Markets can remain irrational longer than you can remain solvent. Markets can remain irrational longer than you can remain solvent. – John Maynard Keynes.
It is a valuable lesson for the second largest economy on the planet, more specifically, it’s investors.
China does not have a growth problem. At between 6-7% growth (if you can believe the numbers) it’s still growing at a pretty strong clip. There is however, now a compelling view amongst some of the world ‘s leading economists that China is in recession – that is, their growth rate is less than zero.
The link to the Australian housing market is not at all tenuous. Chinese investors have been taking their funds out of China to “safe havens” in great numbers. Like most housing sectors, the Australian housing sector does not have the same compliance requirements as a bank. That ease of investment is one of the factors that explains why our housing market is also behaving irrationally.
By all learned accounts we should have been in a complete housing collapse by now. It hasn’t happened. Perhaps all common sense and rational investment behavior have been abandoned. Perhaps this is a new paradigm. Perhaps this is a structural shift.
We’ve heard all of this before. None of it is either true or untrue. It simply fills newspaper space. The only facts you have to compare our housing boom and bust to is what happened the last time around. Our last housing collapse was around 1990-91. The financial markets and economy were different then.
- The equity markets had been oversold. Check. The same thing is happening today.
- We were in a recession (that is, our growth rate was negative). Although we have a low growth rate we are not in a recession (yet).
- Unemployment was around 11%. It’s now 5.8% and has been trending down.
- The RBA Official Cash Rate had been raised to 17%. It’s at 2% now.
- The collapse of a number of state owned banks and building societies. As well as the near collapse of a major bank. Regulatory restrictions these days have meant that banks are very conservative in their lending practices and it’s unlikely that a downturn would cause a collapse – the only caveat to this is if we see another liquidity crisis (as we saw in the GFC) or a loosening of regulatory restrictions.
One out of five aint bad.
Australians (like most people around the world) will do almost anything not to lose their homes. And with unemployment at the lows that they’re at and interest rates still at record lows it is unlikely that the banks will be writing off too much mortgage lending anytime soon.
Let’s look at what’s been driving the housing markets – or at least what we’re being told is driving it:
- Investment Lending – particularly by SMSF’s. The issue here is that, these investors don’t have too much investment choice. The equity market is not trusted, bond yields are rubbish and not at all understood by punters and cash rates for term deposits are between 2-3%. After a few months of investors waiting and seeing what the market will do they started to pile in again in November.
- Offshore buying. This began when our dollar was around parity with the USD. If our housing markets looked cheap to overseas investors then why wouldn’t it look good at 68c against the dollar?
- Record low interest rates. With the economy hovering at below average growth and equity markets on their knees, it is unlikely that we’ll see a return to historically high interest rates. Indeed, banks’ stress testing of mortgages caps out at around 7.5%.
- Easy Money. The banks have really tightened their lending policies due to an edict handed down by the regulator, APRA, 14 months ago. This includes lower LVR’s and higher pricing for investment lending as well as better servicing tests for all borrowers. Also, money is easy to get if you tick all the right boxes with regards to property. Try getting funding if you’re a small business.
As usual, none of this will start or stop a crash. It will simply soften the outcome a little. What is more likely to impact house prices is the rate of building supply and demand. In some areas oversupply and lack of demand is an issue – northwestern parts of Sydney for example.
In other areas, particularly high value, high density areas where it is not possible to greatly increase supply, the lower Aussie dollar will ensure that these areas still present value to overseas investors.
Of course, other factors – such as affordability, changes in tax laws and bank liquidity can also impact the market. But they’re usually secondary impacts and, as yet, haven’t happened.
So, the next time you read about a crash in housing, have a look at the building going on in your area before you start to panic. The housing boom in Sydney was preceded by ten years of housing stagnation so it was overdue for a correction.
The market may be reaching irrational levels of exuberance but then again that’s the point of this article…as long as you can afford it.