Lombard Street does Oz property “super cycle”

From Lombard Street Research:

A combination of ‘push’ and ‘pull’ factors lies behind surging Chinese demand for Australian property. With prices in China’s policy-driven real estate market retreating, the economy slowing and Beijing cracking down hard on corruption, capital has been increasingly looking to diversify abroad; not least as expectations of one-way CNY appreciation have been shaken to their foundations. At the same time, Australia’s relative proximity, rule of law and high educational standards constitute an attractive set of intangible attributes. Furthermore, Singapore and Hong Kong – both prime global real estate investment destinations – have introduced sizeable surcharges for foreign buyers, dampening demand at least at the margin.

However, the overarching catalyst behind surging investment in Australian real estate – from both domestic and foreign buyers – has been the RBA’s monetary stance. The combination of successive interest rate reductions and talking down the A$ has underpinned the build-up of froth in an overheating market. The currency angle is often underestimated. Meaningful depreciation relative to the CNY – amounting to 20% over the last 12 months and almost 50% since the commodity supercycle peaked in 2011 – has rendered Australian real assets increasingly attractive to Chinese yield-seeking investors, be it wealthy individuals, property developers or insurance companies. This is true regardless of whether they are using cash or credit; anecdotal evidence suggests that the vast majority of China-based mortgage holders is financed by Australia’s ‘big 4’ banks.

Strengthening foreign investment in property is a mixed blessing. On the one hand, the economy needs all the stimulus it can garner to fight the symptoms of Dutch disease, caused by years of resource overinvestment. It speaks volumes that overall mining-related foreign investment in Australia contracted sharply in FY 2014, halving on the year. On the other, foreign buying is (at the very least) putting a floor underalready stretched valuations. National home prices are estimated to exceed five times average household income, pricing out more and more aspiring first-time buyers.

Burgeoning property market conditions are increasingly at odds with feeble wage growth and elevated household indebtedness, amplifying the financial system’s vulnerability to future shocks. Recent regulatory efforts (e.g. application fees for all foreign buyers and an additional stamp duty charge in Victoria) will do little to stem the tide as long as foreign capital has incentive to flow overseas and the RBA has scope for additional easing – particularly in view of the rather tight Budget announced this month. Effective speed limits on Australian banks’ mortgage lending have a better chance of delivering results; especially if policymakers address the threat posed by low, internally generated risk weights and the still high share of interest- only investor credit.

Pretty good. The main bone to pick is the notion that Chinese investors are chasing yield in property. There isn’t any to be had so that’s out and much higher is available at home anyway. Capital gains might be the draw but there are none of those, either, when one factors in the Aussie depreciation. Safe haven and immigration is what it’s all about.