Key housing risks
by Christopher Joye, Economist with RPData-Rismark
I want to touch on two key risks to the residential market in the near-to-medium term: the availability of credit and unemployment.
While some have voiced concerns about the risk of credit rationing, Australia?s very dominant banks continue to profitably lend to relatively high 90 per cent plus LVRs (although these have come down from 95 per cent) after a consistent tightening in credit standards since the crisis first emerged in the middle of 2007.
To be sure, non-bank lenders have struggled to find funding; yet the major banks have happily ?reintermediated? and registered strong growth in their home loan books.
For example, CBA reported that it had recorded 22 per cent growth in home lending over the 3 months to March 2009 (versus system growth of 5.9 per cent) increasing its market share to 24.3 per cent.
Recent disclosures by Bendigo & Adelaide Bank showed that the risk-weightings applied to residential mortgages by the 4 major banks ranged from just 15- 25 per cent, which is substantially less than the 100 per cent risk-weighting imposed on their business lending books.
While CBA has experienced spectacular growth in residential lending, it registered a -1.6 per cent decline in business lending over the March quarter and sub-system growth of 6.4 per cent over the 12 months to March.
Westpac?s new CEO, Gail Kelly, disclosed after its recent results announcement that they had lost just $9 million (ie, 0.004 per cent) on their massive $240 billion home loan book over the last half year.
In a similar vein, CBA revealed that the 90 day default rate on home loans originated in 2008-09 was still less than 0.6 per cent.
The major banks have also benefited from very strong deposit inflows as customers have flocked to their perceived strength and security, and the availability of government guarantees on wholesale term funding.
While some have voiced concerns about the risk of credit rationing, Australia?s very dominant banks continue to profitably lend to relatively high 90 per cent plus LVRs (So while there has been a prudent elevation in the austerity of credit standards, system-wide housing finance growth has recovered since the middle of 2008 when the RBA?s monetary policy settings were at their most restrictive with a consequent decline in the demand for new finance (at that time). By way of contrast, the 2009 housing finance data, which is a key demand-side variable, has displayed encouraging year-on-year growth.
On a related point, let me address the claim that the government?s first home owners? boost is creating Australia?s own sub-prime bubble. This is complete tosh.
First, while recent first time buyer activity has been historically high it was recovering from levels in 2008 that were well below the 20 per cent long-term average (of all home loans financed).
Second, the banks have now reduced their loan-to-value ratios to levels that have negated the effect of the boost.
Third, as noted above, lenders across the board have been tightening credit standards since the crisis emerged?the restrictions imposed on first time buyers today are the harshest they?ve been for over a decade.
Finally, Australia has never really had any sub-prime market to speak of (less than 1 per cent of all loans at its peak), which is one reason why Australia?s mortgage default rates have been a fraction of the likes of the US, UK and Spain.
Job losses and housing
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In previous articles I have revealed detailed research undertaken by the company I work for, Rismark International, evaluating the impact of very high levels of unemployment on Australian house prices.
As one example, we analysed the performance of all the publicly available house price indices during the 1990-92 recession when unemployment peaked at 10.9 per cent.
We have also examined the actual returns to purchases and sales of homes (ie, ?repeatsales?) during this period. The results from both tests were comforting ? the median returns were all materially positive (ie, house prices generally increased notwithstanding a dramatic rise in the unemployment rate from 5.6 per cent to 10.9 per cent).
It is possible, of course, to argue that today?s circumstances are different to 1990-92. But it is helpful to set aside the rhetoric about the influence of unemployment and focus on some simple yet intuitively satisfying analysis (refer also to the table below).
For every one per cent increase in the unemployment rate, there are around 108k jobs lost given 10.8 million employed persons as at April 2009 (it is actually slightly less than this). So if we take a ?gloomy case? and assume that the unemployment rate rises to, say, 10 per cent over the next 2 years (well above Treasury forecasts of 8.5 per cent), we are looking at approximately 500k jobs lost in light of the 5.4 per cent unemployment rate today (the true numbers are 10 per cent over the next 2 years (well above Treasury forecasts of 8.5 per cent), we are looking at approximately 500k jobs lost in light of the 5.4 per cent unemployment rate today (the true numbers are likely to be less than this as the participation rate falls).
Based on ABS data, we know that there are 1.26 employed persons per household. This suggests that roughly 397k households will be affected. We also know from the ABS?s 2008 Year Book that 70 per cent of households are owner-occupiers.
While home ownership rates rise with age through to the twilight years, let?s conservatively suppose that (a high) 70 per cent of unemployment-affected households are home owners. That leaves us with 277k owners.
And although only half of all home owners have a mortgage, let?s suppose here that 60 per cent of these owners have one (ie, more than average).
That gives 166k owners with a mortgage who are adversely affected by job losses.
To take a blunt downside scenario, imagine that half of all these households are forced to sell their homes. This implies about 80k distressed sellers.
The average number of sales executed across Australia (metro and non-metro) every year since January 2005 has been roughly 480k homes based on RP Data information (on a rolling monthly basis).
Assuming that these distressed sales occur over a 3 year period given the delay between losing a job, defaulting on a loan, and having to sell a home (and noting that the rise in the unemployment rate to 10 per cent takes up to 2 years), this suggests that the huge increase in unemployment that we?ve assumed will only lead to a total 5.8 per cent increase in home sales. Does that sound like a disastrous outcome to you?
Another way of looking at this is to consider the impact of the increase in the unemployment rate on the stock of homes advertised for sale in the market (think of this as ?market supply? as opposed to the ?underlying supply? that economists often refer to in long-term analyses of the demand-supply dynamics).
According to RP Data, there are typically around 10k to 12k new properties listed for sale each week or about 500k to 600k new homes each year. This number is obviously higher than the number of final sales since a proportion of the properties advertised are withdrawn from the market.
Taking a crude guide of about 550k new listings each year, half a million job losses (ie, a 10 per cent unemployment rate) would result in a circa 5 per cent rise in the supply of properties advertised for sale over a 3 year period. Once again, this is pretty small beer in the scheme of things (just don?t tell the doomsayers I said so!)?
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