Huge house price pain still to come

However, the ANZ says when house prices are deflated by wages, to get a measure of the real price change, that 22% decline becomes a 32% drop, and the level of wage-adjusted prices ends up about 10% below that prevailing just before the pandemic.

The bank is also forecasting the OCR to peak at 5.75% - its previous forecast peak was 5%. That means a higher mortgage rate outlook and more downward pressure on house prices than otherwise.

ANZ chief economist Sharon Zollner says as prices are already down about 12% means the bumpy landing is just over half way through the bank’s forecast. “We see the level of house prices finding a floor in the third quarter next year, not long after interest rates stop rising, with only modest growth thereafter.

“Our forecasts assume a relatively steadily (and orderly) pace of monthly price declines going forward, similar to that experienced over the past year,” she says.

She says in saying that by the bank’s estimates, there is a “buffer” before the aggregate household debt- servicing burden breaks previous highs – not least because income growth is so strong.

“That’s not to say higher rates aren’t hurting – they are hurting some households a lot,” says Zollner.  “It does suggest, based on our OCR call and a couple of assumptions around the likely pace of household income and credit growth from here, the burden isn’t heading to unprecedented levels. And it shouldn’t need to – the housing market is in full retreat, a very different scenario to 2007.

“But devoting an increasing share of growing income to debt servicing is one thing; facing an increasing servicing burden when income contracts sharply is a completely different kettle of fish,” she says. 

“Insofar as the most pessimistic house price scenario goes, this is it. High unemployment could be triggered by a policy mistake (i.e. overtightening by central banks, exposing financial market vulnerabilities and/or spooking households too much), geopolitical events, a natural disaster, pandemic, a loss of central bank credibility, or something else. These are what we call low- probability, high-impact risks. They don’t factor into our central outlook, but they are important to keep an eye on, because if they materialise they could flip the outlook on its head.”

Essentially, says Zollner, if enough people have to accept whatever price is going on the day, the country might actually find out what the market-clearing house price is. “We’re not seeing it now: the housing market is not clearing, as seen by low house sales and low auction clearance rates. It’s not great fun to find out what that number is in a hurry; the current stand-off between buyers and sellers and the steady hissing as the air comes out of the market in an orderly fashion is the best adjustment path we can hope to tread on our way back to sanity. While renting millennials might say they want house prices to fall 50% tomorrow, fact is, they would likely struggle to find a job if they did”.

The investor entry point is lower

There have been a number of housing-related policy changes made over the past few years, much of them targeted at swinging the market away from investors towards first-home buyers. And it appears to be having some impact, with the share of new lending to first-home buyers lifting mildly as the investor share reduces.

For investors, the landscape has changed dramatically. Examples of policy changes that will weigh on investor demand to some extent:

• the removal of interest deductibility on investment properties (something that matters a lot more as interest rates rise);
• increased tenant rights;
• the end of 90-day no-cause terminations;
• extension of the bright lines test;
• limits on the frequency of rent increases; and
• healthy home standards

Zollner says this might not have much bearing on current house price momentum given all these changes are being factored in already. “However, when it comes to gauging the potential floor in the housing market, it does all suggest the ‘entry point’  - where rental yields, expectations for capital gains, and investment risk perceptions are deemed worthwhile - will likely be lower than it has been in the past.

She says comparing pure rental yields (i.e. no capital gain or loss assumed) against other low-risk returns suggests there’s more correction to come in the market. “That’s unlikely to occur via rising rents alone, given household income limits, meaning house prices likely have further to fall before the market starts looking relatively ‘attractive’ to investors compared to the simplicity of just putting your money in the bank. And that’s before we start thinking about where the new, lower, entry point for investors might be.

The level of house prices will find their floor around Q3 2023. While upside interest rate risks remain a key downside risk for the housing outlook, household income and housing confidence risks are both intensifying, and would likely pack a bigger wallop if they were to materialise.