Australian Housing Outlook Prepared by BIS Shrapnel for QBE October 2015

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1 Australian Housing Outlook Prepared by BIS Shrapnel for QBE October 2015

2 DISCLAIMER: The information contained in this publication has been obtained from BIS Shrapnel Pty Limited and does not necessarily represent the views or opinions of QBE Insurance (Australia) Limited ABN (QBE). This publication is provided for information purposes only and is not intended to constitute legal, financial or other professional advice and has not been provided with regard to the investment objectives or circumstances of any particular reader. While based on information believed to be reliable, no guarantee is given that it is accurate or complete and no warranties are made by QBE as to the accuracy, completeness or usefulness of any of the information in this publication. The opinions, forecasts, assumptions, estimates, derived valuations and target price(s) (if any) contained in this material are as of the date indicated and are subject to change at any time without prior notice. The information referred to may not be suitable for specific investment objectives, financial situation or individual needs of recipients and should not be relied upon in substitution for the exercise of independent judgment. Recipients should obtain their own appropriate professional advice. Neither QBE nor other persons shall be liable for any direct, indirect, special, incidental, consequential, punitive or exemplary damages, including lost profits arising in any way from the information contained in this material. This material may not be reproduced, redistributed, or copied in whole or in part for any purpose without QBE s prior express consent.

3 Table of Contents Introduction Housing Outlook Report About this report 6 1. Executive summary 7 2. Economic outlook 9 3. Buyer activity Rental markets Yields Housing affordability Demand Capital city overviews and price forecasts Appendix 57

4 4 Australian Housing Outlook

5 5 Introduction Housing Outlook Report Welcome to the latest edition of the Australian Housing Outlook Report, exclusively complied and researched for QBE by BIS Shrapnel. This report explores current home value trends in Australia and the expectations for the market across our states and territories. For the first time, median prices in this year s Report are forecast for both houses and units, with additional commentary on regional centres. There has been mixed demand for residential property across the capital cities during 2014/15 as the economy continues to transition from being led by mining investment, to more broadly based economic growth. While the residential property market is forecast to slow, BIS Shrapnel s research shows there will only be a mild correction to house prices during the forecast period of in Perth and Darwin, with compound growth in all other capital cities: Sydney, Melbourne, Adelaide, Hobart and Brisbane. With loans to first home and non-first home buyers either declining or rising very slowly across the states, investors are now the most active market group, accounting for 50% of total residential finance across 2014/15. However, median unit price growth during 2014/15 has been more subdued than houses in most capital cities and is expected to remain so through to The higher number of units being built mean any excess supply in markets is likely to be more concentrated in units than housing. Interest rates remain at historically low levels and there are signs of improvement in the tourism and education sectors, while other sectors such as agriculture and manufacturing should improve, in part thanks to the lower Australian dollar. Stronger economic growth is expected in months as investment in trade-exposed industries picks up and will ultimately drive increased employment, income and private consumption expenditure. QBE LMI has been supporting the mortgage industry for 50 years. Our Financial Institutions team continues to find innovative ways to deliver solutions, which ensure lenders have the confidence to help Australians achieve their dream of home ownership. Our sponsorship of the Australian Housing Outlook Report has developed over more than a decade and reflects our continued commitment to delivering insights into residential property trends. We hope you find this year s Report an insightful read. Phil White Chief Executive Officer QBE LMI

6 6 Australian Housing Outlook About this report This report provides an analysis and forecast of the key drivers influencing the residential market nationally, as well as across each of Australia s state and territory capital cities and selected regional centres. The analysis presents an outlook for the performance of the residential market, as measured by historical and forecast movement in the median house price and median unit price. The unit market in this report refers to the attached dwelling market and includes all forms of multi-unit dwellings including townhouses, villa units and apartments. In the major capital cities, the majority of these dwellings are apartments. The house market refers to detached or separate dwellings that do not share a wall with adjoining dwellings. Where the report refers to the residential market, or to dwellings, the reference is applicable across the whole market. The key forecasts for the market outlook are the median house price and median unit price. The median price refers to the mid-point of sales that have taken place in a period and is considered a better indicative measure of prices than the average, which can be more influenced by extreme results. The median price can also be influenced by changes to the composition of sales in between periods. This edition of the Australian Housing Outlook (compared to previous editions) now refers to a weighted median, which is a median weighted by the geographical distribution of the housing and unit stock. It is considered that the weighted median better accounts for the effect of an imbalance in the sales in the period. Consequently, the price data are now derived from APM PriceFinder raw data instead of the Real Estate Institute of Australia medians. This change has also resulted in minor changes to areas used to indicate sub-regional price growth within the capital cities. In addition to the median price, the report refers to the real median price. This is the median price after accounting for the impact of inflation. The real median price allows for a better comparison of price growth over time as, during periods of high inflation, significant rises in the median house price may be underpinned by the inflation rate and do not necessarily reflect a strong market. The forecast annual percentage changes in the median house price and median unit price in the price forecast charts in this report are rounded to the nearest whole number. Any reference to price growth in the text may not be identical to that indicated in the charts due to the impact of this rounding.

