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The Great Reckoning (Part 2) Olly Newland's Column, 4 February 2009 The Myth of Housing Affordability There has been some noise in the news media of late: there are claims that housing has become more affordable due to influence of lower interest rates and lower median prices. Excuse me while I laugh. The fact is that housing is now even more un-affordable than before. The sort of nonsense that says otherwise is typical of the spin that vested interest groups such as the banks, spruikers, and bureaucrats promulgate -- not to mention journalists who regurgitate the so-called 'facts' without necessarily questioning the validity of the claims. Let's look at the figures for a start. Below is the comparison table of the world's least affordable housing (wages versus prices) in years and months required to pay off the average house if living expenses are ignored. 1. Australia -- 6.0 years 2. New Zealand -- 5.7 years 3. Ireland -- 5.4 years 4. Britain -- 5.2 years 5. Canada -- 3.5 years 6. USA -- 3.2 years (source: Demographia) From this table we can see that Kiwis and Australians are right up there at almost double the USA figures -- despite the USA average house price having fallen around 25% in the past year or so. Put the other way, wages would have to almost double in NZ to match the affordability of the USA housing market (which itself is in deep distress). The following report prepared by the Reserve Bank etc in March last year makes worth while reading. In a nutshell it confirms what we all know: Home affordability has decreased alarmingly in the past decade -- both for renters and prospective home owners. Source: Department of Prime Minister and Cabinet The Peak of Illusion There are a number of market commentators who peddle the 'more affordable' line, some of whom I enjoy listening to (even if it appears they are 100% wrong a lot of the time). To their credit, some do report sensible things about the finance or share markets... but sadly, not the property market. For instance, let's look more closely at some of the errors behind the 'affordability' claim: (1) Falling interest rates only benefit a limited number of borrowers at present. It will take another one to two years (at least) before any real benefit is felt by the community at large. By then it may be too late for many. In the meantime, the horrendous break fees banks charge are seriously hindering any glimmer of recovery for some stretched home owners and investors. (2) Banks have tightened up their lending so that now home buyers need 20%-30% deposit (around $80,000 for an average Auckland house) to stand any chance of getting mortgage. How do you fit this statistic into the table above? Add another five years to save up the deposit on the average wage of $800 per week -- double income or not? Note: This is not as silly as it sounds. When I was young man, one had to save up with a bank, building society, or insurance company for at least five years before even being considered for a mortgage. They were scarce, unlike the free-for-all of the last days of the easy-credit-fuelled boom. (3) How do you judge affordability if house prices are falling? To follow that argument to its illogical conclusion, if house prices fell 75%, then NZ would have perhaps the MOST affordable housing in the world? Let me tell you this: It wouldn't make the slightest difference to house price affordability if interest rates fell to 1% if house prices themselves continue to fall. Why are they not buying? In NZ house prices could fall again this year -- another 5%-10%, according to BNZ chief economist Tony Alexander (NZ Herald Jan 26th), (and 'up to' 30% according to some headline-seeking alarmists). These will be on top of the falls of 5%-10% we've seen in the past 12 months. It follows as sure as night follows day that very few people are going to buy if they think that their equity is going to be eaten up faster than they can earn. The time has gone when buyers believed the 'just borrow and hope' mantra. Ask yourself: Why would you buy today when the item could well be cheaper tomorrow? For example, imagine you just invested $80,000 (20%) into a $400,000 property. How would you feel if the property then dropped 10% in value in one year -- a loss of $40,000? Half of your hard earned savings/equity would have just evaporated. No a pretty sight. Don Brash - Why should the NZ market fall less than the US or UK? One commentator should be listened to even if he is proved (hopefully) wrong. At a Rotary Club meeting earlier this week (Monday 2nd Feb) The former Governor of the Reserve Bank Don Brash made what I regard as some valid points about the housing market: With house prices rising strongly between 2002 and 2007, those who owned their own homes felt richer and boosted their spending accordingly. (Why bother saving when you were getting richer by the day as house prices rose? Brash asked.) In his view the housing slump has a long way to go, despite claims by real estate agents and anyone who needs to sell residential property that the price downturn has almost run its course. They may be right, Brash said, but nobody has yet explained why New Zealand house prices should fall ANY LESS than those in the US and UK, where the drops have been steeper. Fair point, Dr Brash. Indeed, one has to think why buyers are hesitating and why sales have slowed to a trickle? 'Nothing's selling right now,' is the cry of the real estate agent, the stranded developer or subdivider and the glum property trader. Suddenly expectations are not being met. This all bodes ill for sellers. The new reality is that in today's market (early Feb 09) there are very few desperate buyers -- but a great number of desperate sellers. Capitulation ahead Many sellers have been hanging on by their fingertips up until now. With the whole of 2009 stretching out before them, I suspect we will see what market analysts call 'capitulation' in the selling market. If this happens, there will be an ugly period to live through. This is likely to occur sooner than later -- probably through all of this year and much of next year as well, I would say, based on current conditions. As unfortunate as this will be for many -- and I mean that -- it is best to get it over with so we can build up again to start afresh on a more solid footing. Olly Newland 4 February 2009 www.ollynewland.co.nz © 2009 Olly Newland. All rights reserved. Next week: Part (3) FEEDBACK: Do you agree or disagree with Olly? Send your comments, criticisms, counter-arguments or any feedback to him by clicking here. Read more of Olly's columns, including Part (1) here. Get the benefit of Olly's experience: Visit Olly's website www.ollynewland.co.nz for details of his Personal Mentoring Programme and consulting services. Order Olly's book: The Rascal's Guide to Real Estate (updated second edition) or browse our website for a wide range of investment-related resources including Olly's best-selling books: Climbing the Property Ladder, The Day the Bubble Bursts and Lost Property and audio programmes -- essential information for investors.

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