This article was written in November 2008. It is followed by 2 updates written in April 2009 and August 2009. It is now November 2009. Much has happened in a year.

With so much doom and gloom around and with the major portion of wealth of the average Australian tied up in residential property, it is no wonder that a number of us are starting to feel a bit nervous. 

Some pundits are forecasting a 30% fall in residential property prices over the next 12 - 18 months, largely based on what's happening in USA and UK. While our stock market often takes a lead from the S&P 500 stock index our property market is unique. There is no correlation. This is Australia.

As a property owner for some 35 years and an investor with residential property in several states, the movement in real estate prices has been of great interest to me for some time.  My wife owns her own boutique real estate agency, operating mainly in north-east Melbourne, and we have held many discussions over the past few months on the topic of where real estate prices are heading in 2009 and beyond.

To provide an answer to this I prepared a list of pluses and minuses, covering the factors which I believe are likely to result in an increase in value as well as the factors which are likely to have a negative impact on house prices.  By adding a relative weighting to each, it should then be possible to draw a conclusion, albeit subjective, on future price movements.  The factors and comments are by and large restricted to the Melbourne metropolitan area but it is easy to see that most of these factors apply to other capital cities as well. 

The factors which are likely to result in higher prices, in no particular order, are: -

• Property tends to be counter cyclical to the sharemarket. (OK, I can already hear you say “hold your horses, if that is true we should be having the most massive property boom but we are not”.) Let me go on.
• Development land is being released at a rate below demand.
• The cost of developing land, as well as infrastructure costs, building materials, tradesmen rates are all increasing, resulting in higher cost of new homes.  Higher prices at the bottom end of the market, typically new homes in outer suburbs, tend to move the cost of established homes (at least in the lower to middle market) upwards.
• The generous subsidies for first home buyers also provide a positive stimulus to the housing market as a whole, for this same reason.
• National unemployment at 5.7% (seasonally adjusted) is relatively high but is still well below the 12% seen in the early 1990s.(However, if forecasts that unemployment may rise to 9% - 10% eventuate this will depress house prices).
• The RBA cash rate has dropped by 4.25% since April 2008 with most of this passed on to borrowers (cf RBA cash rate of 7.25% in April 2008 and 3.00% in April 2009 with the average Standard Bank Variable Rate dropping from around 9.5% to around 5.8%). Interest rates are not expected to change a great deal for the rest of 2009.
• A rental vacancy rate of around 3% is generally regarded as a rate which provides a stable balance between demand and supply.  However, vacancy rates are quite low and around 1.5% in most capital cities (the vacancy rate in Melbourne was 1.1% in November 2008).
• There is a net influx of some 1,400 persons adding to the Melbourne market every week, all of whom need to be housed.
• Rental prices have moved markedly higher over the last year.  This factor and lower interest rates should, by themselves, result in renewed interest from property investors.
• Many home owners have seen prices rise over the past few years and are generally reluctant to sell their home at a price too far away from what they believed it was worth at the peak. As some 30% of home owners have no mortgage they would rather wait for an upturn in the market and many with low or manageable mortgages can afford to do so. In times of economic uncertainty, many will also renovate and add that extra room rather than upgrade to a bigger home. Their argument is simply that it is preferable to spend money on renovations than to spend a large part of it on stamp duty.

There are other factors such as number of occupants per dwelling which has been falling steadily over the past decade. Such factors are ignored for the moment as these are likely to have a lesser impact in the short term.

