UBS takes smashed avocado to the woodshed today:
Are first home buyers locked out of housing? UBS already ‘called the top’ of housing, with a key reason being that housing affordability is extremely stretched, as the house price-income ratio surged to a record 6.5x now, up sharply from 4.5x in 2012 (and more than doubling from 3x in 1996, Figure 2). That said, in the current cycle, only Sydney and Melbourne really lifted (both towards 8x, up from 5-6x previously), whereas the rest of Australia has been broadly flat and also well below prior record highs (Figure 3).
While interest rates dropped in recent years to a record low, this was again capitalised into a higher house price-income ratio (Figure 2). Indeed, reflecting this, our measure of affordability for a new borrower based on the mortgage repayment share of income deteriorated to its worst in near a decade (Figure 4). Indeed, if rates rose only 100bp, affordability would be near the worst on record.
But even before this point, the often cited issue for potential first home buyers (FHBs) is the ‘deposit gap’ which continues to rise. This has already been a building issue over the long-term, given the FHB share of total home loans has remained stuck near a record low share 8% share for a number of years (Figure 5).
However, regulators recently announced additional macroprudential tightening. While the most explicit target was to reduce the flow of interest-only loans from a 40% share to 30%, there was also a focus on reducing high-LVR loans (Figure 7).
Our banks team note the Basel 4 draft standard Revisions to the Standardised Approach for credit risk – Dec 2015 indicated that residential real estate loans with a high LVR will be required to carry a significantly higher risk weight. If APRA adopts this approach in its upcoming interpretation of ‘Unquestionably Strong’ (due over the next month), we believe the Australian banks are likely to differentially price and increase rates on high LVR loans. This could put further pressure on first home buyers.
Hence, if we revert back to a $400k purchase, but now assume FHBs instead require a 20% deposit, then time to save more than doubles (due to compounding) to 24 years (instead of 11 years under the ‘base case’, with all other factors held constant). See Figure 1 for more scenarios.
Importantly, we find the key driver of the time to save a deposit is house price growth relative to income. In the last 5 years, house price growth averaged 7%, far above household income averaging only 4%. Our model suggests if these trends were repeated ahead (i.e. an ongoing increase in the house price-income – and therefore the household debt-income ratio), a potential FHB would likely never be able to save a 10% deposit to buy a home (Figure 8). This is unless the FHB was given (at least part of) the deposit from the ‘bank of mum and dad’, or if multiple
FHBs aggregate their savings (see Figure 1 for more scenarios). Alternatively, Government policies can help reduce the time to save. For instance, the recently announced FHB super saver scheme potentially reduces the required time by up to several years (contributions are capped at $15k/year and $30k in total).
As an aside, a dynamic model measuring the time to save for a deposit – i.e. shown across a time series – is extremely problematic and can give spurious results. For instance, someone starting to save in the mid 1990’s would have been approaching the required deposit in 2002, at which point home prices spiked ~20% y/y. Hence, even starting a few months later would mean that a FHB saver could have just ‘missed the boat’ and still be saving for many more years.
Given this technical problem, we created a time series (Figure 9), which implies at each point in time that future house price and household income growth will be the decade ahead average. Nonetheless, this model shows that the time to save a 10% deposit (with a 5% saving rate on AWOTE of $80k per year) to buy a house at the average Australian capital city dwelling price of $820k has almost doubled from a long-run trend of ~10 years, to ~18 years now.
Indeed, the time series does not jump sharply further in the most recent years because we assume that future house price growth slows to a 5% average ahead, whereas if current trends persisted, the time to save becomes unsolvable.
Meanwhile, the time to buy estimate for the average FHB dwelling price has risen only slowly over recent years. However, this merely reflects that the ABS data on the average loan size of a FHB has broadly tracked income growth over time. But given the overall price growth has clearly outpaced FHB average loan size over time, this suggests that FBHs have been forced into accessing a declining ‘opportunity set’ of housing (i.e. smaller homes or those geographically further away from the capital cities).
I know what I’d be smashing an avocado into were I a first home buyer.