7 October Executive summary The Sydney and Melbourne residential markets have been stand-out performers in the current residential cycle, with cumulative rises of 56% and 33% in median house price during the June 2012 and June 2015 period respectively. Price growth momentum in these markets has been maintained due to the total 50 basis point cut to interest rates in February and May Growth in demand from non-first home buyers appears to have leveled out during 2014/15, with investor demand growing strongly and driving price growth in both markets. Median house price growth has been more moderate in Brisbane, Adelaide, Canberra, and Hobart over the two years to 2014/15. These cities experienced excess dwelling stock and/or weak local economic conditions. Conversely, Perth and Darwin saw declining growth in 2014/15. Demand in these two cities has been most impacted by a decrease in mining investment and lower migration. Median unit price growth in 2014/15 has been below median house price growth in all capital cities apart from Hobart and Darwin. Strong investor demand has resulted in a disproportionately higher level of new unit supply in 2014/15 and this is being reflected in rents and prices. Interest rates are forecast to remain at current low levels through 2015/16, although announcements by the regulator about the rate of investment credit growth and capital adequacy have resulted in a number of financial institutions raising interest rates to investors by 25 to 30 basis points in Together with other measures to keep investment lending growth below the regulator s guidelines, demand in some markets may ease slightly. Median house price growth is forecast to slow in 2015/16, although Sydney will remain solid at 7%. Melbourne and Brisbane are predicted to rise 5%. A softening economy in Perth and Darwin is expected to reduce demand further, resulting in a correction in median house prices, while Australia s other three capitals are expected to see shallower growth due to little pent up demand. A mild correction is forecast in Sydney, Melbourne, Perth, Adelaide and Darwin during Brisbane, where affordability is less strained and there is currently a dwelling deficiency, is forecast to experience price growth. Meanwhile, Hobart and Canberra are forecast to experience some stability after prior weakness, with interstate migration flows expected to improve. The market for units is forecast to be weaker than housing through to More restrictive investor lending practices are expected to impact the capacity for investors to pay a higher price. Moreover, the upturn in construction across most markets has been driven by units. The disproportionately higher number of units being built means any excess supply in markets is likely to be more concentrated in units rather than houses.

8 8 Australian Housing Outlook Table 1: Median prices by capital city House Quarter ended June Sydney Melbourne Brisbane Adelaide Perth Hobart Canberra Darwin $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var , Forecast , , , Forecast Growth (%) Unit Quarter ended June Sydney Melbourne Brisbane Adelaide Perth Hobart Canberra Darwin $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var $ 000 % Var Forecast Forecast Growth (%) Source: APM PriceFinder, Real Estate Institute of Australia, Forecasts: BIS Shrapnel

9 October Economic outlook 2.1 State of play The economy continues to transition from being mining investment-led to more broadly based growth. The mining and heavy industry construction boom, which underwrote the strength in Australia s Gross Domestic Product (GDP) growth, peaked in 2013/14 and is now detracting from growth. BIS Shrapnel s forecast is for mining investment to eventually fall around 60% from its peak by 2017/18. This decline is partly offset by the recovery in new dwelling investment, with commencements now at record levels. Improvement is evident in industry sectors such as tourism and education which have been held back in recent years by the high Australian dollar. The fall in the dollar has also improved the position of other tradeexposed sectors including agriculture and manufacturing. Mineral export volumes have increased as new mining capacity comes online, with lower commodity prices usually denominated in US dollars being somewhat offset by the lower dollar. Non-dwelling building is also likely to strengthen, with a healthy pipeline of projects in the office, retail, accommodation, warehouse, aged care and entertainment and recreation segments to push overall building higher in 2015/16. The pipeline, however, needs to be added to for activity to be maintained in subsequent years. Public sector building has weakened as federal and state budgets are tightened. This should start to pick up with an increase in infrastructure projects as state governments embrace asset recycling, where mature assets are sold or leased to finance new ones. Households have been cautious, keeping savings high. Consumption expenditure has only been marginally outpacing growth in household disposable income. Households have built up a considerable savings buffer after several years of high savings ratios. Rising dwelling prices and record low interest rates are expected to result in household consumption expenditure continuing to slightly outstrip the growth in household disposable income. The low Australian dollar, together with greater tourism expenditure, should translate to increased retail turnover and activity in Australia. Stronger growth is forecast to return in 12 to 18 months, as a recovery in non-mining business investment starts to contribute to growth. As trade-exposed industries pick up, related industry sectors are likely to benefit, resulting in revenue and profit growth across a range of industry sectors. This is anticipated to lead to increased business investment, including following through with previously deferred expenditure. Sectors servicing this investment, including business services, will benefit, resulting in a recovery in non-mining investment driving increased employment, income and private consumption expenditure. The Reserve Bank of Australia (RBA) is expected to keep interest rates low while the economy continues to transition. As other sectors of the economy strengthen and offset the decline in resource sector investment, employment growth is forecast to increase. After an extended period of wage restraint, the RBA is expected to become more concerned about the potential for a catch up period of stronger wages growth to create inflationary pressures. As a result, the RBA is expected to tighten interest rate policy through a rise in the cash rate during 2016/17, slowing the pace of growth over 2017/18 and heading off wage and inflationary pressures.

