Will Mortgage Rates Rise Further? – The Property Imperative Weekly 22 July 2017

How much will mortgage rates rise, and when? Welcome to the latest edition of the Property Imperative Weekly, our digest of important finance and property news.

Today we are looking back over the week to 22 July 2017. Banks, Mortgage Rates and Household Finances were all in the spotlight.

We start with APRA’s announcement that they will require banks to lift their capital ratios over the next few years, to ensure they are, to quote the Financial System Inquiry “Unquestionably Strong”. APRA focussed on the CET1 ratio, and they chose to take a long-term, through-the-cycle approach, rather than tying capital ratios to the top quartile of international banks.

Major banks will be required to hold an additional 150 basis points by 2020, whilst those on the standard capital approach, typically, smaller banks, will need a 50 basis point lift. In fact, most regional banks are already operating well above the target minimums, and the majors have been lifting their capital already, with some like ANZ likely to be at the required levels, whilst others, like CBA will need to bulk up, either using dividend re-investment plans, or by issuing more capital.  It does tilt the playing field slightly towards the smaller guys, but those who are investing big to migrate to the advanced IRB capital method will be a bit miffed.

APRA did not address the question raised by the Basel Committee and the new international framework still in the works, which is likely to raise internal-ratings based risk weights for investor mortgages and mortgages with high loan-to-value ratios. This change would further add to Australian banks’ capital needs.

Two points to make on all this. First, APRA has come out with a relatively small lift and below the expectations of many analysts, which is one reason why the bank stocks rose this week. It had all been well signalled. Second, APRA says the net impact will be around 10 basis points on income, and they flag this may be recovered from borrowers or from reduced dividends. If all of this was applied to mortgage portfolios, we think an uplift of 20 basis points or more would be needed. In practice there are so many moving parts in the banks treasury operations, we will never be able to isolate the impact of a single factor. But it does put more pressure, not less, on future mortgage rates

Also this week, the RBA released the minutes of their July meeting. It contained on interesting discussion on what the neutral interest rate in Australia at the moment. The “neutral” official cash rate they estimate is 3.5 per cent – a full 200 basis points above where the cash rate is now. This has two implications, first the current settings are stimulatory, and second, it was taken by many as hinting that rates will rise in the months ahead. The media spoke about a 2% rise in mortgage rates, coming soon.

We have been highlighting for some time now the current cash rate will rise at some point and the RBA language certainly reduces the likelihood of a further cut.  How soon a rise will hit though is uncertain, with Malcolm Turnbull on one hand warning households that they should prepare for higher rates, whilst on the other, later in the week, Deputy Governor Guy Debelle seemed to be hosing down expectations of a rise anytime soon.  He also indicated that the neutral cash rate is probably lower now than in the past, despite a trend towards rising rates elsewhere.

All of this may be confusing, but our perspective is the next move to the cash rate will be up, not down, and it could come anytime in the next few months, especially if inflation rises, and the growth in employment, as reported this week continues. What this means is that households do need to start planning for higher future rates, and we know from our mortgage stress work that around a quarter of mortgage holders have no wriggle room. Personal insolvencies have risen in the past year.

Whilst the current round of bank led mortgage repricing may have abated – there were no significant hikes for the first time for weeks – we do not think this is the end of rate lifts.

We think there are three groups of households who should be taking great care just now.

There are some amazing offers around for first time buyers, and lenders are falling over each other to try and attract them. This is because banks need new loans to fund their growth. But these buyers should beware. They are buying in at the top of the market, when rates are low. Banks have tightened their underwriting standards, but still they are too lax. Just because the bank says you can afford a loan does not mean it is the right thing to do. Any purchaser should run the numbers on a mortgage rate 3% (yes 3%) higher than the current rates on offer. If you can still afford the repayments, then go ahead. If not, and remember incomes are not growing very fast – best delay.

Second, there are people with mortgages in financial difficulty now. Well over 24% of households do not have sufficient cash-flow to pay the mortgage and other household expenses. The temptation is to use the credit card to fill the gap – but this is expensive, and only a short term fix. Households in strife need to build a budget (less than half have one) so they know what they are spending, and start to cut back. Talk to your lender also, as they have an obligation to assist in cases of hardship. And be very careful about refinancing your way out of trouble, it so often does not work.

Third there are property investors who are seeing rental incomes and mortgage repayments moving in opposite directions. As a result, despite tax breaks, investment property looks a less good deal. Of course recent capital gains are there – and some savvy investors are selling down to lock in capital value – but be careful now. New property investors are in for a shock as mortgage rates rise further. And multiple investors, are most at risk. Should property values decline, then this will mark the real turning point; but we think the investment property party may be over.

Cutting to the chase, mortgage rates will continue to rise, but the speed of such increases is hard to predict.

Next, the noise about mortgage broker commissions continued with consumer groups reinforcing their view that brokers are conflicted and current commission structures mean consumers are not getting the best outcomes, whilst industry associations continue to rubbish the criticism, and argue that brokers help to propagate competition in the mortgage market, and mortgage rates would be higher without brokers.

We think the right route is to reinforce disclosure. If brokers were to fully disclose their commissions, consumers could make a more informed choice. Some may choose to go with brokers who charge an advice fee, others may run with those offering the current “free” advice in return for payments from lenders. Mortgage brokers do actually offer a valuable service and should be remunerated for their efforts, but conflicts of interest which beset the current arrangements according to ASIC must be addressed. We are not sure the current industry led committee approach will get to the right outcome.

Finally, we published our latest household surveys which shows that whilst there are segmental movements in play, overall demand for property remains intact, despite rising mortgage interest rates and concerns about stalling income growth.

Results from our latest 52,000 survey show that first time buyers are being encouraged by the more generous first home owner grants on offer in several states. On the other hand, the relative benefit of home purchase relative to renting has reduced.


The biggest changes in the barriers first time buyers are experiencing relate to the availability of finance, whilst concerns about future interest rate rises, and rising costs of living reduced a little compared with our May results. Overall first time buyer demand is up.

Turning to property investors, the barriers to purchase are changing with a rise in those concerned about rising mortgage interest rates and availability of finance. The reasons to transact have shifted, with a significant rise in those saying they were driven by tax benefits (both negative gearing and capital gains) whilst there was a fall in those looking to appreciating property prices and low finance rates. Overall, investor demand is down a bit.

Another important group are those refinancing. After a strong swing in 2016 to get a better loan rate, there has been a rise in those seeking to reduce their monthly repayments.

So plotting the change of transaction intention over the next 12 months, we see a significant fall in both portfolio and solo property investors, but a rise in first time buyer purchasers expecting to transact.

Finally, we see that in relative terms, there is a fall in the proportion of property investors expecting to see home prices rising in the next 12 months, whilst first time buyers are a little more positive, and there has been little change in expectation across our other segments.

Putting all this together, we think demand for finance, and for property will remain quite strong, and on this read, it is unlikely home prices will fall much at all in the major eastern state markets. Other states are more at risk of a fall, which once again underscores the diversity in the market across Australia.  As a result, lenders will still be able to write more business, though the mix is changing. But affordability will remain a challenge.

Turbulent Times – The Property Imperative Weekly 15 July 2017

At the heart of the property market there is a paradox – prices are still rising in most centres and auction clearance rates remain elevated, yet mortgage lending momentum is easing. How can this be?

In our latest weekly review we look at lending momentum, property prices and mortgage industry innovation. We are living in turbulent times! Welcome to the Property Imperative Weekly to 15th July 2017.

