Housing Still Overvalued

Recent signs in real estate have led to renewed optimism that the Australian housing market has turned the corner, and the glory days may be coming back. AMP Capital points out some harsh realities.

We have witnessed a steady recovery in housing finance, a tightening of the rental property market, signs of stronger sales and/or auction clearance rates and a late 2005 bounce in house prices in all but Perth and Darwin. These are positive signals, but AMP Capital believes the market is still overvalued.

The long term trend since the 1920s has been a 3% per annum rise in prices after inflation. Prices are still well above that trend and AMP Capital notes they would have to fall back by 18% to revert to the trend line.

(At this point we might consider that if we can accept a secular jump in commodities prices, could we not accept a secular jump in housing prices? Not only are Australians supposedly more wealthy, but the rest of the world has discovered cities such as Sydney as a good place to live, particularly since the Games. Nevertheless, the statistics keep coming.)

Furthermore (and adjusted for inflation), house prices need to fall by about 29% to bring the ratio of house prices to rents back to its long-term average, reports AMP Capital, and house prices need to fall by about 18% for the ratio of house prices to wages to return to more normal levels.

It is not surprising, on these figures, that the OECD has found Australia to have the most overvalued housing in the group.

AMP sees the way forward as one of range trading. While there may be a small bounce in the short term, AMP believes Australia has to “work off” the excesses of the recent housing bubble. This could last several years.

In the mean time, low yields on rentals continue to make property unattractive for investors, AMP Capital suggests.

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