for owner-occupier housing rose 2.8% to $17.5b and was 11.4% higher compared to a year ago
• for investor housing rose 3.8% to $10.2b and was 31.1% higher compared to a year ago”.

Similarly, the evidence based and reputable Herron Todd White’s April 2024 Monthly Clock shows Sydney as “rising market[s]” for houses and units which is consistent with the 8.7% increase for Sydney in the 12 months to 30 April 2024 recorded by the Core Logic Home Value Index where …”low supply trumps high interest rates and inflation.”

And for the 12 months to 30 April 2024, the also reputable SQM Research recorded increases of 7.2% and 5.9% in asking prices for Sydney houses and units respectively.

As even notorious bear, Christopher Joye acknowledges in the same AFR article quoted earlier:

“…[In contrast to the 1991 Australian recession] it will mainly affect unregulated non-bank lenders and private credit portfolios due to the fact that regulators have forced most sub-prime borrowers out of the banking system into the arms of non-banks after the last crisis.

It also signals a two-speed economy: while most firms are healthy, those that predicated their business models on the ongoing availability of cheap money, and the sustenance of very low interest rates, are slowly but surely getting asphyxiated. [emphasis ours].

The same dynamics are emerging in the household sector. While banks are reporting only a modest bump in home loan arrears, our tracking of securitised home loans issued by non-banks has highlighted a striking increase in defaults to historically elevated levels”.

The results published on 9 May 20124 by the Nation’s biggest lender, CBA, reinforce the modesty of that “bump” as summarised in that day’s AFR “ Home loans in arrears rose from 0.52 per cent to 0.61 per cent over the quarter, but this remains below the historical average of 0.65 per cent. CBA has a total of $8 billion of impaired loans, up from $6.9 billion at the end of December but only 0.56 per cent of its total loan book”.

It remains to be seen whether the RBA’s hawkish tone when keeping interest rates on hold on 7 May 2024 will curb buyer enthusiasm especially in the sub $3 million Sydney property market where anecdotal evidence is emerging of redundancies especially at middle management levels which is likely contributing to the buyer cautiousness we’ve seen.

In any event and as arch bear MACROBUSINESS even agrees, only “roughly one-third of households [have] owner-occupier mortgage debt.”

Many of that one third have healthy mortgage off sets or debt free mortgages being kept on title for a rainy day or the next buying opportunity.

The majority two thirds are of course, cash buyers.

So much for our take on the relevant macroeconomic environment.

We now look at three micro topics on which we believe higher end Sydney residential and commercial property buyers should also be focusing.

Unsurprisingly, two of those three involve risks and opportunities caused by regulators.

What’s discussed below suggests nothing much has changed in the nearly five years since our The Regulator: friend or foe of Sydney property buyers newsletter.

The State Government’s re zoning scheme

After less than four months’ consultation and much publicity, on 29 April 2024, the State Government announced:

“The first stage of the NSW Government’s Transport Oriented Development (TOD) planning reforms is being delivered today, with the finalisation of the State Environmental Planning Policy (SEPP).

The new SEPP will amend planning controls around 37 well-located metro and rail stations, with 18 commencing immediately, helping to deliver more homes that are well designed and in well-located areas.

Over the next 15 years, this part of the TOD policy is estimated to deliver more than 170,000 new homes in mid-rise dwellings with new affordable homes, and apartment buildings that contain commercial space to create vibrant communities close to transport, services and jobs.

The NSW Government is committed to tackling the housing crisis. If we don’t build more houses, families will up and leave because they can’t afford a home in NSW…

The consultation resulted in the following planning controls:

• Permissibility – Allowing residential flat buildings in residential zones and local centre zones, along with shop top housing in local and commercial zones.
• Floor space ratio (FSR) – A maximum FSR of 2.5:1 has been set. This allows for buildings of up to 6 storeys while providing for landscaping, setback, privacy and open space standards to be met.
• Building Height – A 22m height for residential flat buildings to maintain design standards and a maximum building of 24m for buildings containing shop top housing, to accommodate commercial ceiling height.
• Lot size and width – Introduction of a minimum lot width of 21m and no minimum lot size.
• Street frontages – The inclusion of a clause which applies to local and commercial centres to consider active street frontages of buildings at the ground floor.
• Heritage – Applications involving heritage considerations will continue to be lodged with and assessed by councils. Councils are well placed to assess applications that might involve the removal of a non-contributory building to the heritage value of that area. Any new development needs to improve and enhance the heritage values of those locations.
• Affordable Housing – At least 2% mandatory affordable housing contribution, delivered onsite and in perpetuity for developments with a minimum Gross Floor Area of 2000sqm, managed by a Community Housing Provider. The rate will increase over time and will reflect market conditions.
• Apartment Design Guide (ADG) – The ADG will continue to be the principal guiding document for apartment development, including TOD developments…

The SEPP will be published today and will include maps for the first 18 TOD locations.