10 10 Australian Housing Outlook Chart 1: Key economic indicators 7 6 Per cent Forecast Year to June GDP Growth Unemployment Rate Employment Growth CPI Growth Source: Australian Bureau of Statistics, Forecasts: BIS Shrapnel Employment growth to August and unemployment rate as at August 2.2 External state of play The outlook for Australia s exports, in particular resources exports, is largely dependent on the prospects of the Chinese economy. China accounted for 32.5% of Australia s goods and services exports in 2014/15. Moreover, China accounted for 80% of the total growth in Australia s exports in 2013/14. In China, measures to cool the booming construction market and move to a consumer-led economy have had a moderating effect on Chinese growth. Exports from China have struggled as the global economy continues to stutter. The recent correction in the Chinese stock market could be seen as an indicator that the domestic economy is weaker than previously thought and the transition from investment-led growth is likely to result in slower overall growth. Chinese authorities have implemented several stimulus measures to reach the 7% growth target set for These are a blend of monetary and fiscal measures including reductions to official lending rates, reduced constraints on bank lending through lower reserve requirement ratios, and a construction stimulus program targeting affordable houses, rail and internet infrastructure to the value of approximately $US250 billion. China s growth in 2015 is expected to fall short of the 7% target due to flat exports and slower investment activity. The fragile global market may continue to delay the absorption of the excess industrial capacity which has built up and held back investment by new businesses. Rising domestic incomes in China are supporting the expansion of the services and retail sectors which are growing as a share of total economic activity. Chinese growth is expected to remain below 7% in the short to medium term as the internal adjustment process progresses. This should nevertheless be sufficient to underpin further growth in Australian exports to China in the coming years. Turning to the other major economies, the data from Japan are mixed although it appears positive. Strong first quarter growth in Japan was followed by a contraction in activity in the second quarter. Core inflation has lifted, while the depreciation of the yen has boosted Japanese export volumes. This has fed into business profits which have hit record highs and unemployment is now at its lowest levels since In the United States, economic activity is being driven by stronger retail sales and private consumption expenditure as the unemployment rate falls. Dwelling starts are increasing and on track to reach 1.1 million during 2015; more than double the trough experienced in early 2009, although well short of the long term average of 1.5 million homes. Tight credit conditions continue to impact on borrowers ability to finance new homes. There is now sufficient momentum in the economy for the Federal Reserve to flag tightening monetary policy.

11 October Euro Zone growth remains constrained by imbalances caused by the common currency. While Germany benefits from a lower Euro, the present level of the Euro is still not low enough for the more poorly performing economies, such as Italy, to be competitive. As a result, growth in these economies remains slow as they look to adjust by cutting labour costs instead. Overall, the lower Australian exchange rate should ultimately facilitate a recovery in Australian export volumes of non-commodity manufactured goods across the board. Even though the Australian dollar has fallen more than 30% since April 2013, improvements in manufacturing exports remain dependant on future global economic conditions. The recovery is likely to gain more speed over the medium term if the global economies return to trend growth rates and if the Australian dollar consistently stays below US 70 cents. 2.3 Interest rates The Consumer Price Index (CPI), which measures inflation, was weak in 2014/15 with headline inflation of 1.5%. Underlying inflation, which excludes the most volatile items and is the measure the RBA focuses on, currently sits at 2.3% and is at the lower end of its target range of 2% to 3%. The low headline figure is likely to be temporary, given this was largely driven by the slump in oil prices. Nevertheless, underlying inflation appears to be contained for now. Although the minutes from the RBA monthly meetings have expressed concerns about the strength of Sydney and Melbourne residential prices, there are no indications that the RBA will raise interest rates in the near future. The Australian Prudential Regulation Authority (APRA) is implementing measures to slow price growth using macro prudential policy targeting investors. This should provide the necessary monetary policy framework to contribute to economic growth and allow residential market upturns in the other states to gain traction and contribute to economic growth. In Australia, the overall outlook for inflation is expected to remain moderate in the immediate term, as weak domestic demand and spare capacity in the economy keeps wages growth and non-tradeables inflation contained. As the economy begins to strengthen through 2016/17, wage pressures are likely to emerge after being contained in recent years. At the same time, there is likely to be increased potential to pass higher costs resulting from the depreciated Australian dollar through to consumers as retailers start to rebuild their margins. As a result, a pre-emptive rise to interest rates is forecast for late calendar year 2016 or early Given the recent 25 basis point rise in investment lending rates in 2015 and the subdued economy, it is believed that a further rise in the cash rate of 25 basis points and a tightening bias will be sufficient to precipitate a shallow economic slowdown through 2017 and into 2018 that will dampen inflationary pressures. The extended period without a major acceleration in economic growth is anticipated to set the scene for a stronger economic upturn through the following cycle as the next round of resource sector projects combine with growth in non-mining business investment. The major banks have increased their home loan rates in October 2015, in addition to their prior increases to investor interest rates. All four banks have indicated that this move is in response to the APRA requirement for banks to increase capital held against their lending portfolio. The rise has ranged from 15 to 20 basis points. Given the need to maintain a relatively stimulatory monetary policy in the current economic environment, it is expected that RBA will reduce the cash rate to offset this rise so that the variable rate is maintained at previous levels. The correlation between changes in the cash rate and the variable rate is not as strong as it has been in the past. Most financial institutions now offer different interest rates to owner occupiers and investors. Approved owner occupiers also receive varying discounts to the standard variable rate on their borrowing. While the standard variable rate is often used as the indicative rate, the RBA sets the cash rate with a view to the impact on the borrowing costs across all loans.

