Residential property outlook for 2014

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Like never before, our residential property market is highly dependent on the larger economy – the macro forces such as interest rates, the exchange rate, federal and state government policy and also the decisions of our major banks.

The reason why the housing market is so sensitive, is because the level of housing debt to incomes is very elevated (at 150%), making our overall housing market highly geared. And, just like other assets that are leveraged, that means when conditions are right, the market can provide some great returns. And it also can be quite dangerous as well, when leverage works against you.

So this is a market that needs low interest rates and ideally, other macro forces running its way. And so far this year, the market has, more or less, got what it wanted. Our SQM Research Housing Boom and Bust Report released back in September 2012 forecasted a 4% to 7% increase in 2013, as measured by the Australian Bureau of Statistics (ABS).

The ABS will release their March quarter results early in May and our tip is capital growth at 1% to 1.6% for the quarter, which will be lower than the other private reporting bodies, but more in line with our expectations of a market that is in a modest recovery thus far.  So for now, 4% to 7% looks like the money for this year

But what of 2014? Well at this stage, there are many “X” factors that could play out. Similar to our September Housing Boom and Bust Report, we have highlighted five main scenarios to consider, and their impact on the national housing market.

Scenario 1 – Terms of trade remain stable throughout this year and next. The RBA either keeps interest rates on hold, or cuts by 25 basis points by mid-2013, while the Australian dollar (AUD) continues to hover just above parity to the US dollar.

This scenario is closest to the one transpiring at present. Over 2012, the RBA cut interest rates from 4.25% to 3%, which has already helped slightly boost the domestic housing market. While discussion surrounding the RBA’s interest rate policy continues, the jury is still out on whether there will be further cuts going forward. A recovery in Sydney, Perth and Darwin housing markets is already confirmed and there are some modest, yet positive, signs elsewhere. Further rate cuts will likely intensify the rate of this recovery into 2014.

Scenario 2 – Terms of trade recovers and the Australian dollar begins to rise towards $US1.10. The RBA continues to keep interest rates on hold in 2013 and increases rates by 25 to 50 basis points in 2014.

A rising terms of trade will help propel the housing market within the mining states of Queensland and Western Australia. A rising Australian dollar, however, could dampen growth in the service-centric cities of Sydney and Melbourne, which are sensitive to a rising dollar. Rate hikes in 2014 would not dampen the market until late that year. But dampen they would.

Scenario 3 – The terms of trade stabilises, while the RBA cuts rates by more than 50 basis points over 2013. The Australian dollar continues to trade close to parity.

In this scenario, the terms of trade would stabilise close to the levels witnessed in September 2012, while the RBA would continue to cut rates by over 50 basis points over 2013. The Australian dollar would continue to trade close to parity.

Big interest rate cuts, a stable terms of trade and Australian dollar, will help stimulate the housing market within the country.

Scenario 4 – The terms of trade recommences its fall around mid-2013. In response, the RBA cuts interest rates, while the Australian dollar falls below parity.

In this scenario, prices of hard commodities once again begin to fall. In response, the RBA begins to cut interest rates to cushion the blow of the falling terms of trade, which is accompanied by a decrease in the Australian dollar also. The impact of such a scenario on the housing market is likely to be minimal to begin with. However, such a situation could have ripple effects, negatively impacting certain cities such as Perth, Darwin, Brisbane and Adelaide.

The danger present in this scenario is in the RBA being slow in cutting rates. The RBA might look at prolonging the rate cuts due to concerns about fuelling a new housing bubble. However, in not responding quickly enough, the economy and the housing market could slump.

Scenario 5 – The terms of trade rises but is accompanied by accelerating inflation at around 6% by late 2013. The RBA lags inflation and increases interest rates in late 2014.

In this scenario, inflation breaks out above the long-term national average, hovering close to 6%. The terms of trade also witnesses gradual increases. The RBA, however, is seen to be lagging inflation in terms of raising interest rates.

An inflationary environment is considered to be stimulating for the housing market. With inflation breaking out above the long-term national average of 3%, the housing market could witness growth within the country.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.