Hurricane all but certain to hit Australian housing market in 2023

The housing looks all but certain to be hit by a powerful hurricane in 2023. Picture: NCA NewsWire / Gaye Gerard

Few Australians have any idea of the force behind the hurricane that now looks certain to hit the residential home building market in 2023. Unless builders and highly borrowed owners understand what is coming, they will be badly mauled.

This is my second commentary onthe dismantling of the world economic pillars that have underpinned business strategies for decades.

The first was headed “Buckle up for a bumpy ride as big changes loom”. The market predicts that the Reserve Bank cash rate will go from token levels to 3 per cent but the former Reserve Bank governor Ian Macfarlane indicates it maybe 4 per cent and the head of Treasury clearly fears Macfarlane may be right.

For many years now, bricks and mortar have underwritten Australian families’ fortunes and people have forgotten what happens when both residential and commercial properties fall in value. In past property market crashes the expensive dwellings, that require more borrowing, are the most vulnerable.

To illustrate the impact, I will use the market cash interest rate indicator and assume resulting mortgage rates will rise from their old base of about 2 per cent to 5 per cent. Depending on the bank and other factors, a couple who have an income level that would have justified a million-dollar loan a few months ago will then only be able to borrow, say, $800,000, and possibly a lot less.

Borrowing ability is a key factor in dwelling prices and the slashing of borrowing limits (akin to a credit squeeze) will take place across all price ranges.

Assuming dwelling prices fall an average 20 per cent (some will be greater), that means a vast proportion of those who borrowed the massive total of $650bn (30 per cent of housing loan outstandings) during the two-year bank lending spree will owe more on their dwelling than it is worth. Australia’s bank lending spree, based on flexible interest rates and encouraged by government measures, was duplicated by few other countries, so the Australian pain is set to be among the worst in the world.

In the US, demand for new mortgages is already down by 20 per cent, reflecting higher interest rates, and Australia’s looming slump in new building orders will be even more severe if the market mortgage rate predictions are right.

There will be a time gap as we complete existing orders, but some time next year the building labour and material shortages will be drastically reduced and there will be surpluses in many areas.

The building industry and its labour force are not prepared for this total change in circumstances. Meanwhile, inflation keeps rising, driven by higher oil and food prices, so for many real wages decline although during the labour shortage the inflation will boost wage levels, forcing inflation higher.

A significant segment of the recent home borrowers will need repayment concessions from their banks. Bank shares are falling because the market believes their profits will be hit first by the fall in new loans and then by the rise in problem loans.

We are going to substantially increase migration to cover the current labour shortages, and this will create a dwelling demand that will insulate some areas of the dwelling market from big falls. Rents will need to rise sharply to attract investors back into the market.

But as the labour shortages diminish with the decline in building and retail activity, migration will become more controversial.

CBA, as the biggest home lender, understands better than anyone else the dangers being created.

Originally CBA simply didn’t believe the Reserve Bank would risk a sharp economic decline. The Reserve Bank took the reverse view, so CBA lifted its rate forecasts, but is still forecasting interest rate rises that are lower than the market expects, perhaps because the major bank knows what is ahead.

Last week I was yarning to a young couple whose situation illustrates the situation facing many. The couple recently completed the purchase and occupancy of a fixed-price display home.

In normal circumstances their income would not have qualified them for a loan, but the banks were hosing money at people so they grabbed the opportunity.

My advice was: don’t worry if the house falls in value. Don’t quit the house, you will never get another chance, and don’t be frightened to ask for help. Remember, renting is already a disaster and is set to get worse.

In time the house will recover in price. Reduce your spending to prepare for what is ahead. Don’t worry about further capital improvements at this stage.

The wife’s job is not that secure, so she should use the current labour shortage to try to get a secure income source. The husband operates a small business. My advice to him will be covered in tomorrow’s commentary on strategy options for big and small enterprises.

For investors in times of stagflation either look for growth winners or investments that have income linked to inflation and have borrowing at fixed interest rates or at low levels.

The government is set to hit the great tax haven of superannuation for those with worthwhile sums invested in superannuation. We will have to wait and see what it does.

Naturally, superannuation values will fall, causing many of those who have “retired early” to rethink their decision. Some big superannuation funds may artificially boost their asset backing via inflated unlisted investment values. Trustees who are foolish enough to allow this to happen may experience demands for asset or fund switching akin to a bank rush.