Can the Australian housing market cope with higher mortgage rates?

By Cameron Kusher, senior research analyst at CoreLogic:

The Reserve Bank (RBA) has kept official interest rates sitting at 1.5% ever since August 2016 which represents the longest period of cash rate stability on record.  Although official interest rates haven’t moved over this period, investors who have been an increasing source of mortgage demand over recent years, have been incurring higher mortgage rates 2015 as lenders charge a premium for investment loans.  Although the cash rate hasn’t been adjusted for almost two years, the rhetoric from the RBA continues to be that the next move in rates is likely to be up rather than down.

As at August 1, the expectation from the market was that within the next 18 months, which takes us out to the beginning of 2020, official interest rates would be at the same level as they have been since August 2016 (the RBA typically move rates in multiples of 25 basis points).  Should that come to fruition that would be three and a half years whereby there was no adjustment to official rates.  When you consider the unprecedented length of stability we’ve already experienced in the cash rate, it would seem unlikely that whatever the economic conditions are by 2020 it wouldn’t have necessitated a change from the interest rate settings that have been in place since August 2016 (whether that be an increase or a reduction to the cash rate).

You can read the RBA’s charter here but to summarise; the RBA aims to ensure that the monetary and banking policy of the Bank is directed to the greatest advantage of the people of Australia and that the powers of the Bank … are exercised in such a manner as, in the opinion of the Reserve Bank Board, will best contribute to:

  1. the stability of the currency of Australia;
  2. the maintenance of full employment in Australia; and
  3. the economic prosperity and welfare of the people of Australia.

Increasingly over recent years the mortgage lending environment and the rate of escalation in dwelling values, particularly in Sydney and Melbourne has been called out by the RBA as risks to the financial stability of the Australian economy.  Direct intervention in the form of macroprudential tools (which the RBA were initially reluctant to endorse) have eventually led to a swift reversal in housing market conditions over the past year.  Over this time, national dwelling values have started to fall and more importantly so too have values in Sydney and Melbourne following a number of years of substantial value growth and investor participation in the housing market has waned.

Higher mortgage rates to investors along with tightened overall credit conditions, higher supply levels and reduced housing affordability in the largest capital cities have been major contributors to the recent declines in dwelling values.  Investor activity has reduced substantially as a result of these measures.  At its peak in May 2015, investors accounted for 54.8% of the total value of new housing finance commitments.  This was before macroprudential controls were fully implemented and also before investors were being charged a mortgage rate premium.  As at May 2018, investors accounted for 42.0% of all new lending which was its lowest share since August 2012 with the 42.0% share sitting right on the two decade average.

The above chart shows the six month change in dwelling values annualised and standard variable mortgage rates over time.  The chart also shows that while mortgage rates for owner occupiers have been steady over recent years the macroprudential tools that have been implemented have led to mortgage rate premiums being applied to investor mortgages.  Probably the most important take-away from the chart is the relationship between mortgage rates and value growth.  As mortgage rates rise, dwelling value growth typically slows and vice versa.  Since the last recession in the early 1990’s there has been a long-term trend to declining interest rates.  At some point that trend will need to be reversed especially as overseas economies begin to normalise interest rates however, breaking the trend may have some significant implications for the housing market.  This is especially the case when considering that dwelling values are already falling and to-date it has only been investors and interest-only borrowers that are being charged higher mortgage rate premiums.  It is important to note that owner occupiers remain the biggest source of mortgage demand, accounting for around two thirds of outstanding mortgage credit, to date these buyers (except those with an interest-only mortgage) have little or no change to interest rates.

Given the RBA’s Charter is to contribute to the economic welfare and prosperity of the people of Australia, personally I find it difficult to believe that there is a strong likelihood of any near-term cash rate increases.  In fact, with underlying inflation below the RBA’s target range, low rates of income growth, high rates of underemployment and the largest asset class in the country (residential housing) falling in value, a stable interest rate environment, or potentially even a lower cash rate if mortgage rates track higher and value declines accelerate a potential interest rate cut seems to be a more appropriate course of action at this time.  Especially when you consider that historically, higher mortgage rates result in a further slowing of housing market conditions.  While a decline in dwelling values is not necessarily a bad thing (especially considering how expensive housing is in Sydney and Melbourne) falling dwelling values can also have an impact on spending throughout the rest of the economy as home owners feel the impact of reduced wealth.

This discussion about the potential for interest rate changes also doesn’t take into consideration the fact that funding costs are increasing for mortgage lenders which is already starting to lead to some mortgage rate increases for borrowers with mortgages from smaller lenders and non-bank lenders (noting that as yet the Big 4 banks have not increased mortgage rates).

Comments

    • The question is a false one. The big four have been DROPPING rates this week. Expect this to continue for the upcoming boom.