First, don’t believe all the noise about home prices collapsing. Latest data shows continued growth. For example, in Victoria, according to RIEV, the metropolitan Melbourne median house price rose 2.9 per cent in the three months to June 30, to $822,000. The top growth suburbs were spread right across Melbourne, and at both the low and high ends of the market, from Broadmeadows and Roxburgh Park in the north, to Malvern East and Toorak in the south-east. Croydon in the outer east experienced the city’s largest quarterly increase, up more than 20 per cent to a median of $810,000. Toorak was the most expensive suburb though half of the top-growth suburbs are priced below the Melbourne’s median, suggesting buyers continue to seek value further from the city.

Melbourne’s apartment sector performed similarly well in the June quarter, with the metropolitan Melbourne median apartment price increasing 4.3 per cent to $606,500.  House prices in regional Victoria rose strongly for the second consecutive quarter, up two per cent in June to a record high $385,000.

Data from CoreLogic also showed that to 9th July, prices in Sydney rose 3.4% in the past month, in Brisbane they rose 0.5% but fell in Adelaide by 1% and Perth 0.8%. In addition, the preliminary auction clearance rates increased to 70.7 per cent this past week, up from 67.3 per cent the previous last week, even though auction volumes fell week-on-week, there were 1,751 properties taken to auction this week, down from 2,001 last week, still higher than this time last year. All but two of the capital cities saw the clearance rate increase week-on-week while Melbourne recorded the highest preliminary clearance rate at 73.9 per cent.

There are a number of clouds on the horizon though. This week the Government released draft legalisation stemming from the 2017-18 Budget when the Treasurer said travel expense deductions relating to residential investment properties would be disallowed and depreciation deductions for plant and equipment used in relation to residential investment properties would be limited.

We released our Household Finance Confidence index to June 2017, and the news was not good. Overall the index dropped below the neutral setting and appears to be trending lower. The current reading is 99.8% compared with 100.6 in May. The fall is being driven by a confluence of issues, none new, but now writ large. Households are seeing the costs of living rising (especially power costs, child care costs and council rates), whilst household income remains depressed and is falling in real terms. Returns on deposits actually fell as well, so mortgage repricing is not being matched by better saving rates. The costs of mortgage repayments rose. The most significant fall in confidence was in the property investor segment, where loan repricing has been more pronounced, whilst rental incomes are hardly growing. They are also concerned about slowing capital appreciation. However, it is still true that property owners have their confidence buttressed relative to property inactive households who are more likely to be renting, and see no rise in their net worth.

The ripple of mortgage rates rises continued with Advantedge an important wholesale funder and distributor of white-label home loans, and part of the National Australia Bank Group, announcing it will increase the interest rate on all new and existing variable rate interest only home loans by 0.35% p.a., effective Tuesday 8 August.

Westpac said it ditching mortgage and equity-release products in a high-level review of its product range and underwriting standards. The latest products to be dumped include equity access low documentation loans, which is a revolving line of credit secured against property; and a range of fixed rate low documentation home loan. Review recommendations are expected to flow onto Bank of Melbourne, St George Bank and BankSA.

Data from the ABS showed that overall lending finance sagged in May. Owner Occupied housing grew, by 0.4%, with a rise in first time buyers, but all other lending flows were lower, whether you look at the trend or seasonally adjusted figures.

Personal credit continues to fall, the flows fell 3.2% of $193 million, with similar rates of decline across both fixed and revolving loans.

Total commercial lending fell 0.8% of $314 million. Within that lending for investment housing fell 1.5% or $194 million, whilst other fixed commercial lending fell 0.5% or $96 million. Revolving commercial credit fell 0.3% or $24 million.  If business confidence is really so strong, why no growth in borrowing – something does not add up!

As a result, the total proportion of business lending to total lending stood at 29.9% down from a peak of 30.9% in December 2016. The proportion of investment property lending flows slipped to 18.1% of all lending, and 37.4% of all housing lending.

So whilst the regulatory tightening is crimping demand for investor finance, it is not being replaced with a rise in productive business lending, so commercial finance has fallen. This will put downward pressure on growth, at a time when mortgage interest rates are rising. We cannot see how the future growth expectations from the RBA are going to be met on these figures.

It is clear however, that secured lending for owner occupation rose, as first time buyers pick up the slack, and investor lending remains strongest in the two overheated markets of Sydney and Melbourne. Much of the fall in investment sector lending resides in the other states, who are already experience economic pressure. Data from AFG showed that more new loans are being written by non-major banks, who are helping fill the void left by some of the majors and consumers are benefiting from the fact that a mortgage broker can offer products from those lenders without a branch network.

All this explains why we have home prices moving up, whilst lending is slowing – you need to get granular to understand what’s happening, as discussed in an interesting IMF working paper.

Elsewhere, mortgage brokers commissions were in the spotlight following the ASIC review which found that consumers were not getting great outcomes and that the standard model of upfront and trail commissions creates conflicts of interest.  The industry is being given a chance to self-regulate.

A combined industry forum, which involves the ABA, MFAA, FBAA and COBA, first met in June and is scheduled to meet later this month, with the broad objective of responding to ASIC’s review. Participants though hold a range of different views.

CHOICE, said it was “simply not good enough” that ASIC “has left it up to the industry to find a solution”. They suggested that the way mortgage brokers are currently paid “means it’s very unlikely that a customer is going to get a loan that’s best for them” and that the industry therefore needed a “major change”.

In a joint submission to the Treasury, consumer advocacy group CHOICE, along with the Financial Rights Legal Centre, Consumer Action Law Centre and Financial Counselling Australia, called for the removal of upfront and trail commissions, the implementation of fixed fees (via lump sum payments or hourly rates), the removal of bonus commissions, bonus payments and soft dollar payments; and  a change in law so brokers have to act in the ‘best interest’ of clients; and a requirement that brokers disclose ownership relationships and the lender behind any white-label loan recommended to a consumer.

However, the peak broker bodies – the MFAA and FBAA have called this submission “ignorant” and “misinformed”, which perhaps is unsurprising, as these bodies are strongly aligned with the current mode of operation.  They slammed the recommendations as “detrimental” to consumer interests and claimed mortgage rates would rise if such reforms were implemented.

The Australian Bankers Association announced it wants commissions to be decoupled from loan size but is prepared to negotiate with brokers to find a new model. Their Sedgwick review called for commissions to be completely decoupled from loan size by 2020.

So there will be some changes to mortgage broker commissions, but is not yet clear what the shape of those reforms will be. Whilst consumers say they get good service from brokers, the implicit conflicts in the current model cannot be overlooked.

Finally, this week two interesting Fintechs launched, highlighting that innovation is set to disrupt the mortgage market.  Tic:Toc has emerged offering ‘instant home loans’ through a digital real-time loan processing system that connects customers directly to the lender, claiming a 22-minute home loan is available, which includes approval and document generation.  This is significantly faster than most traditional lenders.

Separately, peer-to-peer lender Zagga, held a launch party in Sydney recently. The firm is looking to differentiate itself from competitor peer-to-peer players by pitching itself as the ‘secured alternative’. All Zagga’s loans are secured against a property and investors are matched with a specific loan, i.e. it is not a ‘pooled’ structure. While an algorithm is used to match investors with borrowers, depending on each investor’s risk tolerance, each lender undergoes a credit assessment by Zagga’s staff.

So signs of digital disruption now hitting the mortgage industry, in this time of uncertainty.

And that’s the Property Imperative week to 15th July. If you found this useful, do subscribe to get the next edition, or sign up to the Digital Finance Analytics blog to receive all the latest news. Thanks for watching.

