Apartments could crash Aussie market

By Jason Murphy

Cranes are crowding the skylines as Australia's biggest cities head toward apartment oversupply. Photo / 123rf
Cranes are crowding the skylines as Australia's biggest cities head toward apartment oversupply. Photo / 123rf

Soon, thousands of new apartments will be completed in Australia's biggest cities. Will it cause a house price crash?

The Reserve Bank is watching closely. The number of apartments coming on line in Sydney, Melbourne and Brisbane is huge.

As this next graph shows, the number of apartments to be finished in the next two years is likely to make an big splash in inner Melbourne and inner Brisbane.

Is that enough to change the whole market? Sometimes a small change in supply can have a big effect.

AUCTION ON THE DECK

Here's an analogy: imagine you're selling places on a lifeboat on the Titanic.

If you have 11 seats and 10 passengers, you can't sell them. Everyone knows they get a spot on the lifeboat. Price is zero.

But if you have nine seats and 10 passengers, what happens? Everyone is willing to bid. The bidding stops only when one person runs out of money.

Basically, the poorest person there will bid everything they can, all the money in their pockets and all the money they can promise to pay back for the rest of their life, to get on the lifeboat. The minimum price has to be set just out of their reach to make the market work.

Prices shoot up dramatically once you enter shortage. If the nine passengers actually have some gold in their pockets, the price of a spot on the lifeboat can get very high indeed ...
This is the extreme example, where a tiny shift in supply, from surplus to shortage, can cause a huge jump in price. Housing has some important differences.

The question for Australia is whether a sharp rise in the number of apartments available is enough to make prices fall in the housing market more generally.

In other countries, a supply boom has sometimes prefaced a price crash. This graph shows several countries recently had a supply boom then a price bust.

In these markets people were forced to sell their homes in falling markets. Unlike America, Australia's laws don't let you just give your property back to the bank if you can't afford the loan. So forced selling could be somewhat less than in the US.

On the other hand, off-the-plan sales create something called "settlement risk." That is where the apartment is finally completed, but the buyer can no longer get finance, and they have to hand the apartment back to the real estate agent.

The seller keeps the deposit, but now has to sell the apartment again. That could be a lot like a forced selling situation, and settlement risk is already getting a lot of attention in Australia.

The risks of apartments have been clear for a while now. Their prices are rising much less quickly than the price of houses.

ENTER THE DRAGON?

One of the big uncertainties in the market is foreign investment, especially from China. Some Australian apartments are owned by offshore investors. What will they do if prices start to fall?

If Chinese investors follow the herd and sell up, any apartment price fall is likely to intensify and could spread to housing more generally.

But another option is possible. If Australia's property market starts to look a bit wobbly, the Australian dollar is likely to fall. That makes Australian goods look cheaper on global markets, and Australian assets look cheap to foreign investors.

If foreign capital turns out to be patient, any wobble in the housing market might be short-lived. A new wave of offshore money could come in and soak up any excess supply, preventing prices from falling. In the Titanic analogy, it's like another ship dropping off more passengers on the deck.

Given the negative economic effects of a big house price crash, Australian government policy is likely to encourage foreign investment to prop up prices if the market looks too fragile.

In that scenario, the big cool-off in housing prices younger generations are looking forward to might never even get going.

- news.com.au

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