12 12 Australian Housing Outlook Chart 2: Interest rates and inflation 10.0 Percentage Forecast As at June Cash Rate Standard Variable Rate Three year fixed rate Source: Reserve Bank of Australia datasets at September Forecasts: BIS Shrapnel. 2.4 Impact of investor demand Investor purchasers have been a key driver behind capital city residential markets in 2014/15. Nationally, the value of loans to residential investors rose by a significant 24% in 2014/15 compared to 2013/14, which recorded growth of 30% on the prior year. In contrast, owner occupier demand has started to taper off, with loans to first home buyers falling by an annual 3% and loans to non-first home buyers rising by a minimal 0.3% in 2014/15. As a result, investors have now become the dominant player in the market, accounting for 50% of total residential finance in 2014/15, compared with the average of 41% over the 15 years to 2014/15. A corresponding decline in residential finance to owner occupiers has occurred. Strong investor demand, an under-supply of dwellings in some states, and low interest rates have been key factors driving dwelling price growth over the past two years. Growth in investment lending, however, is anticipated to weaken in In response to APRA s guidance on home lending to investors, a number of financial institutions raised interest rates on investor loans by 25 to 30 basis points in July 2015 (despite no change in the RBA cash rate), increased interest rate buffers and tightened loan-to-value ratios. These measures have effectively limited the supply of investor loans. This is anticipated to lead to softer demand from investors, with APRA expressing a preference for financial institutions to contain annual portfolio growth in investment lending to below a 10% threshold. The removal of the most marginal and highly geared investors from the market is likely to alleviate some of the demand pressures on prices. There is also likely to be a negative effect on residential building activity. Multi-residential construction is dependent on investors to underwrite pre-sales, and the prospect of a lower loan-to-value ratio and therefore higher deposit may discourage some investors. Furthermore, there is a risk that some investors may not settle purchases of units bought off-the-plan due to the higher than anticipated equity contribution and/or increased interest rates. The potential for a higher level of sales not proceeding may result in financial institutions applying more onerous pre-sale requirements before agreeing to finance construction. Banks are also containing investment lending growth by tightening lending to foreign investors, an additional factor in anticipated lower overall demand.

13 October The new apartment market has additional risks because a purchaser could elect to forfeit their deposit rather than complete the sale. If the deposit has been secured with a deposit bond, the risk that the sale does not complete is greater as the purchaser needs to find the cash to pay the deposit at settlement, as well as secure the finance for the balance. If this occurs across the market, this would increase re-sale stock on the market and potentially apply further downward pressure on unit prices. Lower investor demand also has the potential to allow owner-occupiers to buy into a less heated property market, particularly given interest rates are expected to remain low and banks are likely to target owner occupiers, who are less impacted by APRA guidelines, to drive growth. This may offset the potential decline in investor demand. Chart 3: Share of loans to residential purchasers by purchaser type, Australia 15 years to 2014/ /15 First home buyers 15% 12% Non-first home buyers 44% 38% Investor 41% 50% Source: Australian Bureau of Statistics

14 14 Australian Housing Outlook Buyer activity 3.1 Current trends Chart 4 illustrates the change in moving annual turnover of residential lending to first home buyers, non-first home buyers (i.e. upgraders and downsizers, which include all purchases made for owner occupation and where the buyer has previously owned another dwelling) and investors. The chart represents trends for Australia, which masks some differences across the states, as outlined later in this report. Chart 4 indicates that first home buyer demand has been declining since the end of calendar 2014 with the turnover in loans 2.6% down over the year to June For non-first home buyer demand, the rate of growth has been slowing since the end of 2013, with loans to non-first home buyers showing almost no growth over the year to June 2015 (+0.3%). Some modest year-on-year growth is evident in the latest data reported in June and July 2015, although further data will be required to determine if this trend is likely to continue. Investor demand has recorded consistent year-on-year growth between 2012 and September Although the rate of growth in the value of lending to investors has started to slow since then, it was still 24% higher over the year to June 2015 compared to the year earlier. Chart 4: Annual growth in home loans moving annual turnover, Australia 60.0 Percentage growth Year ended June First Home Buyers Non-First Home Buyers Investors Investor activity based on value of lending, owner occupier data based on number of loans Source: Australian Bureau of Statistics