Inequality Rules – The Property Imperative Weekly 8th July 2017

The Reserve Bank held the cash rate, more banks hiked mortgage interest rates, household debt rose again and our latest research showed that more than 800,000 households across Australia are experiencing mortgage stress. Welcome to the latest edition of the Property Imperative Weekly.

HSBC said the housing bubble fears were overblown. At a national level, a key reason for rising housing prices has been housing under-supply, Chief Economist Paul Bloxham wrote in a research note on Thursday and suggested that a significant fall in Australian housing prices, as occurred in the U.S. and Spain during the global financial crisis, is unlikely.

But data from CoreLogic showed whilst  home prices rose in the last quarter, whilst auction volumes fell, and housing affordability deteriorated. The national price to income ratio was recorded at 7.3 compared to 7.2 a year earlier, and 6.1 a decade ago. It would have taken 1.5 years of gross annual household income for a deposit nationally at the end of the March compared to 1.4 years a year earlier and 1.2 years a decade ago. The discounted variable mortgage rate for owner occupiers was 4.55% and an average mortgage required 38.9% of a household’s income.

New data from the RBA showed that the household debt to income rose to a high of 190.4. Households are more in debt than they have ever been, and the main question has to be, can it all be repaid down the track, before mortgage interest rates rise so high that more get into difficulty.

Our June mortgage stress results  showed that across the nation, more than 810,000 households are estimated to be now in mortgage stress up from 794,000 last month, with 29,000 of these in severe stress. This equates to 25.4% of households, up from 24.8% last month. We also estimate that nearly 55,000 households risk default in the next 12 months. The main drivers are rising mortgage rates and living costs whilst real incomes continue to fall and underemployment is on the rise.  This is a deadly combination and is touching households across the country, not just in the mortgage belts.

We analyse household cash flow based on real incomes, outgoings and mortgage repayments. Households are “stressed” when income does not cover ongoing costs, rather than identifying a set proportion of income, (such as 30%) going on the mortgage. Stressed households are less likely to spend at the shops, which acts as a drag anchor on future growth. The number of households impacted are economically significant, especially as household debt continues to climb to new record levels.

Census data shows that Home ownership has continued to fall among younger Australians. Only 36 per cent of people aged 25-29 said they owned their home outright or with a mortgage – likely the lowest level since at least the 1960s. Home ownership for the next age group, 30-34, also declined, to 49 per cent, which is likely another record low.

Overall inequality in Australia is rising, between those who have property and those who do not. Australia has prominent examples of economic policies that disproportionately benefit the upper-middle class, such as the capital gains tax discount and superannuation tax incentives. We also have a geographically concentrated income distribution, with the rich living in neighbourhoods with other rich people. The poor are also more likely to live in close proximity to people who share their disadvantage.

There were major changes to mortgage rates and underwriting standards this week, with many following the herd by lifting rates for interest only borrowers, especially investors whilst making small downward movements in principal and interest loan rates, especially at lower LVRs.

NAB will start automatically rejecting customers who want to borrow a high multiple of their income and only pay interest on their home loan, amid concerns over the growing risks created by rising household indebtedness.     While NAB already calculates loan-to-income ratios when assessing loans, it has not previously used the metric to determine whether a customer gets a loan, and such a blanket approach is unusual in the industry.

We have maintained for some time that LTI is an important measure. It should be use more widely in Australia, as it is a better indicator of risk than LVR (especially in a rising market).

Several more banks tweaked their mortgage rates this week. Virgin Money for example increased its variable and fixed rates for new owner occupied loans for LVRs of over 90% by 35 basis points or 0.35%, and increased its standard variable rates for owner occupied and investment interest online loans by 25 basis points.

Auswide Bank announced an increase to their reference rates for investment home loans and lines of credit of 25 basis points from 11 July 2017 will result in a new standard variable rate (SVR) of 6.10%. They blamed funding pressures and regulatory limits on investment and interest only lending.

ING Direct  changed their reference rates, for owner-occupier borrowers, the principal and interest rates will decrease by 5 basis points. But for owner-occupier borrowers, interest-only rates will increase by 20 basis points and investor borrowers on interest-only loans will cop a 35 basis point rise. They are also encouraging borrowers to switch to principal and interest repayment loans.

Bendigo Bank lifted variable interest rates by 30 basis points for existing owner occupied interest only customers and 40 basis points for existing investment interest only customers. They also lifted business loans with new business interest only variable rates up by 40 to 80 basis points and fixed interest only rates increasing by 10 to 40 basis points.  On the other hand, new Business Investment P&I variable rates will decrease by 15 basis points and fixed P&I interest rates decreased by 30 basis points.

The RBA held the official cash rate at 1.5 per cent for the tenth time on Tuesday. It hasn’t moved since a 25 basis point cut in August 2016. But Analysis shows that the gap between the RBA rate and the standard rate banks quote to mortgage borrowers is around the widest in 20 years. The Banks did not pass on the full benefit of the RBA’s record-low rates in order to offset costs and prop up profits. Last year there was a massive race to the bottom in terms of discounts to try to gain volume and share. Many banks dented their margins in the process. But now they’ve now got the perfect cover, thanks to APRA’s regulatory intervention, and so we expect to see mortgage rates continuing to grind higher, particularly for investors and anyone on interest-only. This will simply lead to more mortgage stress down the track whilst the banks rebuild their profit margins. Another example of inequality.

And that’s the Property Imperative to the 8th July. Check back again next week

Hung Out To Dry – The Property Imperative Weekly – 1 July 2017

Data this week showed the impact of ever higher mortgages, with more households in debt for longer, and thanks to rising property prices, more households cannot get even into the market and are forced to rent. Welcome to this week’s edition of the Property Imperative.

This week we had the first look at the latest Census data, and it was a mixed bag. The Census counted 23.7 million people in Australia on the night. In the last 10 years’ average population has been 1.7% each year, compared with 1.4% in the prior decade. Strong migration is part of the story, with 1.3 million new migrants arriving since 2011, from some 180 countries.

Superficially, households appear to be more wealthy, but in fact the real issue is that there are more and more jobs being created which are not paying enough to live on. One-fifth of households in 2016 recorded a gross income, including all government benefits, of less than $650 a week. Many of these households are left behind by the skyrocketing housing market, stuck in the rut of under-employment, attacked as a drain on the budget or for not paying more tax, seeing their penalty rates cut, or forced to jump through undignified job-seeker hoops.

The census also suggested that housing supply is not the issue many are claiming it to be. The key myth-busting statistic is the average number of people per dwelling, which has not budged an inch in the five years since the last census. It’s staying at 2.6 which is where it was back in 2000 well before the house price boom began. Moreover, the number of unoccupied dwellings grew at 11.3 per cent over five years. That equates to 105,000 more empty dwellings since 2011, whereas the census shows the number of occupied dwellings increased by 6.8 per cent over five years, which is less than population growth over the same period: 8.8 per cent. That said, more households are renting, and more households have larger mortgages.

Other data also showed that rising mortgage debt is affecting everything from employment to spending, as Australians approach retirement. Australians are having to work for longer to pay off their mortgage, indeed many are expecting to take the debt into retirement. In addition, overall, the percentage of home owners aged 25 years or over who are carrying a mortgage debt climbed from 42% to 56% between 1990 and 2013.

More banks hiked investor loans and tightened underwriting standards this week. CBA changed their mortgage rates for owner occupied and investor mortgage holders. This included a significant hike for interest only borrowers, and they already tightened serviceability requirements a couple of weeks ago, whilst Principal and Interest Owner Occupied holders got a 3 basis point reduction! All this has, they say, nothing to do with the bank tax.  But it has everything to do with margin repair.

