27 April 2016

The Bigger Picture

Auckland’s sizzling real estate market cannot remain red hot forever…..so what will happen?


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Will we lurch into the future with a crash? Or land on a cushion?

SHARON ZOLLNER – ANZ Economist

Picking where house prices are heading is much more difficult than you might think, says Sharon. To understand what’s happening in Auckland and other New Zealand centres, she says, we need to understand global influences.

That’s not so much what Isis is up to in Europe or the Arab states, whether Trump wins the US presidency or if China is close to recession. Far more pedestrian, perhaps – the big daddy responsible for the price of your next house purchase is global banking trends, says Sharon.

Most people tend to look local when explaining the housing market. As we know, some major factors driving house prices in Auckland are:
1.Foreigners arriving;
2.Fewer New Zealanders leaving and 
3.New Zealanders coming home, especially from Australia-and telling their friends not to go there.

Auckland is definitely the destination of choice – so Auckland has felt the most pressure on housing. Planning restrictions are a popular scapegoat but the demand for housing has become a nationwide issue that is pushing prices higher relative to incomes in most places now. Factors like the Reserve Bank’s new tax and LVR regulations have driven buyers beyond the SuperCity, spreading the heat first to Whangarei, Tauranga and Hamilton, and now across the country.

“As economists, we get nervous when people find localised justifications for house prices to be rising.”

Everywhere, throughout NZ, towns are saying they’ve been discovered as the fabulous new place to live. But that worries me because it suggests larger macro-economic forces aren’t being given due consideration. “This is a global issue. It’s not just about New Zealand, or just about migration, though obviously that has played a big part in Auckland. But the fact high prices are spreading through the country now suggests the phenomenon is evolving to become more about interest rates.”

“Rising house prices and commensurate lower yields are caused by interest rates becoming extremely low, all around the world.”

The average house value in Tauranga increased at nearly the same rate last year as Auckland's.

The average house value in Tauranga increased at nearly the same rate last year as Auckland's.

As economic growth has remained anaemic in the years following the Global Financial Crisis, central banks have even moved beyond policy interest rates at rock bottom, introducing an unconventional device known as ‘quantitative easing’, buying financial assets to push interest rates lower still. This is intended to work by inflating asset prices beyond the real level justified by the fundamentals to promote spending, lending and liquidity. Several years of cheap money have pushed up the prices of a wide range of assets, from equities to real estate to fine art to commercial property, you name it.

“It’s a global phenomenon,” says Sharon. “If you did a chart of New Zealand and Australian house prices, the broad trend is similar. Global housing markets are more correlated now because global monetary policy is correlated.”

“Easing monetary policy works its magic to stimulate the economy by bringing forward spending from the future. How painful will that future be when it arrives? Only time will tell.”

The problem is, you eventually have to go through a period where real asset prices correct to the levels justified by the fundamentals – in the case of housing, for example, the current ratio of asset prices to income is just not sustainable. The question economists ask is: “Will the downward adjustment of real asset prices be smooth?

Sharon points out that after the GFC, there was a deep hole in the US housing market due to severe oversupply. New Zealand avoided that fate, which was fortunate for the economy but may have had the unfortunate side effect of strengthening the perception that our house prices are bullet-proof.

But, she warns, there’s more going on than most people realise.

“The fact is, New Zealand house prices are extremely high – particularly in Auckland – and the Reserve Bank is concerned, with good reason. “The ratio of house prices incomes is about 10 in Auckland and the sustainable rate is 3 to perhaps 6 at a stretch. House prices are also very elevated relative to rents.

Sharon Zollner - ANZ Economist.

Sharon Zollner - ANZ Economist.

“The faster you go, the bigger the mess. As long as the economy remains on track, migration stays positive, and unemployment remains modest – all things we are forecasting – we’ll hopefully achieve the necessary adjustment through incomes growing. But there is a real risk of a more painful adjustment should the economy tip into recession for some reason. Yes, housing shortages will underpin the market to some extent. But it shouldn’t be forgotten that those same housing shortages have helped push prices so high in the first place.”