15 October First home buyers Incentives available First home buyer demand is important because it creates demand for entry-level properties, facilitating broader demand by encouraging current occupiers to upgrade through the value chain. As a result, incentives have often been put in place to promote first home buyer demand during times of market weakness. Chart 5 shows existing state and federal government incentives offered to first home buyers. It refers to grants available specifically to first home buyers and not broader grants and incentives first home buyers can also access. Where stamp duty concessions are offered, the maximum concession is indicated. It should be noted there are some purchase price limits for grant eligibility which vary by state. Chart 5: First home buyer incentives by state at September 2015 Established Home Grant New Home Grant Cash grant Stamp duty concession (max) Cash grant Stamp duty concession (max) NSW $0 $0 $15.0k $20.2k VIC $0 $15.5k $10.0k $15.5k QLD $0 $8.8k $15.0k $8.8k SA $0 $0 $15.0k $0 WA $3K $14.4k $10.0k $14.4k TAS $0 $0 $20.0k $0 NT $0 $0 $26.0k $0 ACT $0 $0 $12.5k $0 Future expiry Cash grant reduces to $10k 1 Jan /16 state budget to abolish $3k for existing dwellings Cash grant reduced to $10k from 1 Jan /16 budget to reduce cash grant to $10k at Jan 2016 & to $7k at Jan 2017 Source: State Government State Revenue Offices, BIS Shrapnel Over the past four years there have been progressive changes in first home buyer incentives across all states to favour purchasers of new homes over existing homes. The long-term impact will be a shift of first home buyer demand that would have otherwise been for established homes into the new home market, thereby adding to supply. The short-term impacts on the market as a result of the progressive removal of incentives for the purchase of established dwellings are: Future first home buyer demand was brought forward to take advantage of the grants before they expire, leaving a vacuum of first home buyers in the established market immediately afterwards. A delay in the next round of first home buyers who then have to accumulate a larger deposit to compensate for the lack of financial assistance. With first home owner demand being fixed (i.e. households are first home buyers only once), incentives do not create or diminish demand but rather serve to shift existing demand through time. Once the impacts of the changes to incentives are worked through, first home buyer demand should return to long-term averages.

16 16 Australian Housing Outlook The impact of the removal or reduction of first home buyer incentives for established dwellings across most states has now largely flowed through. Tasmania and South Australia removed the first home buyer incentives for existing dwellings relatively recently in July The Northern Territory removed the incentives for existing dwellings in January 2015 and accordingly first home buyer activity in these three states is lower than it otherwise would be. This is evident in the decline in loans to first home buyers in South Australia and Tasmania in 2014/15. New South Wales and Western Australia experienced declines in first home buyer loans in 2015/16, caused by diminishing affordability in New South Wales and a deteriorating economy in Western Australia. Northern Territory experienced a surge in first home buyer demand in late 2014, resulting in a rise in first home buyer loans over 2014/15. There have been declines in the first half of 2015, with a year-on-year fall of 31% in the June quarter In Victoria and the Australian Capital Territory, the stronger year-on-year growth in June quarter 2014/15 suggests that first home buyer loans have trended upwards through 2014/15. In Queensland modest growth in first home buyer loans has occurred. Australian Bureau of Statistics (ABS) data on loans to first home buyers are derived from returns submitted to APRA. A first home buyer is defined as a borrower entering the home ownership market for the first time. The definition includes all first home buyers obtaining a loan (and not just those eligible for grants) but excludes first home buyers who are investors as the data relates to loans for owner occupied properties. There is some evidence to suggest that an increasing percentage of first home buyers, particularly in the higher priced cities of Sydney and Melbourne, are purchasing an investment property as their first home as a stepping stone into the market. Chart 6: Annual growth in number of loans to first home buyers by state NSW -6.9% VIC QLD 4.7% 6.8% WA SA TAS -21.5% -17.9% -15.0% NT -30.6% ACT 30.4% AUS -3.7% -40% -30% -20% -10% 0% 10% 20% 30% 40% June Quarter 2015 Source: Australian Bureau of Statistics

17 October Upgraders and downsizers Upgraders and downsizers have historically represented the largest component of residential demand, being 44% of total residential lending activity in the past 15 years. This is two to three times the size of the first home buyer market. Since bottoming out in 2011 and 2012 in all states, upgrader demand strengthened over 2013 and Over the past twelve months to June 2015, growth in the number of loans to upgraders has stalled, growing by just 0.3% nationally. Some states, however, are still experiencing growth in upgrader demand. Victoria, South Australia, Tasmania and the Australian Capital Territory saw growth in loans to upgraders during 2014/15, although South Australia and Tasmania recorded small year-on-year declines in the June quarter 2015, suggesting activity is trending downwards. In contrast, in Queensland and the Northern Territory, growth in loans to upgraders has declined modestly in 2014/15. In Western Australia, there was a more significant decline in loans during 2014/15. All of these states had an accelerated year-on-year decline in the June quarter New South Wales, consistent with the national average, showed almost no growth over 2014/15 in loans to upgraders. The June quarter 2015 result showed a small (+0.7%) improvement, suggesting a response to the interest rate cuts in the first half of Chart 7: Annual growth in number of loans to upgraders and downsizers by state NSW VIC 0.7% 2.4% QLD -2.2% WA -11.2% SA TAS NT -2.3% -0.7% -0.1% ACT 3.5% AUS -1.1% -15% -10% -5% 0% 5% 10% 15% 20% June Quarter 2015 Source: Australian Bureau of Statistics

