Blog: The Landlord says...

There is a lot of head scratching going on over the future of home loan rates this week. As I said last week the Reserve Bank is saying its base official cash rate is likely to stay around the 2.5% mark until 2010 and home loan rates should stay down.

However, the market is disagreeing with the central bank, and saying that rate increases will start early in 2010. A wrap of what the economists are saying, now they have had some time to digest the RBNZ announcement and review the market reaction, is here.

This split in opinion is quite critical for borrowers. Most experts, whether they are economists or mortgage brokers, are saying the best strategy at the moment is short-term rates. Go for six-month or one-year terms and look to roll them at maturity.

However, many comments to the previous Blog suggested going long makes the most sense at the moment. A couple things to consider are that long-term rates, particularly five-year rates, are sitting at their historical average and are very close to where they were a year ago.

Short-term rates are some of the lowest on record, and as this graph shows, are significantly lower than a year ago. Indeed the six-month rate is more than 400 basis points lower than this time last year.

One of the more exciting things in what was a rather dull Budget last week was funding for home insulation jobs.

This is an idea the previous government started and National initially trashed when it took over the Treasury benches. Seeing it pick the policy up again is, pardon the pun, but warming news.

It’s also something which the media has really got its teeth into too.  There are plenty of stories about the “ice blocks” people live in and how cold New Zealand houses are.

Over the week I’ve also heard lots of stories about the old, cold houses and flats people have lived in before, and there are plenty of these stories.

The other thing which has caught my attention is how many people have asked about rental properties and whether landlords are going to get their investments insulated.

To me it is a no-brainer. Provide a good property and you will get better quality tenants, keep them longer and even charge higher rents. But unfortunately it seems not many investors have, in the past, been prepared to do this.

I hope that this attitude changes and landlords wake up to the offer which the government is making.

Meanwhile, if you are a landlord and have insulated a property I’d love to hear from you to find out how you went about it, and what the end result was. You can send an email to thelandlord@landords.co.nz

What drives the property market?

There is plenty of commentary around at the moment about the state of the property market and where it is going. Much of it, in my view, is misguided.

Let’s sit back for a moment and think about what the key factors are.

Three of the biggest are: mortgage rates, immigration and affordability.

I would argue things like the United States economy, mortgagee sales and what farmers are doing has a marginal influence on the market. Indeed, using these factors as arguments for where the market is heading is misleading.

Mortgage rates are a critical factor in the affordability of property. Right now rates are at or near historical lows which help make the property equation stack up.

Buyers in this market are getting a real leg up with low rates and people with existing debt will see their servicing costs come down as they roll over loans. The Reserve Bank has made it clear it sees interest rates staying down for some time, which must be a plus for the market.

History shows us that immigration numbers and the housing market are closely related and tend to move in tandem. The basic logic, which is hard to argue with, is that when people move to New Zealand they need a roof over their heads. Thus, supply of property has to increase.

Right now there is an uptick in immigration numbers which should help stabilise at the least and even support house prices.

The other positive factor for the market now is one which doesn’t generally get a lot of air time and that is consents.

It’s like immigration. With a growing population base the country needs more houses. Right now, new consent numbers are low. Basic supply and demand economics says that in such a situation, house prices will rise.

The big unknown at the moment is rising unemployment.

And finally, a little reality check.

Double digit returns aren’t likely to be widespread in the property market for some time. So what? They shouldn’t be, and nor should there be an expectation that there should be. The risks of rental property investing aren’t high enough to justify double-digit numbers.

Secondly, people shouldn’t look at the residential property market as one big generic asset class. It is made up of lots of sectors and segments. You can break it down in a myriad of ways from coastal to apartments; from lower value rental property to high value prestige properties; from urban to provincial. Each of these markets is different and should be understood.

Many investors are jumping into the market, not for massive quick capital gains but for low risk, cash flow positive properties. This is quite understandable considering some of the other investment options available to them at the moment.

Making sense of what is happening to house prices has to be one of the most difficult things for home owners and investors to do.

Firstly there is a wealth of data, mainly from QV and the Real Estate Institute (REINZ), which you can use to interpret yourself. This is raw data on sales which you can use to draw your own views. We collect the REINZ data and provide some tools to track and compare what is happening here.

Over the top of that there are numerous commentators, some expert and some not.

A couple of pieces of news this week caught my attention and are helpful in understanding these two groups of information.

The first is a piece by Alistair Helm which compares and comments on the differences between QV and REINZ data. Each organisation collects and reports things differently and often they can seem to tell differing stories.

