September 2022 What is the real impact of rate rises?
What is the affordability impact?
September has seen a lot of debate about the cost of loans, and falling house prices. The Reserve Bank has raised the cash interest rate levels on several occasions and the corresponding impact on home loans has been enormous. People cant borrow what they used to!
The below graph (Fig 2 below) shows the median price of property taken on a 3-month rolling average across four major Sydney centres – Northern Beaches, Eastern Suburbs, Inner West and North Shore in this sample. (It assumes – no income changes). The mortgage cost is a principal and interest loan. There is no account for LMI or other costs.
Fig 2 – 4 Sydney Median price areas
Key points:
There has been a drop in purchasing power – bank lending has tightened – interest rates are rising while the median price of housing is falling.
The result is you can borrow less money now. The median house price has fallen so houses are now officially cheaper, however, you have a higher finance cost for smaller loans than that of January.
It may sound silly but it is now proven that in this market there is a direct correlation between interest rate increase and falling property prices… this is not always the case! (See Fig 1.)
a) By January 2022 the median house price was $3,018,958with an 80% mortgage Loan to Value Ratio (LVR), borrowing $ 2,415,166 with a finance cost of 2.24% for a cost of $7,375 per month.
b) By August the median house price had dropped to $2,810,063and the mortgage finance costs had risen to 3.84% for a cost of $7,889 per month.
c) By November / December the median is expected to level at $2,581,038 and the mortgage cost is anticipated at a rate of 4.84% for $8,706 per month
Purchasing power has changed. In the lower interest rate environment, you could borrow more money for less, and your purchasing power (borrowing capability) surpassed the median price point of housing in these areas. This has now shifted to where your purchasing power (mortgage leverage) does not meet the median house price in these areas (See Fig 4.)
Fig 1 – RBA Rate + Your Rate + Stress Test Rate
Did you know?
The Reserve Banks rate (shown in Fig 1) shown in grey is the baseline for the bank lending rates. The banks will mark up this cost rate by around 2% to provide you with Your Rate.
When the bank conducts an assessment on a borrower, they will allocate Your Rate and then stress test this rate by an additional 3% on top. (Fig 1)
The impact of a stress test will affect how much you can borrow.
I constantly remind people that…. As long as you pay your mortgage promptly you own the house (control the asset) however, as soon as there is a default (non-payment) the bank (mortgage holder) has real control and full step-in rights.
The median price of housing has dropped dramatically since January 2022 and is expected to fall a total of 14% to 15% in these areas. (See Fig 3)
Tim Lawless of CoreLogic stated that while we have falls in property prices you have to remember we have had massive gains of around 20% increases over the last 12 – 18 months, so a drop like this is a small correction in the bigger scheme of things, the property is still up compared to 12 months ago.
Fig 3 -Declining median house prices
I always maintain there are highly desirable pockets of real estate in many areas of Sydney that will retain a high price and have several purchasers competing for the home.
The land is a limited commodity – it is a finite supply, and our housing supply does not meet the current demands of the population and neither for rental accommodation. This has been the case for many years.
Combine this current lack of supply with the immigration expansion for Australia with professionals and essential services and demand will increase further over time. This is also pressured again by the lack of building development activity at present due to the large inflationary pressures in the economy including dramatic increases in building materials and labour costs
The purchasing power of borrowers has now declined for the first time in many years. Their purchasing power (borrowing ability) as of June 2022 has crossed over to now be insufficient to meet the median price of housing. This gap means larger deposits will be required to purchase property and many purchasers will now have to reassess how and where they purchase the property. Exampled in Fig 4.
Fig 4 – Purchase Power has dropped below median house prices
I am often told – “I will wait till the market bottoms then I will buy”
This seems logical. Picking the bottom or the high of the market is never easy – if you can succeed in purchasing or exiting in the top or bottom 5% of pricing you have done well. However, hindsight will be the judge of this. There are many moving parts in the property equation and associated economics. E.g., Co Vid proved this, as with interest rates and inflationary pressure
Key Takeaway…
What these examples show clearly is that if you wait your borrowing power is reduced.
Property prices have fallen and may drop a bit further yet but so has your ability to purchase the property unless you have cash. Your purchasing power has fallen while the cost of borrowing has dramatically increased.
Regardless, many people will need larger deposits to combine with their ‘serviceable’ bank mortgages to purchase a property. Many of these people will also have to readjust their vision of the type of property and the budget they can afford to acquire it.
There is strong cyclical evidence to support a large property rise around 2026 regardless of what interest rates are or the political circumstances (see Philip Anderson Property economist) as everything is cyclical.
Property is the largest asset class in the world often x 3 of equity investment. It is so strong because it is stable and somewhat predictable in future growth. This is why banks and credit providers use it for credit security… unlike Bitcoin, it is stable and ‘safe as houses. In Sydney property prices (houses) continually double in 10-year periods on average. Not a bad bet in anyone’s language.
Property is also one of the only asset classes where the average person can get exceptional leverage (mortgage from a bank – 20% deposit for someone else to give 80% of the funds to control a multi-million dollar asset), so a mortgage is really like a forced savings plan that provides a substantial tax-free capital gain if you live in that property.
If you would like to discuss your circumstance or what your objectives are – contact Gary at [email protected]
or book a FREE 30 min strategy call.
(* special thanks to Ortus Financial and TeamAckerman for the graphs)