For the remaining locations where time for additional local planning has been provided, should councils fail to undertake local planning, nor provide equal or greater housing than proposed, the TOD SEPP will come into effect.

The majority of the sites will be in effect by December 2024.

From 13 May 2024, development applications (DAs) can be lodged on the NSW Planning Portal for sites around the first 18 metro and rail stations.

Councils will retain their existing assessment powers for development applications, allowing them to apply a merit-based assessment. Guidance and support is being provided to assist councils with their assessment of TOD development”.

Some of these changes align with initiatives already being taken by local Councils. For example and by way of updating our popular Collective-strata sales and some tips when buying strata title newsletter, even prior to TOD, Sydney City Council had resolved to begin the process of amending the local Development Control Plan to provide that the re-development of older strata blocks must result either in no net “dwelling” loss or no “dwelling” loss greater than 15%. With that initiative seemingly now mired in the State Government’s Gateway process, it threatens to clip developers’ wings if and when passed.

Elsewhere however, TOD and its future refinements have been and will continue to be controversial with Ku-ring-gai Council commencing proceedings against the NSW on 10 May 2024 challenging TOD’s validity owing to perceived impacts on Lindfield, Roseville, Killara and Gordon and the natural habitat.

Nor does TOD enjoy full bi partisan support with the State Opposition Leader, Mark Speakman saying “While these areas are earmarked for more than 175,000 new homes, the Minns government hasn’t put one cent forward for new schools, roads or parks to support the increased population.”

Assuming it survives these challenges, what effect will TOD have on the Sydney property market?

Understandably, many of our clients are asking the same question.

Our opinion echoes the majority view in the development industry as the SHM reported on 6 May 2024:

“[The State Government’s] figures are based on a planning metric known as theoretical capacity, which describes the ultimate number of dwellings that could be built if all subject land was developed to the maximum allowed by the new zoning… But Planning Institute of Australia policy director John Brockhoff said the figures were “magical” and the theoretical capacity of the sites was “meaningless”…

Emeritus professor Peter Phibbs said it would be “a miracle” if the TOD sites achieved two-thirds of the theoretical capacity…“They’ll never get to that number because that would mean everyone in those areas would have to sell their [land]…

“The difference between theoretical capacity and realistic capacity can be stark. A housing strategy prepared by Bayside Council in 2020 found the theoretical capacity of the area under its current planning controls was 23,873 homes, compared to a projected capacity of 16,609.

“Overall theoretical capacity assumes that 100 per cent of sites will be developed in the LGA. This is an unrealistic scenario as unknown constraints such as feasibility of redevelopment and landowner preferences means that not all sites will be re-developed,” the document said””.

The last word (for now at least!) belongs to the typically acerbic Alan Kohler as published in his recent and excellent Quarterly Essay “The Great Divide. Australia’s Housing Mess and How to Fix It”:

“As far as I can tell, the total number of houses “promised” during election campaigns by aspiring prime ministers between 1955 and 2022 is close to 9 million. According to the ABS, the total number of dwellings actually built in Australia since 1955 is 6.7 million. Shortfall: 2.3 million (page 36)…[T]he effort to squeeze more housing into a 50 kilometre radius from the CBD is really just an effort to avoid the cost of infrastructure. The trouble is, it won’t work. All the talk about medium density is just that – talk. It will never actually happen.” (page 83)

Botched infrastructure

For nearly a decade we have advised unaware buyers both about unfiltered ventilation stacks and the flaws in the design of Westconnex project funnelling as it now does, multiple lanes of traffic from all over Sydney on to the Anzac Bridge.

On 3 May 2024, former RTA boss, Paul Forward  gave this evidence to a parliamentary inquiry as reported in that day’s SMH:

“WestConnex had been designed to be sold off to the private sector as a toll road, and NSW Treasury was concerned with the cost of the project. Treasury wanted to “raise the most amount of money from that motorway”, Forward said.

“The models that we had looked at demonstrated that by pushing the traffic onto the Anzac Bridge, remember, you’ve got 14 lanes going into four on Anzac Bridge, actually generated more traffic on the motorway, which meant the motorway was more valuable as an asset to be sold,” he said.

While the Western Harbour Tunnel under construction is supposed to solve those issues, the latest concern is that this project will transfer the problem to the lower north shore.