Moreover, in the bigger picture, a policy interest rate that’s gone from over 8% to just over 2% in 8 years must take much of the credit for pushing house prices higher. “And that’s a global phenomenon. There’s a risk the next housing downturn could be global because the policy choices underlying it are global. Yes, Auckland is a wonderful city to live in that is increasingly connected to the world. But beware hubris. There’s more going on.”

STEPHEN TSANG - Director, Withers Tsang & Co, Chartered Accountants.

Stephen Tsang doesn’t refute what Sharon says. “I’m no property guru. But I am someone who has lived in the country for around the last 26 years and I’ve seen three property cycles. There’s no real reason why prices should go down. Everything Sharon says is true. The world has become a global place.”

A key difference between us and them, says Stephen, is around the world, people choose not to own their own home. “Here, we feel - it’s our kiwi birthright.”

And that augurs well for New Zealand property, he says.

Stephen rattles off a convincing list of reasons that make someone living and investing in Auckland feel very comfortable – even when the rest of the world looks shaky.

He says, New Zealand is reaping the fruit of the seeds the Government has sown for the past 10 years encouraging foreign capital to come here via rich Chinese students. We welcome them and offer them special privileges so they stay. “That’s not going to change, says Stephen. Because our land is scarce in Auckland, our property prices inevitably keep rising.”

Stephen Tsang - Director, Withers Tsang & Co, Chartered Accountants.

Stephen Tsang - Director, Withers Tsang & Co, Chartered Accountants.

Generation millennial adds to the equation. “They expect to walk three minutes to work. Because they prefer proximity and are willing to pay more rent, this is also putting pressure on the CBD and city fringe areas.”

“From the Chinese point of view, would you rather live in China or NZ?

“We don’t cherish what we have but people returning to NZ can see they can get a lot more for their money here.  Skyrocketing prices mean you can buy a little cubicle to live in New York. But there’s so much more potential here.”

Instead of worrying about the collapsing Chinese economy, he says, “we should be asking, what happens when the dragon sleeps?”

New Zealand is very conducive to attracting foreign capital. “We allow foreigners to buy real estate. Even though we have put regulations on this, look at what happened in Australia where foreigners are only allowed to buy new houses, where there’s stamp duty and a capital gains tax. That didn’t stop them.” New Zealand doesn’t have the tax nasties of other developed countries. So why wouldn’t people buy in NZ?

“The world is now a global playground,” explains Stephen. While we think a 4% interest rate is low, many others around the world believe it is high. “The world sees NZ quite differently to the way we view it. And property will stand the test of time.”

Stephen also points out Sharon has not addressed the whole property investment timeline and asks, “Why are we talking about just one cycle here? What is your investment timeline? We will experience peaks and troughs in a 10 year cycle. “You need to look beyond that and in time house prices from one cycle to the next.” Also consider the impact of immigrants helping with our birthrate. “Kiwis aren’t producing the next generation. Our birthrate has been dropping. But migrants are pro-family – which means they need houses. They are providing a shift in paradigm that’s helping increase the kiwi foundation.

Auckland is consistently voted as one of the top cities in the world for 'liveability' attracting foreign capital and new migrant families.

Auckland is consistently voted as one of the top cities in the world for 'liveability' attracting foreign capital and new migrant families.

“Just look at economist Shamubeel Eaqub to see how you can’t use economic logic when it comes to property. People are happy to rent but once they want a family, they want to buy a nest.

“Ironically, it might be time to nest in Auckland.”

And if quantitative easing is going to force a recession, isn’t it an opportunity for people who can’t afford to buy houses to start buying? Work out what you want to believe, says Stephen. “Are you ready for the slaughter? Or can you have your slice of the pie and still eat it?”

 

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