18 18 Australian Housing Outlook Investors The ABS provides data on residential investment in terms of the value of total loans rather than the number of loans. As a result, changes in the value of loans over time reflect a change in values for property and purchaser volumes. All states reported an increase in lending for residential investment in 2014/15, and all but South Australia (-5.7%) and the Northern Territory (-6.2%) have continued to show a year-on-year increase in lending for residential investment in the June quarter Notably, investment lending in New South Wales in 2014/15 recorded the strongest growth, rising by 32% to $65 billion over the previous year. Strong growth over the past three years has broken decade-long period of subdued demand for residential investment finance in the state since 2003/04. Of the other states, growth in lending for residential investment during 2014/15 was strong in Tasmania (+30%), Victoria (+24%), Queensland (+18%) and South Australia (+13%). While rising in 2014/15, lending for residential investment in Western Australia and the Australian Capital Territory was more subdued, although both saw strong year-on-year growth over the June quarter 2015, at 19% and 35% respectively. Chart 8: Annual growth in value of loans to investors by state NSW 30.4% VIC 25.6% QLD WA 15.8% 19.1% SA -5.7% TAS 32.8% NT -6.2% ACT 35.0% AUS 22.1% -10% 0% 10% 20% 30% 40% 50% June Quarter 2015 Source: Australian Bureau of Statistics

19 October Rental markets 4.1 Vacancy rates The vacancy rate in each city reflects the level of rental demand and supply. A vacancy rate of 3% in a market is considered balanced, where rents on average will rise broadly in line with inflation. In Sydney, since 2006 there has been a considerable deficiency of residential dwelling stock after an extended period of low new dwelling construction. The increase in new dwelling supply from 2012/13 has alleviated some tightness in the rental market although the vacancy rate remains low at 2.1% as at June Given the extent of the dwelling shortage, the return to a balanced rental vacancy rate is likely to occur beyond 2017/18. In Melbourne, vacancy rates have been below the balanced market level of 3% for the past two years to June 2015, despite record dwelling completions. This highlights the strength of population growth, boosted by record net interstate migration inflows. With population growth forecast to ease from 2015/16, and with further growth in new dwelling supply, vacancy rates are expected to rise to above 3% through 2015/16. Brisbane and Adelaide have seen vacancy rates edge higher in 2014/15 to 2.7% and 2.8% respectively and the vacancy rates in both cities are anticipated to continue to trend upwards. In Brisbane, the forecast is due to forecast dwelling completions outpacing demand, and in Adelaide the excess of dwelling stock may rise further due to weak demand. Perth (4.7%) and Darwin (6.9%) recorded the highest vacancy rates among all capital cities at June 2015, with rental vacancies trending upwards as the year progressed. Rising new dwelling completions, rapidly slowing net overseas migration inflows and falling interstate migration levels are causing an exit from rental properties. As a result, the pace of new rental tenants coming to the market is failing to keep up with the pace of new additions to the rental stock. In Hobart and Canberra, vacancy rates have tightened to 2.9% and 3.5% respectively at June In Tasmania, on the supply side dwelling completions fell below previous peaks and on the demand side there was also low rental growth which is helping to attract new tenants. In the Australian Capital Territory, declines in rents appear to be attracting new tenants. With both states estimated to experience a rising underlying dwelling surplus, the downward trend in vacancy rates is not expected to continue and vacancy rates are likely to remain above 3% through the forecast horizon. Chart 9: Residential vacancy rates, at June quarter 2014 vs % 6.9% 6.0% 5.0% 4.0% 3.0% 2.0% 2.1% 1.8% 2.9% 2.8% 2.7% 2.8% 2.4% 2.5% 4.7% 4.2% 3.9% 2.9% 4.2% 3.5% 4.4% 1.0% 0.0% Sydney Perth Melbourne Brisbane Adelaide Hobart Canberra Darwin Source: Real Estate Institute of Australia

