Apartment oversupply problem worse than Reserve Bank is saying

Melbourne is identified as one of the problem cities for apartment oversupply.

The Reserve Bank has substantially understated the Australian bank exposure to the Brisbane-Melbourne-Sydney apartment oversupply.

However the material the RBA has assembled is accurate — albeit focused on only one part of the problem, inner city apartments. And by detailing the Australian bank exposure to this limited part of the market the Reserve Bank has given us at least some idea of the total exposure.

The Reserve Bank findings were reported in The Weekend Australian.

The bank isolated only the inner city market and stated that the total number of apartments due to be completed over the next two years in the three cities’ inner city market was 38,000.

Last May CoreLogic looked at the entire Brisbane-Melbourne-Sydney market and estimated that the number of apartments due for completion in the following two years (ie to April 2018, or 18 months from now) was over 200,000 — more than five times the Reserve Bank inner city estimate.

Given the timing differences the CoreLogic figures were roughly the same as the Reserve Bank in the inner city. While it’s true that the inner city is a tougher area, particularly in Melbourne and Brisbane, you must look at the total city apartment exposure to understand the magnitude of the problem.

Indeed over the weekend it came to my attention that in Melbourne one developer had more than 5000 apartments due for settlement before June 30 covering inner and outer Melbourne.

In Sydney the largest developer, Harry Triguboff, last month reported that he was experiencing a 50 per cent non-settlement rate. However late on Monday, Meriton reported that with the help of Meriton Finance, the non-settlement rate has been reduced to almost negligible levels.

Meriton is one of the few apartment developers to have its own finance operation which can assist in financing.

If that happens in Melbourne (and it could be greater) the developer I was looking at is in danger. There are many similar situations in Brisbane and Melbourne. Moreover a sense of foreboding came over the market at the weekend with the arrest of Crown executives, who could face 10 years in jail. No one knows what that will do to Chinese demand.

Until the Reserve Bank published its figures we could only guess at the Australian bank exposures, although the harshness with which they were treating Chinese buyers and Australian developers indicated that they had a high level of exposure. (The banks themselves blame the regulator APRA for their bad behaviour.)

Like everyone else the Reserve Bank is having trouble isolating the Australian bank exposure but in the limited inner city markets it believes the bank exposure to the mortgages (actual buyers) is between 2-5 per cent of the banks’ total exposure. The Reserve Bank says this is likely to grow as apartments are completed over the next two years.

The RBA estimates a total exposure of between $30 billion and $50 billion to the three-city inner city mortgage market.

It is not possible to project that figure to the total market with any degree of accuracy but clearly the banks’ three city apartment mortgage exposure is substantially greater than $30-$50 billion.

Now we come to the developers. The Reserve Bank says that around one fifth of the Australian banks’ total residential development lending is to the inner cities of Brisbane-Melbourne-Sydney. Exposures are a little larger in Melbourne and Brisbane than in Sydney due to the greater volume of apartment construction, although they are each less than $5 billion in each city. A graph that goes with the Reserve Bank report would indicate that a combined total of between $11 billion and $12 billion is roughly the inner city bank development exposure.

But we know that the inner city area is only about one fifth of the market, so we are looking at a possible exposure of between $55 billion and $60 billion, or the vast bulk of the banks’ residential development lending.

I am the first to admit that those figures a very rough and very unreliable. They look too high but they are a far more accurate description of the problem than that given by the Reserve Bank, which did not address the total exposure.

It would be very helpful if the Reserve Bank issued a supplementary statement showing what it believes the total exposures were.

My contact is with people who are working feverishly to find ways to solve the problem of the high Chinese non-settlement rate and possibly the danger posed by the Crown arrests.

If the banks behind the developers do not panic it can be fixed over time because there are Asian buyers outside the mainland, some China mainland buyers can get money out and there are Australian buyers.

But because the exposure of the banks appears to be so high, they are showing every sign of panicking and pulling plugs.

If one major developer — like the group I referred to earlier — goes to the wall then we will see a disaster and bank losses will be large.

But remember, according to CoreLogic, apartments due for completion in Sydney by April 2018 at 81,696 are less than twice the annual apartment consumption over the last five years.

In Melbourne the number of apartments due for completion is 80,503 or 2.6 times the annual rate of consumption.

In Brisbane the apartments due for completion at 44,511 is almost three times the annual consumption.

Time can solve these exposures.

And Melbourne has changed the planning rules, which will stop most new developments so the catch up can be quicker, albeit a potential disaster for the state.