Households Get Crushed – The Property Imperative Weekly 07 Oct 2017

Mixed economic news this week, which makes the call on the next cash rate move more complex, but even at current levels, more households are getting crunched as wages tall, debt rises and property prices turn.

Welcome to the Property Imperative weekly to 7th October 2017, the latest digest of finance and property news. Watch the video, or read the transcript.

The big shock this week was the horrible retail spending data from the ABS.  Retail turnover in August declined for a second month in a row, down 0.6 per cent, the worst monthly performance in more than four years, which puts economic growth at risk. In seasonally adjusted terms, there were falls in all states and territories but Victoria (-0.8 per cent) and Queensland (-0.8 per cent) led the way.  The full impact of the August slump will be seen when the September quarter GDP figures are released. Last time, the share of economic growth flowing to wage earners fell to 51.3 per cent in trend terms, the lowest since 1964.

Commonwealth Bank economist Gareth Aird said mortgage interest payments are taking up a larger proportion of household income, and were acting as “a handbrake on consumer spending and the retail sector in general”. All too true – as followers of our blog will know, poor wage growth is the problem.

Even the PM highlighted the impact of slow or no wage growth. “While we’re seeing strong growth in employment, we’re yet to see stronger growth in wages so people feel as though they’re not getting ahead,” Mr Turnbull told Neil Mitchell on 3AW radio. But its more than a feeling, it’s an economic reality.

To underscore the pressure on households, we released our mortgage stress data to end September, which confirmed the uptrend by crossing the 900,000 household rubicon for the first time.  Across the nation, more than 905,000 households are now in mortgage stress (last month 860,000) and more than 18,000 of these are in severe stress. This equates to 28.9% of households. A rising number of more affluent households are being impacted as the contagion of mortgage stress continues to spread beyond the traditional mortgage belts. We estimate that more than 49,000 households risk default in the next 12 months, up 3,000 from last month. You can watch our video summary to see which post codes are most impacted.

New research commissioned by mortgage brokers iSelect through Galaxy Research which polled over 1,000 Australian households also found that 25% were experiencing difficulty covering their mortgage repayments and 33% have had their interest rates increased in the past year. Almost 40% of households making their payments have no surplus left over and if interest rates were to rise by 1%, more than 780,000 mortgage holders would struggle to make repayments. This includes 632,000 households which would have to cut back to cover repayments and 150,000 which would be forced into further debt.

Roy Morgan Research mortgage stress data also confirmed the rising pressure, with a rise, to 17.3%, despite a decline in loan rates.  Those they identified as ‘Extremely at Risk’ also increased from 12.4% to 12.8%. They define stress on a different basis to the DFA cash-flow method, but the trend is still clear.

We also found, in joint research with HashChing a massive discrepancy in home loan interest rates across NSW, with vast differences in rates even within the same suburbs. The data shows that in some cases, neighbours are paying up to $87,027 more for new owner occupied loans (105 basis point disparity), and $201,704 more for refinanced owner occupied loans (235 basis point disparity). The calculation is based on an average home loan of $500,000 over 25 years. Those borrowers paying higher rates are essentially adding an extra three years of mortgage repayments compared to those on a lower rate.

More bad news from banking analysts at UBS who said a third of borrowers with interest-only (IO) loans “do not know or understand that they have taken out an IO mortgage”. According to the results, 23.9 per cent (by value) of respondents stated that they were on an IO mortgage, well below APRA’s figure of 35.3 per cent. UBS said “While we initially suspected that this was a sample error… We believe a more plausible explanation is that around one-third of IO customers do not know or understand that they have taken out an IO mortgage. We are concerned that it is likely that approximately one-third of borrowers who have taken out an IO mortgage have little understanding of the product or that their repayments will jump by between 30-60 per cent at the end of the IO period”.

Whilst FBAA executive director Peter White said that the conclusion was “the biggest load of nonsense on the planet” and that there was no analytical data to support what they’re saying; DFA analysis shows that over the next few years a considerable number of interest only loans (IO) due for review, will fail current underwriting standards.  So households will be forced to switch to more expensive P&I loans, assuming they find a lender, or even sell. The same drama played out in the UK a couple of years ago when they brought in tighter restrictions on IO loans.  We conservatively estimate $7 billion will fall due this year, $9 billion in 2018 and rise to $20 billion in 2020. So the value of the loans is significant and if UBS is right, may be understated.

The IMF released their Global Financial Stability Report, and Australia got a mention for all the wrong reasons. With household debt now 100% of GDP, we are at the top end of the risk curve.  Whilst increased household debt gives an economy a boost in the short term, the IMF has found it creates greater risk 3-5 years later, lifting the potential for a financial crisis, as household struggle to repay.  Given the ultra-high debt levels in Australia, this is an important observation, and we are entering the danger zone now.

Data from the RBA showed that overall household debt rose again with the household debt ratio now at a new record of 193.7.  They left the cash rate unchanged for the 14th consecutive month. But the real problem is that with the current economic settings, mortgage debt is growing at more than three-time income and cpi. There can be no excuse for this, and the settings need to be changed, now.

Even the property news was mixed. ABS data showed overall Building approvals were up 0.4% in August but had fallen 1.2% (on revised figures) in July. This was driven by apartment approvals, which were up 4.8%, while approvals for houses fell 0.6%. Year-on-year the news is still bleak. Approvals are down 15.5% on that basis – the 12th consecutive month they have fallen. The HIA home sales for August lifted but whilst the increase in sales offset larger declines in sales in recent months, it was not sufficient to reverse the decline in sales that is evident since early 2016. The auction volumes were down last week, thanks to the Grand Finals and Long Weekend. But clearance rates in Melbourne remained firm.  And CoreLogic’s September home price series showed slippage in Sydney, down 0.1% in the month, although the national average was up just 0.2%, with Hobart and Melbourne leading the way.

The bottom line is this. We are certainly at a tipping point, and more evidence is amassing on the risks to households, to the housing sector and to the the broader economic outlook. Worryingly, we think there are strong echoes of the pre-GFC conditions which existed in the USA. High debt, extended home prices, suspect mortgage underwriting standards, and the risk of rates rising. There is now a very limited window for regulators to get their act together, and head off the potential crash at the pass. The problem is, intervention also risks creating the crisis they are trying to prevent, so regulators are in a bind, and politicians would prefer to kick the can down the road. The signs are there for those who what to see them, but many prefer to look away.

And that’s the Property Imperative Weekly to 7th October 2017. If you found this useful, do leave a comment below, subscribe to receive future updates and check back next week.

Author: Martin North

Martin North is the Principal of Digital Finance Analytics

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