The second piece comes from BNZ chief economist Tony Alexander who summed up well in this week’s newsletter, his thoughts on some of the “commentators” who end up in the media and why they seem to have gone quiet. The key reason they have gone quiet is because the market isn’t tanking, but showing signs of recovery.

I have included some of Alexander’s views here as they are important:

“One doesn’t hear so much now from those who have been picking a 40% fall in NZ house prices. It has always been a mystery to us how one could generate such apocalyptic forecasts.

“For another individual the reason is probably that they have been predicting a property market collapse since at least 1988 when one first heard them speak.”

I agree with Alexander and suggest that people need to understand a bit about people who are making forecasts, what their experience is, but more importantly, what their motivation for commenting is too.

One can argue bank economists are always saying things to please their masters and help drum up business.

My experience is that bank economists give fair and frank assessments. They aren’t out there saying things just to help drum up business and they aren’t just glorified PR merchants.

Call me contrary. First it is great to see there is life coming back into the property market. Those of you who follow The Landlord will know that I have been suggesting for some time now that the market isn’t dead and it isn’t going to fall 30%.

There are just too many factors to suggest that there is a level of support which will keep the market and prices from crashing down.

To get a 30% fall in house prices would need an unheard of economic disaster. While it is tough out there, it’s not that bad, nor looking like being that bad.

However, I would suggest that people don’t get carried away with this little bit of positive news we have seen in the market.

Previously I have argued one of the biggest risks is unemployment. As more and more people find themselves out of work, there will be increasing downward pressure on the property market.

The other factor that I have increased my weighting on is banks and finance. It is no secret that banks and their tight, tight rules around lending are hindering the market big-time. That came through loud and clear in the Landlords.co.nz/Mike Pero survey of property investors this week.

What is also concerning is that banks just aren’t lending much. Good Returns has reviewed the latest lending numbers for the period to December 31. There are two surprising findings. Groups like ANZ National have cut their lending activities back significantly. Meanwhile, Kiwibank accounted for the large majority of new lending in the quarter.

It has done such a good job with acquiring new customers that it is now facing a service issue. It seems that it too has reached a capacity point and it will join the big banks on pulling back from new lending.

That means there aren’t a lot of places left for people to find money to buy property. This factor is likely to have a bigger impact on the market than previously thought.

A report in the NZ Herald earlier this week quoted Westpac economist Doug Steel suggesting house prices had reached fair value. The piece is memorable as many of the economists out there, and some wannabe economists, have been incredibly bearish on the housing market and expect prices to continue their downward slide.

Here are four reasons why I don’t buy into the pessimistic view.

1. Mortgage rates are low and the shorter-term ones are destined to go lower. The Reserve Bank will cut its OCR again (by how much is another question). It will cut as the economy is in a recession and there are no signs of it emerging and the dollar is heading in the wrong direction, undoing previous cuts. Added to that, banks haven’t passed on all of the recent OCR cuts.
2. House Sales are stabilising. While it is always risky reading into data and trying to pick early trends, it seems that on a seasonally-adjusted basis sales have stabilised. There is clearly a lot more activity in the market and that is likely to help stabilise prices, not push them lower.
3. Supply and demand. House construction statistics show there is nowhere near enough construction going on to increase the housing stock, especially when population growth through immigration is thrown in. This can only be a plus for property investors.
4. Falling cost of living. There is a view that people are stretched to meet their home loan repayments. Sure some are, but others and particularly those who have job security, should be okay. Interest rates are coming down, so to is the cost of other living expenses including petrol (compared to last year). On the other side of the balance sheet there are tax cuts. I suspect for the majority of people the squeeze, while there, isn’t as bad as some suggest.

While these are four factors which tend to support the market, there are also plenty of risks out there too. It is important to put these factors into perspective, which on balance seem to me to indicate that we are somewhere near the bottom, but there won’t be a massive uptick either. Rather we are talking about a slow, gradual climb out of the market trough.

A little while ago I commented on the coverage of mortgagee sales in New Zealand. This week there was a useful bit of information put out which was, arguably, the more definitive research with real numbers.

The stories written in the past had been reasonably sensationalist and not particularly scientific. The new survey, from Terralink, is based on registered mortgagee sales.

What is interesting is that the percentage and actual numbers of properties sold by this method is pretty small; 191 properties nationwide in January. But growing.

We shouldn’t be surprised that the number is growing.

The points which are useful to note are that many of the sales are being done by second tier finance crowds, not the mainstream banks. I’m not sure many people knew finance companies were involved in this market.

