Australia Has Been Deleveraging Since Year-End 2016

Australia has been deleveraging since year-end 2016. The gap between Credit -to-GDP Growth and its long-term trend has been growing wider ever since. Last time this happened was in March 2010 and it remained that way for over five years - June 2015.


Source: https://www.bis.org/statistics/c_gaps.htmg

When Does the Overheated Real Estate Market of Australia Reach Equilibrium?

Last year, the real estate bust hit Australia. Prices have declined 8.27% since they peaked in the last quarter of 2017. But the decline is still a shade below a 10% correction and has not yet reached bear market proportions of a decline of 20% or more.

House prices could still fall by 38.56% to reach their inflation-adjusted levels. In relation to incomes, the ratio of real house prices to real personal disposable incomes have fallen significantly. That ratio is now within two standard deviations from the historical mean. In other words, they are now just overvalued and not extremely overvalued.  The probability of house prices being any higher is now a healthier 5.22% instead of 1.4% the last time we looked.

If the ratio does revert to the mean, house prices could still fall by 30.67% in real terms. 

How low can Australian Property Prices Go? Let Me Count the Ways  

How Overheated are the Real Estate Markets of Canada, Australia, and New Zealand?  

How low can Australian Property Prices Go? Let Me Count the Ways

Almost three years ago, we speculated that the Australian Property Market was due for a bust. Today, that reality has come ever closer. So far, property prices have declined for all three quarters of 2018, peaking in the fourth quarter of 2017. But the decline is marginal - only a shade less than 3% (2.86% to be exact) and may represent a slowdown than an actual property bust.

Australian Property Prices are still way above their their inflation adjusted basis since year-end 2002. If property prices were to drop to their inflation adjusted levels, they would drop by an astounding 42.29%!.

Property Prices have also leapfrogged incomes so much that the relationship of Property Prices to Income is way out of whack. On average, the ratio of Real House Prices to Real Personal Disposable Income (data from the International House Price Database maintained by the Dallas Federal Reserve) since 1975 has been 80% of Real Personal Disposable Income with a Standard Deviation of 21.91%. As of the 2nd qtr of 2018, Real House Prices now stand at 128.48% of Real Personal Disposable Income. This represents more than 2 Standard Deviations above the historical mean. Assuming a normal distribution, there is only a 1.4% probability that the property market could go even higher. If Real House Prices revert to the mean, as they often do, Australia could be in for a property decline of 37.39% from current levels.

Both calculations, inflation-adjusted basis or by income-adjusted basis, predict a severe decline (more than 30%). But markets always tend to overshoot to the downside. If the real estate boom of the past two decades caused prices to surge way past anything that reflect fundamentals, a panic could set in on the downside and cause prices to drop to levels not seen in a generation.

How Overheated are the Real Estate Markets of Canada, Australia, and New Zealand?

Which Australian City Has the Most Unaffordable Real Estate? The Answer Might Surprise You.

We've all seen this chart. Next to New Zealand, Australia has one of the most overheated real estate markets in the entire world.

As of March 2018, Australian Home Prices have appreciated more than 83% above where they would be on an inflation-adjusted basis.

But which is the most overheated real estate market in Australia? It's definitely not Sydney. As it turns out, Sydney's price appreciation is below average. That honor goes to Melbourne, closely followed by Darwin, with Hobart and Perth fast catching up.

Amazingly, Darwin peaked way back in June 2014 - four years ago. It is now down more than 17% from that peak. The same holds true for Perth. Those markets have been in correction mode for years. At it's peak, Darwin home prices appreciated a full 156 percentage points above inflation. As of March 2018, the inflation gap for Darwin is down to only 99%. With an inflation gap of 117%, Melbourne is now the undisputed champion of unaffordable Australian real estate.

How about Sydney? Sydney's inflation gap is only 66%, substantially lower than the Eight City average of 77%.

How Overheated are the Real Estate Markets of Canada, Australia, and New Zealand?

How Overheated are the Real Estate Markets of Canada, Australia, and New Zealand?

Just how overheated are the real estate markets of Canada, Australia, and New Zealand? This famous chart from The Economist shows that real estate gains in all three countries plus Britain have substantially outpaced the gains in the United States which has experienced both a housing boom, bust, and recovery within the last two decades.

According to the International House Price Database maintained by the Dallas Fed, the growth real house prices in all three countries began to surpass the growth in real incomes sometime in 2005 and have never really looked back, despite the advent of the Financial Crisis in 2008.  After 2008, house prices in New Zealand dipped below income growth but have gone parabolic since 2014. 

In terms or House Price to Income Ratios as of year-end 2016, all three countries are two standard deviations above their historical averages since 1975 - a 41 year period.

Anyone who remembers their college statistics knows that this happens only 2.5% of the time. Ninety-five percent of the time, the ratio is within two standard deviations of the mean and 2.5% of the time, the ratio is two standard deviations under the mean.

At no point in this 41-year cycle (1975 to 2016) have the ratios gone outside the +/- two standard deviation range. It was only in 2016, when the ratios in all three countries went above this range.

The probability of this occurring is much lower than 2.5%. According to this calculator, the probabilities are around 1% for Australia and around 1/4 of 1% for both Canada and New Zealand.

Country	RHPI/RPDI Ratio 2016Q4	Mean	Standard Deviation	Standard Deviations from Mean	Probability
Canada	138.09%	92.30%	15.99%	2.86	0.21%
Australia	125.81%	79.05%	20.23%	2.31	1.04%
New Zealand	129.79%	74.54%	19.29%	2.86	0.25%

So, without a doubt, this is not a normal real estate market in all three countries. The question is, when will it all crash?

Source:

Mack, A., and E. Martínez-García. 2011. "A Cross-Country Quarterly Database of Real House Prices: A Methodological Note." Globalization and Monetary Policy Institute Working Paper No. 99, Federal Reserve Bank of Dallas.

Related Post: Looks like Australia's Housing Market is about to go Bust!

Looks like Australia's Housing Market is about to go Bust!

Judging from this Australian edition of 60 Minutes, Australia seems to be undergoing a massive housing boom, fueled, no doubt, by cheap money and lax credit standards, echoing the subprime crisis in the United States.

This has shown up in the charts, as pictured below.  In a little over 12 years, house prices in Australia have massively outstripped inflation by 135 percentage points, from a base of 100.00 in the last quarter of 2002 to 268.59 in the third quarter of 2015.  In the same time period, general consumer prices rose from a base of 100.00 to 133.0 as of the third quarter of 2015. The gap between Australian House Prices vs Inflation is one of the largest seen in recent history.  Only Hong Kong has developed a higher gap in a slightly shorter time frame.

Given that the Australian Housing Bubble is beginning to pop, the country could experience massive declines in house prices, similar to what happened in the US.  The US House Price Index peaked at 135.81 in the first quarter of 2007, then declined by over 20% to bottom out at 107.74 on the second quarter of 2011.  This was almost 10 percentage points below inflation adjusted level of 117.39 at that time.  Since then, US Housing prices have rebounded past inflation adjusted levels and the index is now at 134.27 as of the third quarter of 2015 while inflation adjusted levels remain at 125.60.

Sources: 60 Minutes Australia, Global Property Guide, www.worldbank.org, Trading Economics