ME Bank lifted the rates for existing and new interest-only mortgages by 40 basis points, or 0.4%, whilst decreasing rates for lower LVR new owner-occupied loans by 10 basis points.

St George announced tighter serviceability requirements when borrowers seek to move to interest only mortgages

Bank profits will be bolstered thanks to ongoing mortgage growth, and the benefit of the recent mortgage repricing, under the alibi of regulatory pressure.

The latest RBA data showed that mortgage lending grew again in May to $1.67 trillion, up 6.6% in the past year, compared with 6.9% a year ago. Owner occupied lending rose $7.8 billion (up 0.72%) and investment lending rose $1.6 billion (up 0.28%), both seasonally adjusted. Surprisingly another $1.4 billion of loans were reclassified in the month between owner occupied and investor, taking total adjustments to an amazing $53 billion. We will probably never know how much of these switches related to legitimate changes of use, and how much is because of poor bank data or borrowers seeking out routes to cheaper loans.

The APRA data, which covers just the banks, also showed a rise in the value of their mortgage books, up $9.2 billion to $1.56 trillion.  Within this, owner occupied loans grew 0.7% to $1,010 billion and investment loans grew 0.42% to $550 billion (higher than the 0.39% last month). The proportion of loans for investment purposes stands at 35.4% on a portfolio basis. In fact, overall mortgage growth is accelerating – so much for the regulatory pressure to slow lending.

It is also worth noting that some lenders are still well above the 10% speed limit for investor loans.  We think further steps need to be taken to cool the mortgage market – too much debt is being loaded on to households in a rising interest rate, low/no income growth environment.  This also suggests home prices will continue to rise, after recent slowing trends were reported. We saw quite good auction clearances last week, and after a dip, home prices might indeed be on the up again.

The Productivity Commission’s review of Financial Services competition kicked off this week, with APRA arguing that financial stability and banking competition are not mutually exclusive. The peak body for Customer Owned Banks made the case that the competition landscape is really tilted in favour of the big banks, thanks to the implicit Government Guarantee, and more generous capital rules. The banking sector is an oligopoly, they say.

Big deals were announced by online real estate platforms and mortgage lenders. Domain Group has announced it is expanding into home loans broking with the launch of ‘Domain Loan Finder’ in partnership with digital home loan platform Lendi.

Realestate.com.au and NAB are building a realestate.com.au-branded mortgage broking business and will launch later this year. All Choice Home Loan brokers will be invited to join the new business, which will benefit from realestate.com.au’s near 5.9m unique visitors a month. Separately Realestate.com.au acquired an 80.3% controlling stake in Smartline mortgage brokers.

These deals highlight the digital transformation underway, as consumers use online tools to search for real-estate, and then can apply for a loan within the same environment. Essentially, this disruptive play is really just another plank in the end-to-end lending value chain, and such vertical integration may not, in the long term, be good for consumers.  We wonder if the Productivity Commission have this type of deal on the competition radar.

Finally, the spectre of eight, yes eight rises in the cash rate ahead were flagged by a former RBA board member this week. But in fact it was mis-reported by many. What he said was, if the economy started to track in line with RBA projections, they would be able to lift the cash rate.

The truth is, the economy is bumping along, with too little investment by the business sector (which can create real growth), and too much flowing into the overpriced housing sector. Until more radical action is taken, as for example the Bank of England did this week, we think future growth will be significantly below forecast, so the cash rate will only rise slowly.

But we still think mortgage rates will go higher, and so pressure on households will get significantly worse.

If rates were to rise by 2%, the number of households in mortgage stress would nearly double and, again – as the Bank of England highlighted – this would translate to significant dampening on future growth. We are in an uncomfortable position, with no easy way out, thanks to poor policy settings in recent years, and housing affordability reduced to a spurious debate about property supply.

And that’s the Property Imperative week to 1 July 2017. Check back next time for the latest update.

The Property Imperative Weekly – 24 June 2017

More pain for property investors this week, with lenders continuing to lift mortgage rates and trim maximum LVR’s. And more pain for banks as their credit ratings are trimmed, the federal bank tax becomes law; and South Australia imposes an additional levy on the big five. Welcome to the Property Imperative Weekly to 24th June 2017.

The regular pattern of mortgage interest rates hikes continued, with NAB lifting interest rates for all interest only loans by 35 basis points or 0.35%, whilst cutting principal and interest owner occupied loans by 8 basis points.  Westpac lifted interest only loans by 34 basis points reduced principal and interest loans by 8 basis points. The impact of these changes according to Macquarie will be net positive in terms of bank returns. AMP Bank also lifted investor rates by 35 basis points and reduced the maximum LVR on investor loans to 50%.

These changes are making life difficult for some property investors currently with interest only loans. Do they switch to a principal and interest alternative, thus lifting their monthly repayments, or wear the lift in rates on their current loans, thus lifting their repayments? It’s a prisoner’s dilemma. Either way, it is less likely the current rental on the property will cover the costs of the loan repayments and we know from our surveys about half of all investment properties are underwater when it comes to covering the repayment flows.

More data this week to show that some major lenders are dialling back investor loans via brokers to try and manage their portfolios to within the current APRA guidelines. This trend, which we have highlighted before, was confirmed in the AFG Competition Index.

Mortgage stress was in the news again, with surprising results from Roy Morgan’s survey which showed that from their 10,000 mortgaged household sample, in the three months to April 2017, 16.8% or 666,000 mortgage holders can be considered to be ‘at risk’ or facing some degree of stress over their repayments. This compares favourably with 18.4% or 744,000 mortgage holders 12 months ago. It is worth noting their definition of stress though – “Mortgage stress is based on the ability of home borrowers to meet the repayment guidelines currently provided by the major banks. The level of mortgage holders being currently considered ‘at risk’ is based on their ability to meet repayments on the original amount borrowed. This is currently 16.8%, which is well below the average over the last decade”.

The DFA approach to mortgage stress, which looks at total household cash flow, not the theoretical repayment profile, indicates that mortgage stress is continuing to rise as incomes are crushed in real terms, costs of living rise, underemployment stalks many, on top of a series of mortgage rate rises. Data from Canstar showed that basic variable rates jumped by almost 30 basis points as increasing number of borrowers go for fixed rate loans so trying to control these escalating mortgage costs, but of course, many fixed rates already have higher costs wired in.

We looked at the correlation between mortgage stress and bank loan losses, which we expect to rise in coming months. Indeed, the latest data from Standard and Poor’s showed that home loan delinquencies underlying Australian prime residential mortgage backed securities (RMBS) increased from 1.16% in March to 1.21% in April. They link the rise to higher mortgage rates.

But whether you take the 666,000 households from Roy Morgan, or 794,000 from DFA, both are big numbers! There are many households in mortgage pain, and all the indicators are things will get worse in the months ahead.

We expect APRA will demand the banks hold more capital, US rates were lifted by the Fed, and Moody’s downgraded the long-term credit rating of 12 banks including Australia’s big four, after pointing to surging home prices, rising household debt and sluggish wage growth. They said “elevated risks within the household sector heighten the sensitivity of Australian banks’ credit profiles to an adverse shock, notwithstanding improvements in their capital and liquidity in recent years”.