Some of the main factors which are likely to result in lower house prices are:-

• The general concern about economic conditions in 2009 and beyond has added a great deal of pessimism to the market as a whole and this is likely to have an impact on all asset classes, including property.
• The availability of credit has reduced significantly.  Many non-bank lenders have struggled or disappeared altogether. Banks are more than happy to provide mortgage loans but are now applying stricter credit conditions and valuers are tending to be more cautious in providing valuations for the banks.
• Australia has one of the highest ratios of personal household debt as a percentage of GDP. Cash is becoming king and selling the investment property, holiday house or residential home may be the only way to make an impact on the overborrowed household (selling the $50,000 boat, bought in good times, won’t do it as new boats, like new cars, are not selling which has impacted adversely on second hand prices). If this happens, a larger than normal number of properties for sale will have a negative impact on prices.
• A larger than normal number of properties at the top end of the market have come up for sale recently and prices have tended to fall sharpest at this end of the market. This could work its way through to be middle market covering the majority of Australian dwellings.
• There is a great deal of uncertainty in the market and in uncertain times buyers and investors alike play a game of “wait and see”. The current perception is that prices will fall and perception often becomes reality (an interesting phenomina is that this mood persists for several months after prices have actually started to rise).

I am sure that readers will have other factors they would wish to add, and there are likely to be factors from those listed above they may disagree with. That is understandable as just about everyone has a view on property and property prices and this topic is of considerable interest and concern to many households right now, as about two-thirds of all households own their own home and most household wealth is tied to the equity held in their home.

It should be acknowledged that some of the factors overlap or are merely a re-statement of the same issue eg what is the relationship between the economic crisis and the credit crunch, or for that matter credit excess, and did one cause the other?

In normal times the positive factors above would overwhelmingly drive prices higher. However, we are not in normal times and we need to look at property prices from a fresh perspective.

So what then are the conclusions that can be drawn from the above. Before answering that I would like to comment on a matter not addressed above but which could be significant. Apart from my interest in property and being a director of my wife’s real estate agency, I am also a Business Consultant, assisting SME’s with their strategic direction and developing business plans for these companies.

We have all seen the articles over the past few months about a number of large corporate collapses. However, the backbone of Australian business are the hundred thousand plus SME businesses. Many have a range of financial facilities such as bank overdrafts, equipment leases, factory leases. Most are feeling the pinch and invariably these facilities are covered by personal guarantees. Also, the bank overdraft is often secured by property which extends not only to any commercial property but also to the family home. I consider this factor to be the most serious as it has the potential to result in a large number of forced sales, with an obvious consequence for house prices.

In my view, that particular factor will be a significant factor over the next 12 months.

However, there is also one significant mitigating factor. A number of countries (Australia and USA particularly) have started to sell Treasury Bonds in large quantities, to address the GFC and pay for the war efforts overseas. Printing money is inflationary. In 2 years time inflation is likely to become a concern again. In inflationary times it is best to invest in real assets, such as real estate. Cash is king today. In inflationary times it is not a good class of investment.   

House price in mainland capital cities over the past 50 years have been remarkably resilient. Taken over any 10 year period, prices have been fairly consistent generally rising 10% pa compound. Over these time frames, falls in prices such as in the early 1990’s generally recovered within the next 12 months. While history provides a guide to the future, we are in uncharted waters right now and I would not be surprised that the final outcome (economically, politically, price of fuel, price of houses – take your pick) will be an outcome that does not even appear on a list of Top 5 “most likely outcomes” produced by today’s economic and political pundits.

So what will happen to house prices. It is my personal view that in 2 years time or less we will have worked through most of the factors that impact negatively on prices and that a new property boom will have started.

In the meantime prices will be soft but held up by first home buyers at the bottom end of the market. There will continue to be good support for the average property in the average suburb but difficult properties and properties in outlying areas will suffer. The high end of the market will also suffer. The next 2 years will also provide some good opportunities for the astute investor.

Overall, if you own a good property and don’t have to sell, don’t.

Robert Jongebreur is the MD of Australian Business Advisers Pty Ltd and is a Director of Brock McElvogue Estate Agents Pty Ltd. He is an Authorised Estate Agent’s Representative. The views expressed herein reflect his personal views. 

(This article was written in November 2008 when there were media reports that property prices of the average home could drop by 30% to 40% -data on unemployed, treasury bonds, interest rates etc was updated in April 2009).

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Update April 2009 

Further update following the release of the NHSC Report. The dot point comments regarding Supply below all tend to maintain a firm floor under prices at the bottom end of the market (which then support the prices of established homes).