Secondly there are always winners and losers in these types of transactions. The winners will be the buyers as it seems often the vendor will let the properties go at whatever price they can get.

For investors mortgagee sales are useful to look at, but as we reported in NZ Property Investor Magazine, there can be fish hooks in these sorts of transactions and buyers need to be aware of what is happening.

The other trend we may see is a spike in mortgagee sales while finance companies cash up their loans, and then the mortgagee market will be more focussed around what banks are doing. The message I am hearing across the market is that banks are finding more and more of their lenders are running into trouble or difficulties with repayments, but to their credit (no pun intended) some are setting up divisions within the bank to identify potential problem clients and help them before it is too late.

When it gets to the too-late stage there is little option but to go to a mortgagee sale.

Often my Blogs have taken a more positive view of the housing market than other commentators. This week I’ll share with you a more personal view.

We put our house on the market recently and it is pleasing to say that it sold reasonably quickly at a price which wasn’t anything like the discounted numbers often talked about.

This is interesting as the local market had had one of its worst months ever.

For the first couple of weeks of the campaign a tender was run. While there were a good number of people through the open homes, the results of the tender were poor.

The strategy employed being that we may find someone who falls in love with the house and we “fluke” a great price.

Holding out for a fluke price is a little like gambling, or buying a lotto ticket and hoping to hit the jackpot. Secondly, I suspect it was also done as it is difficult to put a number on the house in this market. Really what I am saying is people are too scared to put a price on.

My advice to anyone is don’t bother with tenders. Buyers don’t like them – and that seemed to be the recurring theme coming through from people who looked at the property.

What was fascinating is that the first open home post the tender period was the best by far. People had a price and had something to work to.

Subsequently there was good interest shown from buyers.

I won’t go through the selling process except to say that the final price was pretty close to what we expected to get (within 1.5% of the lowest).  How to price the property was not easy, and the figure we worked to was somewhere between the RV and what QV Insider suggested.

A view I have expressed before is that there is plenty of action in the investment property sector of the market.

Our house though fitted into the category of a good family home in the higher price band. My take is that people who feel secure in their job and have some equity are looking around to trade up in this market. Essentially for the same reasons investors are active. Prices are ok and finance is cheap.

Also getting finance doesn’t seem that hard for these people, even though bank lending criteria has tightened.

So my one example helps give me faith that the housing market isn’t as sad as others make out.

I had to laugh at this headline in New Zealand’s only national newspaper the other day. The story was about the frightening increase in the number of mortgagee sales.

According to the report there was a huge increase in the number of properties going to mortgagee sale and this was a sign that banks were worrying about the market.

The reality is measure was totally unscientific – searching two big property websites for the word mortgagee. Secondly in terms of the actual number of mortgagee sales, compared to number of houses on the market, the figure was quite small.

For a good response to the story it’s worth reading Alistair Helm’s response at Unconditional.

The story is even more stunning as it was bylined to one of the most experienced and awarded business journalists in the country. I do have to wonder whether the editors and sub-editors got hold of the copy, realised they didn’t have a lead for the paper and did a beat up on this.

What concerns me is that some of the mainstream media are having a field day going out and writing headline grabbing stories bagging the property market.

Readers will know I am more positive about the market, or pockets of the market, and try to put a balanced view out there.

The Reserve Bank’s 150 basis point cut to the official cash rate is indeed good news for the property market. Home loan rates are tumbling and all lenders, according to this table, pretty much have rates starting with a five. (Those who don’t are sure to have them soon).

While lenders have been criticised for not passing on the full 150 basis point cut straight away I suspect as competition mounts they will be forced to push rates even lower.

It is clear that the margins banks are making on their home loan business are the fattest they have been for some time, but you have to remember their volumes of business are way down on previous years.

The cuts we are seeing in the cost of money are going to make many people rethink their investment options. While bank term deposits and the like have been the vehicle of preference, it seems they will lose some of their sheen now. These rates are likely to tumble, just like home loans, and don’t be surprised to see rates with a three in front of them. These won’t give investors real after tax return.

If they want that they will have to look elsewhere. Two options which will be on the agenda are property and shares.

Shares may be hard for many to accept due to their volatility and also because there has been so much bad press around the market.

Property though, particularly residential, will start to look attractive again with cheap money and house prices down. Don’t be surprised to see the Kiwi love affair with bricks and mortar rekindled. The same affair Reserve Bank governor Alan Bollard tried to bust up last year by increasing and keeping the OCR high.