There were state budgets in NSW and SA. In NSW Stamp duty makes up a huge proportion of the State’s income, at $10 billion, with revenues jumping 10% over the past year and are expected to grow 6% each year for the next three years. From July 1 stamp duty for FHBs will be abolished for new homes up to $650,000 with discounts on properties of up to $800,000. Additionally, grants of $10,000 will be available for new homes of up to $600,000 and for FHBs who build their home. Stamp duty will no longer be charged on lenders mortgage insurance.

South Australia surprised by adding a local bank tax to the big five. They plan to charge a levy on the major banks bonds and deposits over $250,000 but will exclude mortgages and ordinary household deposits. The tax, to be introduced 1 July, is expected to raise $370 million over four years. The banks responded, including threats to pull jobs from SA, but then the banks are easy targets, and we would not be surprised if other states followed suite.

Meantime the federal bank tax was passed after a brief senate review. Now the Treasurer has announced plans to change the way eligibility for a credit card is assessed, shifting it from the ability to pay the minimum repayment to being able “to repay the credit limit within a reasonable period”.

Australians’ wealth is overwhelmingly in our housing. Our housing stock worth valued at $6.6 trillion. That’s nearly double the combined value of ASX capitalisation and superannuation funds.

Housing is strongly linked to financial stability as highlighted in excellent speech by Fed Vice Chairman Stanley Fischer. He said there was a strong link between financial crises and difficulties in the real estate sector. In addition to its role in financial stability, or instability, housing is also a sector that draws on and faces heavy government intervention, even in economies that generally rely on market mechanisms.

Australian Housing and Urban Research Institute (AHURI) published a report this week on housing policies across the nation. They argue, rightly, that Australia needs a federal minister for housing, a dedicated housing portfolio, and an agency responsible for conceptualising and co-ordinating policy. The current fragmented, ad-hoc approach to housing policy seems poorly matched to the scale of the housing sector and its importance to Australia.  There is no clear systematic policy framework for housing across the nation, just piecemeal bits of policy, which are not fit for purpose.

Finally, the ABS released their residential property price data to March 2017. They said overall, prices rose on average 2.2% in the quarter. The price rises in Sydney (3.0 per cent) and Melbourne (3.1 per cent) were partially offset by falls in Perth (1.0 per cent) and Darwin (0.9 per cent).

Through the year growth in residential property prices reached 10.2 per cent in the March quarter. Sydney recorded the largest through the year growth of all capital cities at 14.4 per cent, followed closely by Melbourne at 13.4 per cent.

This ongoing rise may go counter to some recent data, although we note the CoreLogic data this week also shows rises in most centres, after recent softer data. The next ABS series, due out in 3 months will be the one to watch.  Auction clearances last weekend were quite strong, if on lower volumes, so as yet, signs of a real slow-down remain muted.

And that’s it for this week. Check back next week for the next installment.

Households Budgets Under Pressure – The Property Imperative Weekly 17 June 2017

Household financial pressures continue to build as the costs of energy rise, under employment lifts to a record and interest rates climb. Welcome to the Property Imperative weekly to 17th June 2017.

Power bills will soar by hundreds of dollars next month in east coast states, and experts blame policy uncertainty in Canberra. Two major retailers, Energy Australia and AGL, have announced they will hike prices substantially from July 1. A third, Origin Energy, is expected to follow soon. Energy Australia will increase power bills by almost 20 per cent, roughly $300 more a year, for households in South Australia and New South Wales. Gas prices will go up 9.3 per cent in NSW and 6.6 per cent in SA, adding between $50 and $80 to annual bills.

In this week’s economic news, whilst the headline unemployment rate remained at 5.7%, there are significant state variations. Unemployment remains above 7% in South Australian, and below 3.5% in the Northern Territory.

The really important, yet under-reported data related to underemployment, which is at its highest level since records began in the 1970s. The trend estimate of underemployment worsened from 8.7 per cent in December-February to 8.8 per cent in March-May, which means around 1.1 million Australian workers are crying out for more hours.

Pressure on interest rates are likely to continue, with the FED lifting the benchmark rate, and analysts are suggesting the FED funds rate is likely to normalise at 3.5% by 2020, and U.S. 10-year bond yields will rise back above 4%. It seems they were prepared to look through weak first quarter consumption and GDP and underlines concerns about US unemployment falling too far below its equilibrium rate.

But there is a knock of effect, in that the T10 bond yield is directly linked to the price of money on the international capital markets, and as Australian banks, especially the larger ones are reliant on international funding, this will put upward pressure on mortgages rates here.

So, putting all this together, we expect pressure on household budgets will continue to grow. We expect the number of households in mortgage stress to pass 800,000 quite soon. That’s getting close to a quarter of households.

Analysis of the latest Westpac and Melbourne Institute’s consumer sentiment index, which reported at 96.2 in June 2017, shows the “time to buy a dwelling index” which is a subset of the consumer sentiment index was at 90.9 points and is hovering around the lowest levels seen since the financial crisis.  Whilst Australians tend to be bullish on housing and its prospects, this data shows that sentiment towards housing has been consistently negative since February of this year.

Several more banks made changes to mortgage interest rates and underwriting standards.  For example, Bank West reduced the maximum LVR on interest only loans to 80% and some loan rates will rise between 4 and 34 basis points for both existing owner occupied and investor loans. On the other hand, the bank will reinstate applications from non-Bankwest customers for standalone refinance of P&I investor purpose loans and dropped the rate for some new P&I investment lending.

CBA changed its serviceability buffers to fall in line with the other majors. For those taking out a new mortgage who already have an existing CBA home loan, line of credit or business loan, the bank will assess the ability to pay through an interest rate buffer of 7.25% p.a. or the current interest rate plus 2.25% p.a. minus any existing rate concessions (whichever is higher). For customers with an existing owner occupied/investment, line of credit or business loan with an external financial institution, CBA will apply a service loading of 30% to the current repayment amount.

Teachers Mutual Bank increased home loan variable and fixed interest rates by 10 basis points or 0.10%, for new business. It has 174,000 members and more than $5.3 billion in assets.

We are also seeing some banks tweak their mortgage origination strategy, as they power up owner occupied mortgage lending through their branch networks, whilst slowing the volume of loans written through the broker channel, and interest only loans to investors in particular. In a recent The Adviser survey, brokers who had experienced channel conflict were asked which type of loan their clients had been approached by their bank to refinance. Almost 74 per cent of brokers said clients with owner-occupier mortgages had been targeted.

The Senate Inquiry into the Bank Tax heard from industry participants this week. On one hand the Customer Owned Banking Association – COBA –  the industry association for Australia’s customer owned banking institutions – mutual banks, credit unions and building societies said they welcomed the tax as it would help to rebalance competition in the Industry. They claim that the implicit Government guarantee, which the major banks enjoy, stacks the deck in terms of pricing.

On the other hand, the majors said that whilst they accept the tax will be imposed, the costs cannot be absorbed and will be passed on the customers, shareholders and staff members. They said the levy should be temporary, and should be extended to include foreign banks operating in Australia to level the playing field.

So what started as a cash grab by the Treasurer has morphed into a significant discussion about banking competition and funding. But the bottom line is, bank customers will pay.

Research released this week suggested that far from being the ‘bad guys’, property investors actually keep the Australian economy afloat. They found that federal, state and local governments collect about $50 billion in property taxes every year – with property investors paying substantially higher rates than owner occupiers. Every year property investors pay $8 billion in stamp duty, $7 billion in land tax, $130 million in council taxes, as well as tax on $7.5 billion of net rental gains. Property investors also declared gross profits of $50 billion on property sales in 2015, according to estimates, which would have attracted billions more in taxation revenue.

