No turnaround in sight: Morgan Stanley’s Australian housing model hits rock bottom

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  • Some Australian housing indicators have looked “less bad” of late, creating renewed debate as to whether the market downturn may be starting to bottom.
  • Morgan Stanley’s forward-looking Australian housing model fell to a record low in the March quarter, pointing to further falls and housing construction.
  • The reading indicates market conditions are unlikely to turnaround this year, at least.
  • The bank says Labor’s proposed negative gearing and capital gains tax changes “provide downside to the 2020 outlook for both prices and turnover”.

Something unusual has been happening in Australia’s housing market recently, at least compared to the trends over the past year: some indicators have started to improve, or at least look less bad, depending on your point of view.

Auction clearance rates have risen to the highest level since September last year, the pace of price declines have been slowing, housing finance perked up in February, including to both owner-occupiers and investors, while building approvals jumped due to an influx of new apartment work.

Sentiment towards whether now is a good time to buy a home has risen to four-year highs, according to the latest Westpac-MI consumer sentiment survey for April, coinciding with a less pessimistic views on the outlook for prices.

Combined, it’s been enough to reignite the debate as to whether the housing market may be turning.

While many recent indicators have lifted a little, Morgan Stanley’s Australian housing model has not.

Based on latest data that feeds into its projections, the model has a simple message to deliver: there’s no turnaround in sight.

The model fell to a record-low of -1.1 in the March quarter, driven by continued weakness in each of the eight indicators it monitors.

“With a lead of three quarters, this suggests that housing weakness is likely to persist through to the end of the year at least, with further downside to both approvals and prices,” said Chris Nicol, Chris Read and Antony Conte, members of Morgan Stanley’s equity strategy team, in a report released this week.

Morgan Stanley said the key drivers that determine the model’s projections remained very soft in the March quarter.

“Credit supply is holding at very tight levels, with little relief expected post the completion of the Royal Commission,” the report said.

“With the pipeline of housing construction still elevated, the supply-demand surplus drove weakness in the quarter and we expect this won’t close until the end of 2020, even with sharp declines in approvals.

“Despite the slowing in credit growth, mortgage serviceability continues to worsen, reflecting the high leverage, increased lending rates and low income growth faced by households.”

Here’s the model, known as MSHAUS, overlaid against the actual change in Australian building approvals since Australia’s last recession in the early 1990s.

And here’s its track record against annual changes in real, inflation adjusted home prices over the same period.

While not a perfect relationship, particularly to prices, Morgan Stanley points to a continuation of recent trends this year: declining building approvals and home prices.

“With real house prices down 11.6% from their peak, MSHAUS is yet to point to a trough in prices,” the report said.

“This suggests that the peak to trough real price decline is tracking towards the top of our 15-20% range, with risks to the downside.”

Even with the prospect of the RBA cutting rates, Morgan Stanley that’s unlikely to spice up the property punch bowl as has been the case in previous price cycles.

“While eventual RBA cuts will provide some support, we don’t expect they will have the same credit boost as previous cycles,” the report said.

“Similarly, continued declines in building approvals will eventually lead to undersupply, but if that drives further economic weakness then larger price declines are likely.”

The bank also weighed into the debate about the Australian Labor Party’s proposed changes to negative gearing and capital gains tax, scheduled to begin on January 1 next year should it win the May 18 federal election, noting they will “provide downside to the 2020 outlook for both prices and turnover”.

Despite signs tentative evidence property market conditions may be starting to turn, the National Australia Bank’s economics team, like Morgan Stanley’s model, have also become more gloomier about the outlook for home prices in the year ahead, forecasting larger declines in Australia’s largest and most expensive markets, Sydney and Melbourne.

“Following larger than expected falls over 2018 and early-2019, NAB is now predicting peak to trough falls of 20% in Sydney and 15% in Melbourne,” the NAB said in a report released on Thursday.

“We expect conditions in Perth to remain weak and the other capitals to hold up better.”

Nationally, the NAB forecasts capital city house prices will fall 6.1% this year, adding to the 6.7% drop seen in 2018. Unit prices are also tipped to decline by 5.6%, faster than the 4.3% falls seen last year.

Smaller declines of 1% and 1.8% respectively are expected for both dwelling categories in 2020.

Rather than a more sinister downturn, the NAB said the adjustment is likely to remain orderly as long as labour market conditions remain firm and interest rates low.

“While the slowing in construction and potential ‘wealth effects’ may weigh on economic activity, these adjustments are occurring at a time of low unemployment and low interest rates, while population growth remains relatively strong,” it said.

“[These] factors should work to support the property market.”

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