Residex reports falling house prices in June

Who ever said house price analysis was easy? Just to add to the confusion over the direction of the Australian housing market, Residex yesterday reported that Australian house prices fell – 1.43% in the month of June, contradicting results published earlier by RP Data. By contrast, unit prices nationally rose by 1.39% over the month (see below tables).

For readers unfamiliar with how the Residex home price indices are calculated, Residex CEO, John Edwards has provided the following explanation:

It is an index calculation developed by Residex over the last 20 plus years where we use the best of the Repeat Sales Index technology, the best of the Hedonic technology and Median/Stratified Median index technology…

The Residex Index is non-revisionary… The Residex index construction is such that it is capable of using a small sample to get its robust numbers. It is calculated to a Suburb level as needed.

As always, the commentary from John Edwards is worth checking out. But for this month, for the wrong reasons!

Australian Bureau of Statistics 2011 Census data has recently become available, which indicates that incomes have increased at a rate higher than CPI since the 2006 ABS Census. Consequently, affordability is improving and is now better than expected in most markets. The position still isn’t terrific but it is not such that this on its own should have caused markets to move to a decline which is larger than we have seen Australia-wide in the last 20 years.

The ABS has also released new data on the number of people living in each dwelling. While Residex made an allowance for this factor to be increasing in its calculations, and was generous in its assumptions in regards to people per dwelling, the result still turned out to be conservative. It is clear that the population is partially solving affordability issues by increasing the density of people per dwelling. This has a significant impact on the number of dwellings required in each market and currently, there is not the significant dwelling shortage that many market commentators have suggested. In fact, at this point in time it is likely that many city markets are in balance or overstocked, something Residex has been suggesting for the best part of two years. It is this along with negative consumer sentiment that has had the largest impact on housing markets.

The table ‘Affordability’ presents the recalculated situation, displaying the improvement in affordability as a consequence of increased incomes, reductions in house prices and importantly reduced home loan interest rates.

The before tax household income figures quoted by Edwards look inflated and seems to contradict analysis published last week from RP Data, as well as the median household income figures provided in the Census Quickstats page at the ABS.

Back to Edwards:

Residex holds the view that a comfortable higher end commitment is in the order of 35% of after tax income. In saying this, a better understanding of what is potentially comfortable can be judged from considering what the average household weekly spend might be on necessities.

The table ‘Necessary Household Expenditure’ presents what Residex believes the estimate may be.

Clearly, to the extent that a family is not entertaining or taking holidays and only meeting the necessities of life, the table indicates the likely base amount required. It also suggests that most capital cities now provide a level of affordability. However, some cities such as Sydney are presenting marginal affordability. It will be for this reason that units are now more in demand and there is higher price growth in this segment.

No worries folks. As long as you never take holidays, entertain or go out for dinners etc, Australian housing is affordable!

Back to Edwards.

Housing markets have corrected over the last few years so logic would suggest that supply was an issue. However, Residex was a lone voice pointing to the oversupply problem in many markets and had to constantly answer questions why it stood alone in this view. In fact, the press basically came to the conclusion that Residex information is less credible given its stand on the position. This in turn led to a lower level of reporting on what Residex identified as happening in housing markets. As it has turned out, the supply issues Residex reported are correct. Other market commentators were failing to identify the fact that people density per household is increasing as a consequence of lower levels of affordability and international immigration is shifting more towards Asia and other areas where higher people density per dwelling is the norm.

Industry was constantly pointing to a housing shortage, which is right in the longer term as immigration needs will pick up to support the resource boom and while the building industry is currently failing to produce. However, in the short term the situation on the current people density per dwelling is creating an oversupply situation in many markets. If affordability was better then the increase in density per dwelling would not be happening as rapidly. Hence, should affordability significantly improve then density will decrease and the demand for housing will significantly increase. In the table ‘Current Dwelling Supply’, the situation is presented as calculated by Residex.

To me, the whole shortage/surplus debate is bunk. The important issue is not how many homes were built over a given period, but the responsiveness (i.e. speed and cost) of new home construction to changes in demand (whether via population growth, incomes growth, or easier credit). When markets can produce new homes quickly and affordably when demand is increasing, which is unfortunately not the case in Australia, prices will not rise as far, speculation will be curbed, and housing will remain relatively affordable. If not, you are more likely to get unaffordable housing and the creation of a price bubble.

Back to Edwards:

…overall things are looking promising. There are risks as we move forward but the adjustment process has reduced them and improved affordability is good news. The oversupply position is going to dampen capital growth and it will also have a tendency to dampen the provision of new stock, which has been clearly evident in the numbers being produced for some time now. The consequence is we are going to see higher levels of capital growth as we move forward. However, what is more important is the much higher levels of rental that will occur, which will reduce risk and make housing an even better asset class to that which it has been in the last 20+ years given the current financial turmoil for investment that is occurring.

This statement seems confused. According to Edwards, we have a housing surplus across most markets, yet rents in particular will rise strongly (a contradiction in itself). How Edwards can state that housing will be an even better investment going forward than it has been over the past 20 years – a period of record credit-fuelled capital growth – also seems highly optimistic.

Twitter: Leith van Onselen. Leith is the Chief Economist of Macro Investor, Australia’s independent investment newsletter covering trades, stocks, property and yield. Click for a free 21 day trial.