Thursday, June 14, 2012

Chart Guide To The Melbourne Property Crash

We are likely in the early stages of a price crash in Melbourne property (and continued price falls in most other states as well). Everyone has a different opinion on what constitutes a crash, but my expectation is 30% off nominal median Melbourne prices from the peak (which was around 18 months ago) to the trough (which will likely be around another 18-30 months away). So a 30% decline over 3-4 years is my best guess, below inflation growth following this crash will also see the real decline closer to 40%.

I thought I would pre-answer some questions that may arise from this post:

Is a 30% price drop over 3-4 years a "crash"? As there is no technical definition of "crash" as it pertains to property I am using that term as I feel it fits the size of the drop. If you disagree feel free to substitute "crash" with correction, price drop, buying opportunity, reversion to mean or softening of prices depending on your stance.

Is this price fall guaranteed? Of course not, there are so many different influential factors which could delay further price declines, for example emergency rate drops from the RBA might slow the fall or mix that with further intervention from Government and prices might even stop sliding altogether (delaying the fall short term). However recent actions and words from both these potential crash-breakers has been suggestive that they will not interfere (such as Glenn Stevens speech I posted about where he says rates are not being cut to aid house prices and I would be surprised to see the Vic government do an about turn on recent grants which were removed).

But you are suggesting the price decline anyway? Based on the current state of the Victorian/Melbourne property market via the statistics we have available I would suggest it is very likely that we see a decline of the magnitude I have outlined.

Suburb 'X' has been flat over the past 12 months and you think it will fall 30% by 2013-2014? No, I expect the Melbourne wide median (as measured by an index such as the RP Data/Rismark hedonic index) will show a decline of around 30%, but to hit that point some suburbs may have only dropped by 10% and others by 40%. There may be some suburbs which weren't/aren't as overvalued at the peak so may not drop as drastically as 30%.

What credentials do you have to support your wild claims? Probably about the same number as most property spruikers.

Steve Keen said we would see a 40% crash and he was wrong! Well that's not a question for starters, but Keen hasn't had time for his prediction to play out either (40% decline over 10-15 years). Please judge this post on it's own merits, there is no need to compare it with the predictions of others.

Where is Melbourne on the property investment clock? Half past dead.

Why post about the Melbourne property market when you live in Adelaide? In my opinion it is the most over valued and poses the biggest risk to inexperienced or unprepared buyers such as first home buyers or those buying with a small deposit and in a precarious financial position.

So do you think other states will fall by the same amount? Given global risks, Europe on the brink, US "recovery" stalling and with China slowing I think there is the potential black swan events which could put a squeeze on our banks and in turn the property market sending prices country wide crashing. However assuming things just keep pottering along then prices in most states will probably just continue their slow melt or below inflation growth (with Melbourne falling much more significantly than most). I have indicated in the past that I expect national prices to fall in the vicinity of 15-20% in nominal terms and 30% real.

Gold and Silver are both well down from their 2011 peaks, haha! That's ok as my average buy price is still well below current prices. As I pointed out recently a major bottom has likely just occurred in precious metals and higher prices should be expected over the medium term (even if the recent low is breached in the short term). If the peak for the Gold and Silver bull market was made last year then feel free to rub it in down the track.

What's with the wry sense of humour in this post? Do you think falling house prices are a joke? Not particularly, but after a couple of years trying to convince people that house prices are peaking/have peaked and having the vast majority deny, reject and deride you for having this point of view (even when it is obvious prices are falling), one can't help help but turn a little bitter and cynical! I have friends and family who have already been burned by falling house prices, but I think in the long run house prices which are priced at more reasonable levels compared with rents and wages will be a great benefit to the next generation of home buyers.

Feel free to post any other questions in the comments section...

On with the show!

Christopher Joye recently posted this chart on his blog showing the extraordinary price boom in Melbourne from the lows seen in late 2008 to the peak in late 2010, a 35% jump (below chart courtesy of Christopher Joye's blog):

Click Chart To Enlarge

Since reaching a peak on the above index of around 155 (Melbourne houses) prices have deflated to around 140 and to reach a 30% nominal drop would need to fall to 108.5, a level not seen since mid 2007.