20 20 Australian Housing Outlook Rental growth Rental growth was strong in the latter half of the 2000s after a period of underperformance in the first half of the decade. In recent years, rental growth has generally been moderate, despite vacancy rates remaining tight in all capital cities up to This suggests there may be some rental affordability constraints preventing stronger rises. Surprisingly, Melbourne experienced the highest rental growth of 2.6% in 2014/15, with strong population growth and ensuing robust demand offsetting record new dwelling supply. Vacancy rates remained steady in Melbourne. In Hobart, an improved vacancy rate of 2.9% assisted rental growth which stabilised at just above 1% in 2014/15. In Sydney, Brisbane and Adelaide rising vacancy rates during 2014/15 have led to an easing in rental growth to 2.5% in Sydney, 1.4% in Brisbane and 1.6% in Adelaide. In New South Wales, strengthening economic conditions maintained the rental growth above the level of inflation. In Darwin, rental growth slowed to less than 1% in 2014/15, while in Perth and Canberra, rents declined by 0.4% and 2.7% respectively. This reflects the high level of vacancy rates in each capital city. In both states, while new dwelling supply continues to rise, falling resource investment spending is leading to significant reductions in migration and subsequent weaker tenant demand. Chart 10: Annual rental growth 5.0% 4.8% 4.0% 3.0% 2.0% 1.0% 3.0% 2.5% 2.6% 1.7% 2.2% 1.9% 1.4% 1.6% 2.9% 1.2% 1.1% 0.9% 0.0% -1.0% -0.4% -0.8% -2.0% -3.0% -2.7% Sydney Perth Melbourne Brisbane Adelaide Hobart Canberra Darwin Source: Australian Bureau of Statistics

21 October Yields Chart 11 shows movement in indicative rental yields for houses by capital city. The indicative yield is calculated as the median three-bedroom house rent divided by the median house price. The indicative yield slightly understates actual yields. An investor is more likely to purchase a house below the median house price and therefore the rent is likely to be below that achieved for a median priced house. Nevertheless, movement in the indicative yield should correspond with actual yields. We have compared the rental return with the cost of financing by using the measurements for indicative rental yield and the standard variable interest rate respectively. In Sydney and Melbourne, indicative rental yields for houses are well below other capital cities, with stronger house price growth in these two capitals over the past two years widening the gap. At June 2015, the indicative rental yield for houses in Sydney was 2.4% and in Melbourne was 2.6%. For Melbourne, this was the lowest yield on record, for Sydney, yields are at their lowest level since In Brisbane, Adelaide and Canberra, yields are on par at approximately 4.0% at June Brisbane and Adelaide yields have varied over the past ten years, while Canberra has experienced a fall in yield in recent years as median house rents have declined. In Perth falling rents and in Darwin weaker rental growth has resulted in a decline in housing yields in 2014/15, to 4.3% in Perth and 5.3% in Darwin. Darwin has the highest indicative house yield of the capital cities. Hobart was the only capital city which experienced an increase in indicative house yields in 2014/15, which lifted to 4.6% between June 2014 and June With the exception of Perth, yields in all capital cities are below the 15-year average. Despite the low yields, the corresponding low mortgage interest rates means the gap between rental yields and interest rates in most capital cities remains narrow. In some instances, selected properties in individual markets are likely to be positively geared, particularly with the current ability of purchasers to obtain a rate better than the current standard variable rate. The narrowed gap together with the emergence since 2013/14 of capital growth within segments of many capital cities has been attractive to investors and it is anticipated that these two factors will continue to drive further investor demand across most states in 2015/16. The anticipated further reduction in yields together with the impact of regulatory change may begin to deter investors from 2016/17. Chart 11: Indicative rental yields by capital city, houses 7.0% 6.5% 6.0% 5.5% 5.0% 5.3% 4.5% 4.3% 4.6% 4.0% 3.5% Highest 4.1% 4.0% 4.0% 3.0% 2.5% 2.0% 2.6% Lowest 2.4% Sydney Melbourne Brisbane Adelaide Perth Hobart Canberra Darwin 15 year average 2015 Current standard variable rate Source: Real Estate Institute of Australia, Reserve Bank

22 22 Australian Housing Outlook Housing affordability Housing affordability is defined by the mortgage repayments on a 25-year loan of 75% of the median house price at June 30 each year, at the prevailing June 30 standard variable rate, as a percentage of average household disposable income. Chart 12 shows that in Sydney and Melbourne, following strong house price growth of 44% and 28% in the respective capitals during the two years to 2014/15, affordability deteriorated markedly. The ratio of mortgage repayments to household income of 40.6% in Sydney and 34.9% in Melbourne at June 2015 reflects previously challenging levels, indicating limited scope for continuing solid price growth. In all other capital cities affordability ratios at June 2015 are consistent with previous levels. More moderate house price growth and the 50 basis point cut to the standard variable interest rate during the first half of 2015 have combined to maintain affordability in these cities. Interest rates are still low and in a tight market low interest rates should stimulate house price growth. This is evident in the capital cities where there is a housing stock deficiency. An improvement in the economy during 2016/17 is expected to result in the RBA becoming more concerned about wage cost inflationary pressures in the medium term. Interest rates are forecast to enter a mild tightening phase in late 2016 or early In Sydney and Melbourne, with projected price growth in 2015/16 and the cash rate being forecast to rise by only 25 basis points in 2016/17, affordability is expected to deteriorate sufficiently to initiate a mild price correction in In the other capital cities, less challenging affordability should mitigate some of the downward pressure on prices in oversupplied markets and in resource-sector exposed markets such as Perth and Darwin. Chart 12: Mortgage repayments on a median priced home* as a proportion of monthly disposable household income 50.0% 45.0% % 35.0% 40.6% % % 25.0% 20.0% 15.0% 10.0% % 21.4% 20.4% 18.8% % % Sydney Melbourne Brisbane Adelaide Perth Hobart Canberra Darwin 2015 year of worst affordability year of best affordability direction over forecast period Source: Australian Bureau of Statistics, Reserve Bank, Real Estate Institute of Australia, Forecasts: BIS Shrapnel * Mortgage repayment based on 75% of the median house price