Our latest survey data indicates that forward demand for property is easing, driven by concerns about future interest rate rises, tighter bank lending rules and rising costs of living. This is confirmed by lower clearance rates at auction over the long weekend, and further indications are emerging that home prices are easing.

The net effect of these changes will be to apply a drag anchor to economic growth. Just how severe this braking effect will be remains to be seen, but I think we can safely say we are on a falling trajectory. What property investors choose to do suddenly becomes very important.

That’s the Property Imperative for this week. Check back next time for the latest update. Thanks for watching.



Into The Unknown – The Property Imperative Weekly – 10th June 2017

The evidence is mounting that the property cycle is on the turn, and the question now is – will it be a gentle retreat or a blood bath? In this week’s edition of the Property Imperative we consider the evidence.

At the start of the week we got the latest auction clearance rates which showed the trend of lower volumes but high clearance rates continued. Momentum however is slowing. This long week, the number of auctions will be lower but Domains data shows a national clearance rate around 70%.

We released our latest Household Finance Confidence index to the end May, with a lower overall score of 100.6, down from 101.5 last month. This is firmly in the neutral zone, but households with mortgages are feeling the pinch and the index is set to go lower in the months ahead. Both property investors and owner occupiers are now more concerned about rising mortgage interest rates, and potentially falling property prices. Sentiment in the property sector is clearly a major influence on how households view their finances, but the real dampening force is falling real incomes. This is unlikely to correct any time soon, so we expect continued weakness in the index as we go through winter.

We also released our latest mortgage stress and default modelling. This analysis uses our core market model which combines information from our 52,000 household surveys, public data from the RBA, ABS and APRA; and private data from lenders and aggregators. Across the nation, more than 794,000 households are now in mortgage stress compared with 767,000 last month; with 30,000 of these in severe stress. This equates to 24.8% of households, up from 23.4% last month. We also estimate that nearly 55,000 households risk default in the next 12 months. Check out our good coverage in Reuters.

The main drivers are rising mortgage rates and living costs whilst real incomes continue to fall and underemployment is on the rise.  This is a deadly combination and is touching households across the country, not just in the mortgage belts.

ABS data showed that overall lending flows fell 0.4% in April, to $32.8 billion. This is the first month following APRA’s latest intervention. Owner occupied loans fell 0.1% to $19.9 billion and investment lending fell 1% to $12.6 billion. Refinanced loans fell significantly, and the proportion of loans for investment purposes also fell. In addition, investment in new housing fell by 4.4 per cent in the March Quarter 2017 which brings the sector down from a record high investment in December 2016 and back to levels similar to those experienced at the start of 2016.

The number of new first home buyer loans decreased by 17.5% to 6,547 in April from 7,939 in March, though we still see more going direct to the investor sector.

According to a report from UBS, first time buyers are pretty much locked out of the property market. ‘Typical’ first home buyers are facing ~11 years to save; and ~40 years in Sydney! UBS already ‘called the top’ of housing, a key reason being that affordability is stretched, as the house price to income ratios surged to a record high of 6.5x, up sharply from 4.5x in 2012 (and more than doubling from 3x in 1996). While interest rates have fallen to a record low, the mortgage repayment share of income still lifted to a near decade high, and the key issue for first home buyers is the ‘deposit gap’ even before buying.

The March quarter edition of the Adelaide Bank/Real Estate Institute of Australia Housing Affordability Report also shows that whilst affordability improved across the country, the number of first home buyers decreased in all states and territories.

Then in a housing market update, ANZ Research said it expects “prices to slow sharply this year and next” and flagged the potential oversupply of apartments – particularly in Melbourne and Brisbane – as a key concern. The bank said. “Household debt is at record levels, which increases vulnerability to future shocks.

Bendigo announced that they have made a change to the accounting treatment of their Homesafe business with cash earnings now to exclude any unrealised income or losses and associated funding costs. Given Bendigo had a 6% long run home price growth assumption; in the current environment this looks like a smart move even though cash earning will be hit as a result.

There was a raft of further hikes in mortgage rates and changes in lending policy this week. For example, ING Direct eliminated interest-only repayments on new applications for its owner occupied fixed rate loans. On the other hand, the bank lowered rates on some principal and interest fixed rate loans.  Several surveys have highlighted that households are considering moving to fixed rate mortgages to try and alleviate the pressure of ongoing lifts in variable rates.

Adelaide bank ditched their commercial low doc loans and Suncorp added 12 basis points to investor loans, but reduced some fixed rates for owner occupied loans and maintains its offer to first time buyers.

ANZ lifted variable interest-only home loan rates for investors and owner-occupiers by 30 basis points, whilst cutting five basis points off their variable interest rates for customers paying principal and interest on their home loans. This takes the bank’s standard variable rate for owner-occupiers to the lowest of major banks at 5.20%pa. So the competition for owner occupied loans is hotting up as pricing continues to be used to slow investment loan growth.

The RBA held the cash rate, and stressed the risks from high household debt once again. Also, on the economic front, the seasonally adjusted current account deficit fell $403 million (11 per cent) to $3,108 million in the March quarter 2017. This was not as good as expected.  The pace of growth of the Australian economy slowed in the March quarter to 0.3 per cent and through the year, GDP grew 1.7 per cent. There were falls in exports and dwelling investment. The long term trend also highlights a slowing, so we need new growth engines if we are to keep the growth ball in the air! Household consumption just won’t do the job, and household savings fell in the quarter as they struggle to pay the bills.

So, it is clear the momentum in home lending is declining, and more households are struggling with high debts in a rising interest rate environment. It seems certain now, despite the banks targeting first time buyers, demand will slacken, and this will drive prices lower. Whilst the consensus view appears to be there will be an orderly decline, there are more risks now apparent which suggest prices may well fall further and faster than previously anticipated. We are indeed past the peak, so now its a question of how steep the downhill gradient becomes. Prepare for a bumpy ride!

The Great Rotation – The Property Imperative Weekly 3rd June

The great rotation is well underway as investors vote with their feet whilst first time buyers are getting greater incentives to buy into the market at its peak. Welcome to the Property Imperative Weekly for 3rd June 2017.

In this weeks review we look at changes to mortgage interest rates, new first time buyer incentives and new findings from our core market model, freshly updated to end of May.

We saw a litany of rate hikes during the week, and other changes to lending conditions. On Monday NAB reduced the maximum LVR for interest only loans from 95% to 80% for both owner occupied and investor purchasers.  They also reduced the LVR for construction loans to 90%.

On Tuesday, AMP bank lifted its variable interest rate for owner occupied loans by 28 basis points and the bank also hiked fixed rates for owner-occupied and investment interest-only loans by 20 basis points. They dropped the maximum loan-to-value ratio for interest-only loans from 90 per cent to 80 per cent. On the other hand, fixed rates for owner-occupied principal and interest loans have decreased by 10 basis points.

On the same day Westpac reduced the LVR for new and existing interest only loans to 80%, across the board including both owner occupied and investment loans. They also said they would no longer accept new standalone refinance applications from external providers. But they waived the switching fees for borrowers who wanted to shift from interest only to principal and interest loans.

On Wednesday NAB offered new white label principal and interest mortgages through its Advantedge wholesale funder, with a maximum LVR of 80%, including at 4.24% loans to residential investors.

On Thursday, Teachers Mutual brought out a new hybrid combination mortgage, which limits the amount of the loan which can be interest only.  They also increased the interest only loan rate by 40 basis points.

And on Friday, Bank West, the CBA subsidiary announced a new LVR band at 95% plus, with a mortgage rate of 5.29%, up by three quarters of a percent. Other lending will be capped at 95% LVR.