The stock on market has been climbing again the last few months and is sitting back around the peak level we saw in late 2011. Current stock on market is roughly double that of the lows seen in early 2010 (below chart courtesy of SQM Research):

Click Chart To Enlarge

Why does the stock on market (number of properties advertised for sale) matter? The more properties that are for sale, the more competition individual sellers have when trying to offload their property. Couple a high level of stock with a low number of buyers (see stats on this below) and if you've got sellers who are motivated then you are going to see them leaping over each other to price cut and driver prices down (almost the opposite effect of buyers leap frogging each other during the boom times). What environment will create motivated sellers? Perhaps one where prices have already fallen over 10% from the recent peak, yields are still way too low to cover rents and further price falls seem likely? It's a self fulfilling prophecy.

As we can see from the below chart, the price decline in Melbourne has continued to accelerate to the downside in 2012 (below chart courtesy of RP Data):

Click Chart To Enlarge

And see below for key Melbourne stats from the same video:

Click Chart To Enlarge

As mentioned above (and also shown in key stats from RP Data), yields in Melbourne are awful. Even following the largest fall in prices over the last 12 months (to April 2012, across Australia) and rents having increased the most over the same period, yields in Melbourne houses are still the lowest in the country (below chart courtesy of Residex):

Click Chart To Enlarge

A yield of under 4% for Melbourne houses is very poor when you consider an investor is paying around 6.5% for any funds borrowed as well as having to cover maintenance costs, council rates and more. This measurement of value alone should be ringing alarm bells and indicates why I think Melbourne has the furthest (of all Australian capitals) to fall.

As I mentioned above, prices in Melbourne have already fallen significantly, around 9% over the past 12 months (houses) and around 11% from the peak:

Click Chart To Enlarge

Not only is there an abundant supply of property in Melbourne, but there is a plethora of new stock about to hit the market over the next 2 years as construction of new homes in Melbourne has boomed, especially so for apartments (below chart courtesy of Property Observer):

Click Chart To Enlarge

Leith from MacroBusiness has also written about the construction boom, using data from the ABS he constructed the below chart which shows house construction was elevated also (below chart courtesy of MacroBusiness):

Click Chart To Enlarge

Along with near record levels of stock on market, which will become increasingly worse as newly constructed homes hit the market, we also have the worst sales volumes seen in over 10 years (below chart courtesy of MacroBusiness):

Click Chart To Enlarge

RP Data recently reported that Melbourne’s transaction volumes are estimated to be 27 per cent below the city’s five year average.

Increase in stock on market along with few buyers and motivated sellers will lead to further and potentially sharper price falls.

Further to the above here are a couple more interesting charts with brief points about the Melbourne property market.

Earthsharing has been releasing an annual report looking at vacancy rates in Melbourne. Where REIV quoted a 1.7% vacancy rate in November 2010, Earthsharing reported a 4.94% vacancy rate based on water usage (below chart courtesy of Earthsharing, their 2012 report should be available in around a week):

Click Chart To Enlarge

This chart shows net mortgages in Victoria, decreasing for the first time since 2003 (when I presume the statistics started, courtesy of MacroBusiness):

Click Chart To Enlarge

Here is a chart showing the performance of a Melbourne property vs cash in the bank over the past 12 months (courtesy of Thomickers at Bubblepedia Forums):

Click Chart To Enlarge

All things considered the Melbourne property market is looking extremely weak and is setup for a potential 30% crash from the peak. I warn urgent caution if you are considering buying in Victoria today. If there are reasons you need to buy that outweigh the potential for further price falls then ensure you take measures to protect yourself, buy within your means, keep a cash buffer and use insurance where appropriate to protect from job loss or income reduction due to injury. The last thing you want happening is the forced sale of your house at the bottom of this potentially devastating crash.


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BB.


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23 comments:

  1. I am a believer, the numbers did not lie on the way up why are they lying on the way down?

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  2. The Black Swan events you talk about are not Black Swans by definition. A Black Swan is an UNKNOWN/UNPREDICTED/UNFORESEEN event. The events you talk about are potential events already on people's radars - events that have some realistic chance of happening. An example a true Black Swan event would be everyone finding 10 gold bars under their bed tomorrow morning.

    Melbourne. Build it and they will come. Overbuild it and your cash will be done.

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    Replies
    1. Good point. If you want to hit me up with a black swan event like you've described I would welcome it ;)

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    2. Build it and they'll come. Overbuild it and they'll turn around.

      Delete
    3. It is certainly a Black Swan event to all the spruikers out there.

      Delete
  3. Great post BB. Your analysis is hard to refute. I'll link this on bubblepedia if you haven't already. That future speculative vacancies report will also be VERY interesting.