Another witness, Les Wielinga, …”who retired as the head of Transport for NSW in 2013 after 41 years in the public service, also warned of another “bloody disaster” when the tunnel link to the Warringah Freeway opened, if the existing traffic congestion problems around Rozelle remained.

“You think you’ve got problems now [at Rozelle]. You wait if you don’t change this bloody intersection [at Warringah],” he said”.

With the notorious propensity of traffic to expand to fill new built expressway space and encourage toll evading rat runs through smaller local streets, we consider that this infrastructure fiasco will continue to have an impact on inner west property owners and buyers – especially those in Balmain, Birchgrove and Rozelle –  before extending to the lower and upper north shore.

With the strengthening return to the city trend we have long predicted and as discussed later, such impacts are already acute in suburbs along Victoria Road and will worsen for those suburbs such as Hunters Hill, Gladesville, Lane Cove and Drummoyne which will not be serviced by future Metro Stations.

WFH receding fast – now’s a time to buy

As we predicted 10 months ago and according to a slew of articles, surveys and commentary in the last quarter, the movement back to the CBD and away from the regions now has indisputable momentum.

In addition to there being a severe contraction in sub-leasing deals, CBRE’s recent Office Occupancy Report confirms a 77% Sydney CBD office occupancy rate for Q1 2024 compared to 84% pre COVID.

A corollary and further proof of this trend has been a severe impact on many regions and lifestyle area such as the Blue Mountains and coastal destinations with CoreLogic reporting that Bundeena in Sydney’s south was the worst performing house market, literally, in all capital cities with a 19.8% fall in value in the two years to April 2024 followed closely by Palm Beach (16.5%) and Bilgola Plateau (14.6%).

As the AFR noted on 11 April 2024 “[r]ising job security fears linked to the softening economy have driven average office utilisation in Australia to its highest level since the pandemic, contributing to a partial reversal in the rush of city workers moving to the country.”

On 1 March 2024, in its official editorial, the same publication identified the root cause thus: “It has to be asked whether a workforce being paid on the couch will reverse the productivity retreat needed to sustain a high-wage growth economy…With borders also closed to immigration for two years, the massive budget and cheap money stimulus [the pandemic experiment from mid 2020] produced the biggest jobs boom in 50 years, allowing workers to name their conditions and prolong the work from home habit.

But doing single tasks at home to get through an emergency is not the same as the collective teamwork needed to sustain a high-wage-growth economy. Now, Australian productivity is back at pre-pandemic square one. Labour productivity – the amount of goods and services produced divided by the number of hours worked – has fallen back to 2016 levels”.

What does this mean for Sydney CBD property buyers?

According to David Burgess, Co-Head of Real Estate at Elanor Investors Group as reported in the Australian Property Journal on 10 April 2024:

…”[W]e looked at 50 years of data of previous cap rate cycles using Sydney CBD as a case in point. This shows there seems to be a very similar duration for the softening cap rate cycle, which tends to last approximately two years. What we also see during these softening cycles is the cap rate, on average, softens 30 percent – we’re currently at 21 percent.

Our analysis shows there is a high correlation between the office market cycle – or more precisely the cap rate cycle – and the inversion of the US yield curve…

What does all this mean?

In our view…we are currently tracking to the same trajectory of prior cycles. In other words, while we still have a little way to go, we believe we are 18 months through a two-year cap rate softening cycle based on those indicators and the historical data.

We are emerging into a zone where prime commercial office is becoming an attractive buying proposition; and that is certainly what we have heard over recent weeks from institutional buyers across the region. Australian office is very much back on the radar.

What makes this exciting for investors, is what happens when we emerge from this cycle. Based on past experience, the average 5-year return following a softening cycle is 10-13% p.a. when buying just after the peak.

However, as always, while we can learn from the past, every cycle is different. The nuance we see being different in this cycle is actually a favourable tail wind – very low office supply across the country. Rising construction costs, increased interest rates and the softening cap rate has made it difficult to make new office developments viable and so we are now seeing this impact both current and future supply looking ahead through to 2027.

WFH is no doubt a major change for employees, employers and the office sector. But we’ve seen many similar challenges over many decades. We expect to see in the next couple of years strengthening demand meeting with limited supply, fuelling the next wave of rental growth and delivering strong total returns to commercial office investors over the next few years”

While the last comments were directed more to larger office buildings, the same applies to prime, smaller whole floor and CBD commercial suites where, despite the earlier pandemic driven rise spawning WFH, turnover has been thin and rates/m² generally firm.

Conclusion

Lots in this for Sydney residential and commercial property buyers to consider.

For help navigating it all when deciding if, what, when and where to buy in Sydney, call the experts at Curtis Associates.