So mortgage rates continue to rise, especially for interest only loans, and investors; and underwriting standards continue to tighten.  Many households will see their repayments rise, again, despite no change in the RBA cash rate, so adding to their financial stress.

This week we got the April lending data from the RBA and APRA. The Reserve Bank said housing lending rose 0.5% in the month, or 6.5% over the past year to $1.66 trillion dollars. Within this, owner occupied loans rose 0.55% whilst investment loans grew 0.36%, and another $1.1 billion were reclassified by the banks, making a total of $52 billion which is nearly 10% of the investment loan book. This ongoing switching should be concerning the regulators because it means that either the bank data is just wrong, or borrowers are deciding to switch an investment loan to an owner occupied loan to get a lower rate, but we wonder what checks are being done when this occurs.

The proportion of lending to productive business fell again, so housing lending is still dominating the scene to the detriment of the broader economy and sustainable long term growth.

APRA showed that the banks lifted their investor loans by $2.1 billion in April though all the majors are well below the 10% speed limit. The quarterly property exposures showed a fall in higher LVR lending, but interest only loans still well above the 30% threshold APRA set. But weirdly APRA warned that we should not use these statistics to access the impact of their latest moves, because the reported data is based on approved loans, whereas their measure is on funded loans. So plenty of wriggle room and more fog around the data.

Talking of wriggling, Wayne Byres gave evidence to the Senate Economics Legislation Committee and under sustained questioning said alarm bells were ringing on home prices and that we had entered a high risk phase.  It is worth watching the video of the session, which is linked on the DFA Blog.  The regulators continue to be coy about the issue, which by the way is confronting many other countries too. The truth is the financialisation of property is the root cause of the property bubbles around the world, and it will be very hard to tame. Australia is not the only country with a bubble.

Amid all this mayhem, and with bank stocks under pressure relative to the rest of the market, New South Wales released their housing affordability plan. NSW has perpetuated the “quick fix” approach to housing affordability, alongside taxing foreign investors harder and making changes to planning. The removal of stamp duty concessions to property investors may slow that sector, but the fundamental issue is that supply is not the problem many claim it to be.

First time buyers are potentially able to get up to $34,360, but we think this will just push prices higher. The new arrangements start 1 July, so we expect a slow June. With the enhanced incentives in Victoria and Queensland also coming on stream, we are expecting a pick-up in first time buyer demand as investor appetite slows. Our latest surveys show this rotating trend, and we will publish the detailed finding over the next few days. But already we see some investors are selling, to lock in capital growth, and some first time buyers have renewed their search to buy, on the back of the new incentives, and greater supply.

Meantime there was further evidence that property prices are indeed drifting lower . According to CoreLogic’s Home Value Index they fell in Sydney and Melbourne over the month of May, by 1.3% and 1.7% respectively.  It is becoming increasingly clear the momentum is easing, so it now is a question of how far it eases down, and whether prices go sideways, or fall significantly.

We expect mortgage rates to continue to rise. ANZ said their new APRA risk weight for mortgages was now 28.5%, which was at the top end of expectations.  But whilst this is higher than the sub-20 lows, it is still significantly lower than the regional banks capital weights, and even allowing for the bank tax, they remain at a capital disadvantage.  We think APRA will lift capital weights further down the track, and when we take account of expected US rate rises also, mortgage rates will continue to climb. This feeds into, and reinforces the potential slide in prices. Whilst first time buyers may take up some of the slack, we think the market dynamic is morphing into something rather ugly.

And that’s the latest Property Imperative Weekly. Check back next week for the latest installment.

The Property Imperative Weekly To 27 May 2017

Are First Time Buyers really under the affordability gun? What will the impact of the surprising slowdown in residential construction be? And how will the bank levy play out in the light of this week’s ratings downgrades? Find out as you watch the latest edition of the Property Imperative weekly.

First, are first time buyers are really finding it more difficult to enter the property market at the moment? The most recent statistics showed there was a bounce in the number of buyers, and this has been attributed to low interest rates, stagnating property price growth and enhanced first home buyer incentives. This despite property investors beating other purchasers to the punch.

Genworth, the Lender Mortgage Insurer, changed their underwriting guidelines to include the First Home Owner Grant as an acceptable source if other true ‘genuine savings’ cannot be found. Genworth’s new conditions also places responsibility on the lender to ensure the borrower is eligible to receive a FHOG at the time of the application.

Demographer Bernard Salt’s jocular observation of young adults wasting money on smashed avocado has been put into perspective. Even if young Australian do give up extravagant brunches and put the funds towards saving for a house, it will take years, or even decades, to accumulate enough cash for the deposit and stamp duty on a home. A 20% deposit and stamp duty required to buy a house in Sydney is $159,000, based on new data from CoreLogic. That’s equivalent to 20 years’ worth of smashed avo.

But then again, do first time buyers really need a 20% deposit? Back in 2015, the Reserve Bank noted: “the deposit required of a first home buyer is more often in the 5–10 per cent range.” Whilst regulators have tightened the screws since then, there are still mortgages with below 20 per cent deposits to be found, according to data from RMIT’s Centre for Urban Research. Many of these rely on access to Lenders Mortgage Insurance, which of course protects the bank, not the borrower directly.

A report from Standard and Poor’s highlighted the risks in the Australian mortgage sector, and said that LMI’s might get squeezed by tightening lending restrictions and elevated claims, especially from loans in Western Australia and Queensland.

Our survey data on First Time Buyers indicates that there is incredibly strong demand for property, from both new migrants and existing residents. But that they are finding it harder to get funding, despite some grants being available, thanks to low returns on deposits, and low or no wage growth which is making it harder to save in the first place. We do see some lenders loosening their lending criteria for first time buyers with a saving history, but they are looking harder at household expenses, so overall funding is still harder to come by than a year ago. Our data shows this clearly, and our latest core market data is available now for paying clients.

So back to the Standard and Poor’s assessment of the housing sector, and their rating of the banks. Some were surprised when the ratings agency came out with an assessment before the latest round of house price data is out, but their latest assessment is finely balanced, on one hand calling out the elevated risks emanating from rising household debt and risks of a property correction, whilst on the other suggesting that recent regulatory intervention should help to manage the adjustment.

But overall, risks are higher and their revised credit profiles reflect this with more than 20 entities downgraded. Whilst the majors rating has not changed – reflecting the implicit government guarantee that their “too-big-to-fail” status gives them, and Suncorp remains at its current rating, despite a tough quarter; both Bendgio Bank and Bank of Queensland took a downgrade.

The consequence for these regionals is that funding costs just went up (and probably by more than a 6 basis point tax on the majors would have given in relative benefit). They have high customer deposits, but again the regional bank playing field is tilting against them when it comes to long term funding. This put the bank tax into a different light, as the Government argued the tax would help level the playing field.

In addition, the big banks came out with an estimate of the impact of the proposed tax. The budget papers estimated it would yield more than $6 billion over 4 years, based on a 6 basis charge on selected liabilities.  The banks say on an annual pre-tax basis they would pay around $1.38 billion annually, but only $965m post tax (as the tax would be an allowable expense). The Government confirmed the tax would be tax deductable.

So, the tax won’t deliver the planned revenue, and the 6 basis points benefit the regional banks might have been expected to see relative to the majors has been more than offset by the credit downgrades. This has led to calls to lift the tax to deliver the full planned value, and also extend it to large foreign banks operating here.

