A construction boom threatens to create a glut… but only in some segments.
Let’s take a look at one of the worst-case scenarios. I’m seeing this argument making the rounds more and more these days, but if we stop and hold it up to the light, does it hold water?
This is the ‘growing glut’ argument. The idea is that Australia is facing the twin shocks of a rapid build up in housing supply, at exactly the same time that population growth is slowing.
That’s going to throw the market into ‘glut’ – where there are more houses than people who want them. Rents will fall and prices will crash. And “Pal” will pivot from dog-food to aged-care nutrition.
Now we can’t write this off entirely, because some of the trends that this story is built on are true. It’s just that picture is generally more complex that the sound-bites will tell us.
And so I wanted to share some good work Paul Bloxham at HSBC has done in pulling this apart.
So the first point is yes, housing construction is ramping up and population growth is slowing.
If we look at dwelling approvals and dwelling construction, we can see that both have jumped up to the highest level in over 20 years. The leading nature of approvals says that we should see exceptionally high levels of housing supply coming on-line over the next year or so.
However, this only tells you so much, because a lot of this pick up is driven by inner-city apartments in Sydney and Melbourne. We’ll come back to that. But at the national level, yes, we’ve seen a big pick up in supply.
At the same time, population growth has falling, driven by falls in net migration (apparently kiwis packing up and going home has a lot to do with this…)
However, at a population growth rate of 1.5% a year, we’re still at the high-end of the spectrum, and one of the highest levels since the late 80s. It’s just that we had such phenomenal population growth following the GFC, that it looks a little ordinary now. It isn’t. It’s still strong.
Now we want to compare supply and demand here, to understand what’s happening to prices. But we can’t directly go from population growth to housing demand. We live in groups, and the size of those groups varies.
And household size can also vary with time. It’s been on a downward trend since the second world war.
But it can also vary in response to house prices. If prices are high, then some younger people will hold-off on striking out on their own and forming their own household.
What’s more, we only get data on household size every 5 years with the census. So it can be a little tricky. It’s not straight-forward to translate population growth into housing demand.
But HSBC have had a crack at it.
And they’ve done that by assuming different average household sizes to get a ‘range’ of household demand over the past 15 years.
And this is what they come up with:
What you can see here is that, as some people are freaking out about, housing demand has fallen below housing supply, for the first time in a while.
So that will take some heat out of the market.
But the small period of excess supply we’re experiencing now is dwarfed by the prolonged and extreme periods of under-supply between 2007 and 2010, and 2011 and the start of the year.
And so even though we’re producing houses at a decent clip now, we still have a considerable under-supply to work off.
And as long as we have an under-supply, there will be upward pressure on house prices. It might be less pressure than we had before, but it is still there. The drive is still towards higher house prices.
It’s not until we’ve worked off the total undersupply and moved into total over-supply that we start to see the market balance weighing on prices.
On their estimates, the housing undersupply peaked at a shortage of around 200,000 houses in 2012.
Since then, the shortage has been easing, to a current shortage of about 100,000 dwellings.
Going forward, assuming different household growth scenarios, it looks like we get back to a balanced market sometime around 2016-17.
However, there are a couple of assumptions here. The first is that the market was balanced in 2001 – our starting point.
Was it? Maybe, maybe not. It’s impossible to know. But it can have a substantial impact on our estimates. For example, if the market in 2001 was actually undersupplied by just 50,000, that pushes our return to balance back by a full year.
The other point, is that not all housing supply is the same.
It varies by state. For example, NSW has had a pronounced undersupply in recent years, and demand is still growing faster than supply.
However, in Victoria, supply and demand have been more balanced, and there hasn’t been such a large accumulated short-fall.
This means that we’ll have markets coming back to balance, or moving into oversupply at different times, and we’ll see very different pricing responses.
The last point I’d make is that inner-city shoebox apartments, and 4-bedroom homes in leafy suburbs are barely substitutes.
The construction data here doesn’t differentiate between the two, but in my mind they’re worlds apart.
And so I could easily see a scenario where some apartment segments become over-supplied and prices start to fall, while at the same time, detached houses in the same city remain under-supplied and continue to post solid price increases.
So it’s a nuanced picture. Despite what some of the alarm-farmers want you to believe, “Australia” does not have a “glut” and prices are not about to drop off a cliff.
But let them tell that story if they want to. The more buying opportunities there’ll be for buyers like me who know the devil is in the detail.
Will the construction boom cause a property crash or a soft landing?
Are prices too high in Melbourne and Sydney to invest in right now?