      • I don’t mind contrarian views, but there is nothing about these changes to suggest the mug punters (marginal borrowers) have access to this “easy” credit. The big change in the market has been tightening lending standards = less competition = 1 serious buyer at auction.

      • You can drop rates all you like — it’s the number of eligible punters that matters.

        In the recent past anyone who could fog a mirror was ‘eligible’. Now …. not so much.

      • Jumping jack flash

        dropping rates while tightening criteria is them setting up for the slow melt.

  1. Mortgage rates are going down – see ANZ, CBA moves this week. Banks are going to take the hits to their NIMs (and/or screw depositors even more).

    But RBA won’t cut, and why should it? Previous RBA cuts the banks pocketed half of, and handed it out as dividends to their shareholders. Its time for the banks to cough up some of it back up.

    • I’m getting really sick and tired of this absolutely bullsh1t meme – its just not true.

      Mortgage rates are going down – see ANZ, CBA moves this week.

      These two offered lower rates for FIRST TIME BUYERS – and this is an act of desperation – not better credit conditions as they seek to push people off their books who do not meet new regulatory requirements or had dodgey papers and bring in people with little to no debt who will meet the stricter requirements in an attempt to put a finger in the dyke.

      Seriously – learn to read.

      • “These two offered lower rates for FIRST TIME BUYERS”

        Wrong. New customers, not first time buyers. That means upgraders, downsizers, FHBs, refis from other banks whatever so long as OO and LVR <80%.

        Learn to read.

      • Yep I am currently refinancing because my bank, like other banks are asses and prefer you to do paperwork with another bank instead of doing it with them to keep you there – I have 40% LVR.

      • ANZ Bank is ramping up its attempt to attract new lower-risk home loan customers by cutting the interest rate offered to new owner-occupiers with a deposit of at least 20 per cent.

        So full of shizen Dan – sooo full of it.

      • Remeber those bank salesmen have new loan quotas they need to fill for their KPIs. They dont have an incentive to renegotiate with existing customers.

    • It’s a big talking point isn’t it, hearing arguments from both sides of the coin, someone mentioned inside knowledge that it’s to attract the good quality customers, not sure if it changes much for those with high LVR’s that will be converted to P&I.
      Also did SlowMo say this morning that the banks created this mess, they need to get out of it?

      • Mining BoganMEMBER

        But the paper said the other day that Scummo had engineered the house price falls!

    • No Dan – it is very specific – it is NEW BUYERS – this means people buying for the first time – not simply people saddled with debt walking in wanting to switch – you are full of it.

      Either way – EITHER WAY – the banks are not simply LOWERING the rates as you are trying to assert. So we have already established you are trying to be misleading – and when it comes down to the detail – you have done it twice.

      Once is a mistake – twice is a liar.

      https://www.smh.com.au/business/banking-and-finance/anz-tries-to-lure-new-mortgage-customers-with-lower-rates-20180802-p4zv2h.html

      “ANZ Bank is ramping up its attempt to attract new lower-risk home loan customers by cutting the interest rate offered to new owner-occupiers with a deposit of at least 20 per cent”

      • There is a very specific, widely used, widely understood, term for what you are describing – a “First Home Buyer” (FHB). This is not that (though it may include FHBs who can stump up a 20% deposit in cash).

      • Marc, I truly want to believe you’re right because it seems too surreal given the timing, but Dan does has a point. The terminology used by ANZ indicates they are looking to take on new customers, not first time buyers. It reads as if they’re looking to acquire mortgagees who have simply not previously been customers of ANZ.

    • 99.9% of mortgages are held by people who are not new buyers (obviously – they already have a mortgage) and they ain’t getting a rate cut. Not one sorry basis point. The back book is locked in and the front book has about as many customers as the Tony Abbott School of Feminism.

      So from the point of view of reducing mortgage stress the latest move by ANZ and CBA mean sweet Fark all.

  2. US 10y broke through 3% while aussie savings rate has fallen from 10% to 5%. Explain how Aussie Banks are going to roll over their massive debt obligations with foreign investors when they can get a better return elsewhere. RBA will be forced to raise soon to defend the dollar and bank funding costs. Rock and a hard place as they say.

    • Enjoy your fantasy, but no point defending the dollar by burning the place to the ground, which will then lead to a collapse of the dollar anyway.

      • They have absolutely no choice but to defend the dollar – two reasons.

        First – lower dollar does NOT translate to improved trade as out exports do NOT operate in a price denominated competitive market, rather it is almost totally inelastic with primary and secondary resources, education and tourism all inelastic (we are already amongst the most expensive in these categories and people come here for quality, access and no where else offers the Australian experience except of course Australia).

        So cutting the dollar will not improve trade – but actively harm our current account.