But there is a broader point to consider. The majors are protected by the implicit guarantee that if they got into financial difficulty, the Government would bail them out. S&P explained this is why they were not downgraded, but went on to say if Australia’s country rating fell, they would be. It seems clear that as the levy is making the implicit guarantee more explicit, (such that Macquarie who is caught by the levy, got a ratings upgrade, whilst others like Bendigo and Adelaide Bank did not); the reach of this implicit guarantee is in question. To put it sharply, would the Government really let Bendigo fall over; we think not. So the whole question of who has and who does not have this protection is in the air. This all has a direct impact on funding costs, and product pricing. So how this plays out will directly impact the interest rates paid by mortgage holders and to savers.  We think the need for a proper inquiry into the bank tax just got stronger. It’s worth remembering the UK’s approach to a bank tax took three goes to get right!

What seems to have been a late play for more revenue from the Government has descended into the complexity of bank funding and risk.

Finally, ten years on from the 2007 Global Financial Crisis, there were a number of good summaries of what we have learnt. One of the best was from the St. Louis Federal Reserve. They said the root causes of the crisis could be traced to excessive mortgage debt, sharply higher mortgage rates, an overheated housing market and a lack of broad oversight/insight.

Stepping forward to the current situation in Australia, it seems to me these factors are alive and well here. Household debt has never been higher, mortgage rates are set to rise further whilst incomes are squeezed, home prices are too high on any measure, and the regulators only recently started to react to the true impact of debt exposed households. This, in the week the latest personal insolvency data  showed a significant rise, not just in WA, but across the nation and residential construction slowed last quarter, suggesting the number of new starts will continue to fall.

There was an excellent research piece from institutional investment fund JCP Investment Partners, picked up in the AFR.  Their granular analysis of the mortgage sector (including leveraging our data), underscores the risks in the mortgage books, and explains the RBA’s recent change of tune on household finances. Critically, they showed that many households have very high loan to income ratios.

In the light of this, we think S&P called the market right, and it’s now a question of whether we will get an orderly adjustment or not. The jury is out, but the latest home price data is also suggesting a fall, despite ongoing high auction clearance rates.

At best, we remain on a knife edge. Check back next week for our latest update.

The Property Imperative Weekly – May 20th 2017

The latest edition of our weekly roundup of property, finance and economics review is available. We discuss the latest economic news, recent developments in the bank tax debate and the latest mortgage pricing and volume data.

Watch the video or read the transcript.

This week, the latest updates from the ABS showed that the trend unemployment rate stuck at 5.8%, thanks to a large rise in part-time employment. In fact, employment was up by a very strong 37,400 in April after increasing by a massive 60,000 in March but the total hours worked was reported to have fallen by 0.3% in April and was down by 0.1% over the past two months. This may be because of changes in the ABS sampling. Many commentators suggest the true position in worse, but we do know that unemployment was above 7% in South Australia, and the number of older people seeking work also rose.

The latest wages data, showed that the seasonally adjusted Wage Price Index rose 0.5 per cent in the March quarter 2017 and 1.9 per cent over the year, according to ABS figures. This makes a bit of a joke  of the strong wages growth rates predicated in the recent budget.

The seasonally adjusted, Wage Price Index has recorded quarterly wages growth in the range of 0.4 to 0.6 per cent for the last 12 quarters. However, private sector wages rose 1.8 per cent whilst public sector wages grew 2.4 per cent, so public servants are doing better than the rest of the population.

The pincer movement of higher inflation and lower wage growth now means that average wages are falling in real terms, especially for employees in the private sector.  Not good for those with mortgages as rates rise flow though. This aligns with our Mortgage Stress data.

There was further heated debate about the Bank levy, with the Treasurer saying on ABC Insiders that the impost was a permanent measure and linked to the strong profits and competitive advantage the big four have thanks to the “too-big-to-fail” implicit guarantee from the government. He again said the costs of the tax should not be passed on to customers.

On the other hand, the banks put their own slant on the issue, saying that the costs would be passed on, and the levy was bad policy. Ex Treasury Boss Ken Henry, now the Chairman of NAB, suggested there should be an inquiry into the proposed tax and said it looked like something from the eighties, before all the free market reform.

The banks made submissions to the Treasury complaining about the short timeframes, and seeking a delay in implementation.  ANZ suggested a delay till September 2017 to allow sufficient time for design of the legislation and also recommended the tax should be applied to the domestic liabilities of all banks operating in Australia with global liabilities above $100 billion. They concluded “There is no ‘magic pudding’. The cost of any new tax is ultimately borne by shareholders, borrowers, depositors, and employees”.

But the real debate should be framed by the excess profits the big banks make, and the unequal position the big four have thanks to the implicit government guarantee, meaning they can out compete regional and smaller lenders. In fact, the value of this subsidy is significantly higher than the 6 basis points being imposed. These are the very high stakes in play, and the outcome will significantly impact the future shape of banking in Australia.  In fact, you could argue the big four receive the largest subsidies of any industry in the country – way more than, for example, the entire car industry.

In addition, the Australian Bankers Association is caught trying to represent the interest of the big four, and other regional players, including some who have supported the tax on the basis of it helping to level the competitive landscape. The ABA issued a statement to say there was no division, but there clearly is. Not pretty. Some have suggested the smaller players should create their own separate lobby group.

The latest lending data from the ABS showed that the mix of lending is still too biased towards unproductive home lending, at the expense of lending for commercial purposes. Overall trend finance flow in trend terms rose 1.3% to $70 billion, up $691 million. The total value of owner occupied housing commitments excluding alterations and additions rose 0.1% in trend terms, to $20.1 billion, up $26 million. Within the fixed commercial lending category, lending for investment housing fell 0.3%, down $44 million to $13.2 billion, whilst lending for other commercial purposes fell 2%, down $416 million to $20.3 billion. 39% of fixed commercial lending was for investment housing and this continues to climb.  Most of the investment in housing was in Sydney and Melbourne.

The more detailed housing finance data showed that the number of owner occupied first time buyers rose in March by 20.5% to 7,946 in original terms, a rise of 1,350.  In original terms, the number of first home buyer commitments as a percentage of total owner occupied housing finance commitments rose to 13.6% in March 2017 from 13.3% in February 2017.

The DFA surveys saw a small rise in first time buyers going to the investment sector for their first property purchase. Total first time buyers were up 12.3% to 12,756, still well below their peak from 2011 when they comprised more than 30% of all transactions. Many are being priced out or cannot get finance.

Lenders continued to tighten their underwriting standards for interest only loans, with CBA, for example, ending discounts, fee rebates and dropping the LVR to 80%, having in recent months imposed no less than three rate rises on the sector. ANZ tightened their lending parameters too, with the maximum interest only period reduced from 10 years to five years, tightening LVRs and imposing other restrictions.

Overall we think the supply of investor loans will reduce, and that smaller lenders and non-banks will not be able to meet the gap, so we are expecting loan growth to slow further, and the price of loans to rise again.

We also saw auction clearances stronger last weekend, so this confirms our survey results, that households still have an appetite for property, despite tighter lending conditions. Recent stock market falls and greater market volatility will play into the mix now, so we think there will be a tussle between demand for property, especially for investment purposes and supply of finance.

Brokers may well get caught in the cross-fire, and the recent UBS report suggesting that brokers are over-paid for what they do, will not help.  Others have argued UBS got their sums wrong, and denounced the report as “ridiculous”.

It is still too soon to know whether home price growth is really likely to turn, but the strong demand still evident in Sydney and Melbourne suggests momentum will continue for as long as credit is available at a reasonable price. So I would not write off the market yet!

And that’s it from the Property Imperative Weekly this time. Check back for next week’s summary.