23 October Demand Underlying demand for new dwellings is driven primarily by population growth which, at the state level, is a combination of an increase in births less deaths and net overseas and net interstate migration flows. The demand from net overseas and net interstate migration is more immediate because this group will require accommodation upon arrival, be it owner occupied or rental. 7.1 Overseas migration Long term arrivals which predominantly comprise people on student or skilled temporary subclass 457 visas surged to an annual record of 638,220 in the year to March Solid employment growth in mining sectorrelated industries resulted in a re emergence of skills shortages which underpinned the rise in long term overseas visitors. Although arrivals from overseas were at record levels in March 2013, departures from Australia have also been increasing, with the net effect that net overseas migration is below the record levels set in Since the second half of 2013, long term arrivals have contracted in response to the slowing conditions in the Australian economy. There has been a decline in work-related visas such as subclass 457 visas as the reduction in the resource sector investment leads to diminished employment opportunities. Long term departures are on the increase as temporary migrants return to their country of origin upon expiry of their visas. Net migration from New Zealand has also declined in this period because its economy has improved relative to Australia. With the decline in annual net inflow from long term arrivals, net overseas migration decreased to 184,100 at December This trend and increasing departures, due to the lack of opportunities for temporary migrants to extend their stay, is forecast to continue over the period to June Mitigating this decline is increased overseas student arrivals, a function of the lower Australian dollar. The Department of Education and Training reports that the number of overseas students commencing courses in Australia has increased by 27% in the two years to 2014/15. Net overseas migration is forecast to decrease to 150,000 nationally by 2017/18, which remains high in an historical context. Chart 13: Arrivals and departures (movements) and net overseas migration (persons), moving annual totals, Australia Persons ('000s) Persons ('000s) Forecast Year Ending June Net Overseas Migration (Left Hand Axis) Permanent and long term departures (Left Hand Axis) Permanent and long term arrivals (Right Hand Axis) Source: Australian Bureau of Statistics, BIS Shrapnel

24 24 Australian Housing Outlook All states have benefited from an increase in net overseas migration inflows nationally since 2006/07. Compared to the long term average of 178,700 per annum in the sixteen years from 1999/2000 to 2014/15, net overseas migration inflows have risen to an average 201,000 per annum during the nine year period to 2014/15. Western Australia and the Northern Territory were the main beneficiaries due to the skills shortage generated by resource sector investment. Compared with the long term average, both states experienced an increased share of national net overseas migration in the 2006/07 to 2014/15 period, at 16.1% and 0.9% respectively. The share of net overseas migration settling in Queensland fell by about the same amount as the increased share settling in Western Australia and the Northern Territory, with the figure for Queensland being 18% in the same period. Weak economic conditions outside of the resource sector after the Global Financial Crisis held back overseas inflows to Queensland. New South Wales and Victoria generally account for the greatest share of overseas migrants, with Victoria closing the gap between the states during the nine years to 2014/15. The weakness in the New South Wales economy in the past decade saw a decreased share of overseas migration, which was down to 30.8% in the period. In contrast, Victoria s proportion of total net overseas migration edged higher to 26.8%. South Australia, Tasmania and the Australian Capital Territory all experienced a slightly increased share. The transition in the economy from resource sector investment has seen strength maintained in non-resource states since 2013/14, with the business services sector picking up and boosting employment in New South Wales and Victoria. As a result, overseas migration is forecast to hold up better in these two states through to 2017/18. New South Wales and Victoria are forecast to account for an increased 40% and 31% share of the national net overseas migration inflow. Moreover, the share is projected to rise in South Australia to 6.5% and remain steady in Tasmania and the Australian Capital Territory. These states did not benefit from the rise in resource sector investment, and as a result the impacts will be less pronounced. The contraction in resource-related investment has created fewer job opportunities in the mining states. Consequently, the proportion total net overseas migration is expected to decrease to 13% in Queensland, 8% in Western Australia, and 0.5% in Northern Territory, with a commensurate decline in population growth. Chart 14: Annual net overseas migration by state Australia No. ('000s) Share % % f % Period No. ('000s) Share % % f % Period No. ('000s) Share % % f % Period No. ('000s) Share % % f % Period No. ('000s) Share % % f % Period No. ('000s) Share % % f % Period No. ('000s) Share % % f % Period No. ('000s) Share % % f % Period No. ('000s) Share % % f % Source: Australian Bureau of Statistics. Forecasts: BIS Shrapnel

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