        Secondly inflation. Inflation is by far a bigger danger to the economy than any other single factor – by a MASSIVE margin. Nothing comes close. And we have ignored it, and indeed moved to relegate it too irrelevancy in our low inflation world. However rampant currency generated tradeable inflation will cause massive inflation from a devalued currency. 20 years ago this would not have been a problem as we had manufacturing which would have benefited from export AND protected ourselves from tradeable inflation – now we import everything down to our pants – see ya Fletchers – and we would be seeing inflation of 10% with a steep devaluation – it would decimate our economy.

        Sorry – the single biggest danger in burning our economy to the ground is NOT defending the currency – people are seriously living in the past relying on classical economic models which simply have no place post 2001 – move on.

        .

      • Ok, so at what point do they “have” to defend the dollar?
        It’s already dropped 30%+ from peak. Do they defend at US0.70, 0.60, 0.40???
        Clearly they are not defending at 0.75, and not looking like at 0.70.
        No, the biggest danger is raising interest rates, dropping housing values, completely destroying the banks, and then having to print massive amounts of money to save them leading to exactly the same devaluation and inflation you are worried about from not defending the currency. Either way we end up at the same point.

      • Over the longer term it does not matter what they do. Without an external shock to the economy they can probably get away with kicking the very dented can down the a few more times. It’s inevitable that the ‘FIRE’ sector will collapse.

      • Our banks went into their own massive debt to fund the bubble and that has to rolled over. If the cost of the banks debt is greater than their own lending rate then they will rapidly become insolvent. By increasing rates they will also pop the bubble which will eventually lead to their colapse as well. The question is which option extends the time line for the longest so they can collect their bonus!

      • Agreed, they don’t need to defend the dollar at this point but at some level, inflation is going to become an issue — at that point the RBA will be caught between a rock and a hard place. If you let inflation run away it becomes hard to stop.

        In the 1980’s Paul Volcker had to jack up cash rates to 20% to stop the USD from being crushed. Just imagine Aussie cash rates at 20% for a sec … even the average MB’er would be feeling pretty nauseous at that point.

      • Jumping jack flash

        FMD!
        20%
        No way.
        That’s a good way to destroy the economy: Burn it with fire!

        No, no, no, the goal is a slow melt. Softly, softly. Steady as she goes. Begin by restricting new mortgage debt. This should cause property sales volumes to shrink to near 0. This would cause revaluations to cease, which allows the last asset “value” that was created when the last pile of debt was attached to it, to be reported as the asset’s actual value.

        Then the “good” debt – the debt that’s left after the initial purge of desperate and pathetic debt slaves who clearly borrowed too much (what is happening right now), is slowly paid back over the life of the loan. House values don’t fall further after that time so our banks can report to their banks that the LVR is still awesome, and that the “problem is contained”.

        Now, doing all this and reporting awesome LVR means that interest rates don’t need to increase. This is the whole point of the 30-year slow melt we’re heading into (at least for the moment).

        Note that I’ve ignored the massive, gaping, hole in the economy which is all the cheap crap from China we import constantly, generally paid for with debt.
        I’m assuming that during the slow melt, debt-driven consumption stalls because there is no new debt, but continued stagnant wages and constant gouging of living costs, and only through the delicate and precise guidance from the diligent and selfless mental giants that lead us, we will avoid a full-on debt depression…

    • As one of the last countries to introduce automated ticketing machines, but the first country to demonstrate they could be disabled by pouring battery acid down the coin slot, let the banks try!

    • But, of course! The borrowers are the heartbeat of our economy! (Which just goes to show what our economy is really worth).

      Don’t tell John Maynard Keynes and his supporters but we used to save a lot, live within our means and have a much stronger economy than we have today.

      • Jumping jack flash

        Pfft. Savings? Savings is dead money and completely boring. Bleeehhh!!
        Worse than owning gold, if that’s possible. Bloody goldbugs.

        Now debt! Oooh debt! That is exciting and living money!

        Here, have some more debt! We have plenty to go around. As much as you need.
        A million debt dollars for everyone, you say? Not a problem. Instant wealth!

      • Nailed it!

        We live in a debt = wealth world. Debt for the house, debt for the Range Rover, debt for the school fees and debt for every other need. What’s not to love!

  3. We need interest rates to catapault north.
    Housing should revert back to what its original purpose was.
    And that is not wealth creation.
    When you send a message to youth that you can sit on your arse and collect massive dividends from property investment, it aint the right message to send.
    Usury will have its day.

  4. So domain.com August 4 auction results out a bit earlier than usual on Saturday evening. The webpage looks a bit different as well. Given a bit of a makeover.

    Headline clearance rate 57%. That seems up a bit.

    But wait a minute. Something is missing this week……. The number of auctions reported.

    So total auctions = 378
    Reported auctions were 194. This means only slightly more than half the total were reported. Much lower than usual percentage reported – and presumably the reason this crucial figure has been removed from the data this week.
    Clearance rate of this paltry 194 was 57%.

    Just imagine how disastrous things would be if the total 378 were included.

    Look out below!