    Cheers

    Bobby Fischer

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    Replies
    1. Thanks Bobby. Posted it on the Bubblepedia news page earlier today :)

      Delete
  4. How are those BSROA options going you are holding and were spruiking here?
    I see you bought at 1.5c initially and average of 1.2c. Price now looks to be 0.3c and trending to worthless. That's a crash of 75% - much more than 30%.

    ReplyDelete
    Replies
    1. No more off topic posts thanks.

      But that's the risk taken with options, sometimes they expire worthless. BSR will have a steady stream of news through the year before BSROA expires, it's not over until the fat lady sings ;)

      P.S. Who will have lost more... Person A who buys a Melbourne house for $600k, prices drop 30% (and then house is sold) or Person B who buys $10k worth of BSROA and they expire worthless?

      Delete
  5. What's the reasoning behind a 30% fall? I agree that the melbourne market looks like it will continue further falls, but why 30%? Why not 5%, 20%, 40%, 60%

    ReplyDelete
    Replies
    1. I expect yields to return to around 5.5%+ for houses and probably 7% for apartments given the huge additional supply in the pipeline. 30% was roughly the price drop required to return to these yields with little rent appreciation from current levels.

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  6. "to return to around 5.5%+ for houses and probably 7% for apartments"
    That's a composite gross yield of about 6%. When were rental yields last at that level even nationally? Melbourne yields are lower than the national level.
    Stapledon's data indicates that yields that high have not been around since 1949.
    Macrobusiness data (from Joye it appears) indicates that yields have not been that high since 1988 when inflation and interest rates were very high.
    http://macrobusiness.com.au/wp-content/uploads/2011/07/Rental-Yields-Mortgage-Rates.gif
    Expecting yields to return to the levels of 24 or 63 years ago looks like a pious hope.
    Anyway, the question from the other poster was WHY will prices fall 30%. If you make the assumption that rents will change little, as you have, then answering by saying its because rental yields will rise is no answer at all. It's mathematically tautological.

    ReplyDelete
    Replies
    1. The question posed by the last anon user was why 30% as opposed to a different %. Should be obvious enough from my above post why I think prices will fall.

      IMO Melbourne yields overshot to the downside and will overshoot to the upside.

      Delete
  7. if glen steven starts dropping paper notes from helicopters over the cities then all bets are off....but prices in bullion its going to 50 to 200oz.
    place your bets boys and girls talk is cheap.

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  8. Nice article. Would like to see some commentary on adelaide however. I.believe that population growth there has been stagnent for years yet the amount of new dwellings constructed has been high, southern suburbs especially.

    As I recall the peak median was about 400k and 13(?) Years ago about 150k.

    Thoughts?

    ReplyDelete
    Replies
    1. I would like to take a closer look at Adelaide sometime (being my hometown), but not sure how I will go finding data specific to different parts if the city... I tend to only follow a few suburbs closely (those I am looking to purchase in down the track).

      Delete
  9. Melbourne prices up 0.74% last week according to RP Data. That's 47% annualized.

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    1. lol a few weeks ago Adelaide was seeing some strong weekly rises and YTD was up over 1.5% and is now negative YTD.

      I think that way too much time/effort is being spent on this week to week data when it is probably not accurate enough to be counted on.

      Delete
  10. Would be great to see an update on the graphs above, OP, what do you think about timeframes for your estimated 30% fall.. whats your prediction of the bottom of the market.. have a go.

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    Replies
    1. I will probably only update on Melbourne thoroughly every 12 months or so as takes some time to get everything together. As per post I think it will take 3-4 years to play out from peak (30% fall is also from peak, already down roughly 10%), so bottom of the market by/at around end of 2014 is my best guess. Of course there is a chance the correction plays out over a longer time frame, but by end of 2014 the large amounts of new stock constructed over 2012/2013 would have had some time to sit on the market...

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  11. Thanks for your suggestion well written article with lot of helpful information.

    Sharon Bush

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  12. Loved this blog and was looking forward to buying a cheaper house in Melb! An update would be well received and widely read given the developments of the last 24 months!

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  13. It's looking unlikely that a major correction/crash will play out in the time frame that I'd expected when writing this post. There is more to it than I have time to cover now, but a major influx of foreign investors into Melbourne & Sydney, as well as a surging population appears to have turned the market around. That said, especially in Melbourne, the rise appears to be concentrated in specific areas, some suburbs have not participated in the recent price increases. I will try and fit in a property update sometime soon (update on Perth also, which I got right), but can't make any promises!

    ReplyDelete