Will the property bubble burst?

During the last four to five years there have been especially buoyant property markets around Australia. Whether it is residential, retail, commercial or LPTs, prices have gone up.

However, in recent times many analysts and observers have been saying a bubble has been created and they are predicting it is just a matter of time before it bursts.

John Hill, president of the Real Estate Institute of Australia, says he has “never been able to see why there should be a bust”. He cites vacancy rates in Sydney, which he says peaked in June 2002 and have since fallen.

He adds there is no evidence to suggest vacancy rates will blow out. According to Hill, there is not as much hype surrounding property investment as there was a few months ago and auction clearance rates are steady at around 70 per cent.

BIS Shrapnel property analyst Angie Zigomanis says there is no prospect of a short-term bust in the residential property market and it may be some years before the housing boom is arrested, if then.

According to Zigomanis, the level of overseas population migration to Sydney, and to a lesser extent, Melbourne, is high. He says that Queensland is experiencing a surge in population growth from other states. In Adelaide and Hobart, population growth is not as strong, while in Perth, it is slightly better.

However, from the point of view of investment, rental returns are not expected to keep pace with capital growth and this will make it harder to service debt.

Ian Hopkins, director and head of research at independent property consultants Property Investment Research, says the continuing rise in residential prices has surprised many.

“The more they go up, the more likely it is that there will be a correction, and the further that will be,” he says.

Any correction would be preceded by prices reaching a plateau. According to Hopkins, it is important to distinguish between new and established residential property because new property is much more volatile.

He says Melbourne is oversupplied with new apartments and it will take a few years to absorb them. Hopkins also believes inner city apartments in Melbourne should be avoided because yields are low.

Macquariehead of property research Rod Cornish says people who have been expecting a collapse in residential property for the last couple of years are now coming back into the market and finding they have to pay up to 20 per cent more.

Cornish is not predicting a bust in less than three years and adds that different sectors of the residential property market are now behaving differently.

“There will be some weak sectors, some flat, and some where there will be moderate price growth over the next couple of years”, he says. For example, owner-occupied dwellings near cities and beaches will be in strong demand.

Cornish agrees with Hopkins that you should stay away from CBD apartments in Melbourne, but says that apartments in other areas may be suitable, such as the fringe of the Brisbane CBD.

Experts agree that the boom in property is highly sensitive to interest rates. For example, Hopkins says that forced selling is what keeps property prices down and that won’t happen until interest rates increase.

Housing loan interest rates are currently 6.5 per cent and Cornish argues they would need to rise to 10 per cent before there was a significant downturn in residential property prices.

“Most property crashes are brought on by a strong economy, which leads to an increase in wages and then inflation and high interest rates,” he says.

According to Cornish, the economy will be stronger by the end of 2004, after which it will remain strong for a couple of years. It is then that we may see 10 per cent interest rates.

Zigomanis is predicting much the same thing. Like Hopkins, he says that with low interest rates, investors do not have to make up a lot out of their own pockets. Unemployment is low and people are not forced to sell, which would reduce prices.

But, like Cornish, he expects a strong upturn in the economy by 2004-05 and 10 per cent interest rates by 2006. He says this may stop the housing boom, but there are no guarantees.

On the other hand, Hill says there is no reason for interest rates to hit 10 per cent. He says it would just serve to send the Australian dollar up further and exports would be adversely affected.

According to Hill, the other driver of residential property prices, people’s job expectations, is also positive.

The consensus among economists is that interest rates will remain on hold for the next 12 to 18 months. If there is a change, it will be downwards. Huw McKay, senior international economist at Westpac and Chris Caton, chief economist atBT Funds Management, both agree. It is very unlikely that interest rates will increase in the short-term and set off a property bust.

A residential property bust across the board is not likely to happen, at least in the short-term. Even in the long-term, Hopkins says for the astute investor, there will always be opportunities and this is not going to change. The challenge is to buy in the right areas.

Cornish says that residential property is cyclical and there could be price falls in some sectors, but that South-East Queensland should outperform. In Sydney, owner-occupiers of more affordable dwellings near the city and beaches should prosper.

He adds that you cannot simply lump all apartments in the one category. Those that cannot be re-built will generally fair better.