Where to for house prices in Australia?

3rd June, 2009

Dear Investor,
Where to for house prices in Australia?

Saul Eslake, Chief Economist at the ANZ Bank, recently issued a paper discussing this topic. In his report, he notes that despite the undeniable similarities, there are nonetheless some important differences between the Australian and US housing and mortgage markets.

First, Australia does not have a physical excess supply of housing. The US does, because unlike Australia, it actually built more new dwellings that it required to meet growth in underlying demand. In Australia, the reverse has happened: we haven't built enough dwellings to meet underlying demand, which has been pushed up by rising levels of immigration. As a result, we actually have a significant backlog of unmet demand for housing.

Secondly, Australia does not have a huge supply of existing dwellings for sale at any price hanging over the market because of the huge increase in foreclosures that has been the primary source of downward pressure on US house prices. One reason is that there has been far less imprudent lending here than in America. 'Non-conforming' loans (the closest thing that Australia has to 'sub-prime') represent about 1% of all mortgages outstanding in Australia, as against around 15% in the US; while 'low-doc' and 'no-doc' loans account for around another 7% in Australia compared with about 15-20% of US mortgages being 'Alt-A' which is its equivalent of 'low-doc' and 'no-doc'.

Thirdly, mortgage lending in the US is typically 'non-recourse'; that is, in the event of default, the lender can take possession of, and sell the property against which the loan is secured, but cannot make any claims against any other assets or income which the defaulting borrower may have.

By contrast, in Australia the generally applicable legal position is that lenders can seek to recover against a defaulting borrower's other assets and income, if any, in order to make up any shortfall remaining if a mortgagee sale results in proceeds which are less than the outstanding debt. That, together with the generally greater social stigma which the Australian culture attaches to default, provides a powerful incentive to Australian home buyers to avoid default if possible.

Because there are proportionately far fewer dwellings subject to mortgagee sale, and thus 'on the market' for whatever price someone is willing to pay for them in Australia than in the US, there has been far less downward pressure on house prices here than in the US.

And provided (and this is an important proviso), unemployment in Australia does not spike sharply higher, this is likely to remain the case.

There are two good reasons to believe that unemployment won't rise by anything like as much as it did during the recessions of the early 1980s or early 1990s.

First, Australian employers are under much less pressure from high levels of business debt and high interest rates, or from steeply rising real labour costs, than they were on either of those two occasions.

And secondly, employers are aware that, as a result of demographic changes, one of the biggest challenges they are likely to face over the medium term is a shortage of labour, rather than an excess of it.

Together with appropriate reductions in interest rates, relatively low unemployment will likely help ensure that Australian home-buyers are able to continue to service their mortgages, thus reducing the risk of rising mortgage delinquencies and defaults, and minimising the risk of sharp and destabilising falls in house prices.

Best Regards
La Trobe Investment Team

La Trobe is one of Australia's leading independent specialist mortgage Financiers. Its business includes residential mortgages, commercial mortgages, and investment services operating Australia's 13th largest Mortgage Fund under AFSL 222213. It employs over 115 staff and has raised over AUD$10Billion to assist over 100,000 customers since inception in 1952.