The internet and newspapers are awash with stories of properties selling for amounts wildly above reserve. Such news can create FOMO and fuel buyer demand. But buyer overexuberance is rarely sustained for long periods of time. My feeling is that price growth will level out this year and I set out the reasons why below.
Properties can sell above reserve for many reasons
Last month, a property located in the Eastern suburbs of Sydney (209 Edgecliff Road, Woollahra) sold for $1.5 million more than the reserve. Of course, this is an extreme example, but stories of properties exceeding reserves suggest the market is running away. I’m not suggesting these results aren’t noteworthy. They are. However, we must remind ourselves that multiple factors can contribute towards a property selling for more than its reserve.
Firstly, of course, it could be that the demand is so strong for the property that multiple bidders push the price higher. Some of these bidders may be driven by emotion, particularly home buyers. They might fall in love with the property or their ego might kick in because they don’t want to “lose” at the action. Whatever the motivation, “paying more” contributes to high prices.
Secondly, the reserve might be too low. Not all vendors are motivated to maximise their sale price – there might be other factors. Also, they might have an unrealistic expectation of current value (too low). Or maybe the selling agent was keen to quote the lowest possible reserve to attract more potential buyers.
Finally, interest rates have a big impact on affordability, particularly for higher-value property, as buyers tend to borrow more. Fixed home loan interest rates of less than 2% p.a. make spending “a little more” on a property more affordable than it was 5+ years ago.
Remember, prices have been stagnant for 3 years
Median house prices in most capital cities haven’t really changed since early 2018. The reason being is it’s been a pretty tumultuous period for the property market.
Tightening in credit (borrowing capacity) occurred throughout 2017 and 2018, which reduced the volume of property buyers, particularly investors.
In 2018 and 2019, the ALP’s federal election policy of banning of negative gearing and hiking the rate of capital gain tax weighed on property market sentiment.
And then in 2020 we had Covid and resultant lockdowns.
All these factors have meant that property prices were largely stagnant for the past three years. The long-term average growth rate of property (as depicted in this chart) is around 7.5% p.a. Therefore, arguably, the intrinsic value of property should be approximately 24% higher than 2017/2018 levels (being 3 years of growth). After all, mean reversion is a strong trend that has been present for many decades.
A greater number of motivated buyers than sellers
It is possible that someone wanting to buy property over the past few years has been put off by a number of factors including credit tightening, the 2019 federal election and Covid. All of these events resulted in negative predictions for the property market.
However, not all buyers can delay their decision forever, particularly if they you need to buy for practical reasons such as changing locations or increasing the size of accommodation (for families). Therefore, as soon as property market sentiment improved (which only occurred over the past 4-6 months), many buyers that have been waiting on the sidelines rushed into the market. Of course, this pent-up demand will eventually normalise.
Post-covid ‘normal’ will encourage discretionary vendors
A ‘discretionary vendor’ is someone that would like to sell a property but is not motivated to do so in any particular time frame. Discretionary vendors would have delayed selling over the past 3 years for the same reasons previously mentioned. However, the recent positive sentiment would probably encourage discretionary vendors to consider whether 2021 is a good time to sell. That said, I think most people are cautious about the prospect of another unexpected factor cropping up that will adversely affect property market sentiment, including random snap lockdowns.
I also think that people are more focused on enjoying the resumption of post-lockdown activities such as travel and holidaying, particularly Victorians. But, as Australia’s vaccine rollout continues, albeit at a very slow pace, it will provide the property market with more certainty.
Spring has always been considered the best time to sell property, although volume variations between winter and spring are less pronounced than they were a few decades ago. I expect that by the time we get to Spring, snap lockdowns will be less likely and people would have become used to post-covid living. This will allow them to focus on making important (long-term) decisions, such as selling their home. As such, I would not be surprised if the supply of property increases in Spring. An increase in the volume of properties for sale will likely temper price increases.
We have seen this before
I recall that property prices jumped sharply between early 2016 and late 2016 to early 2017. They subsequently levelled off. But during this time it was easy (and for some buyers, tempting) to over-pay for property.
In a hotly contested market, buying a property for less than it’s worth is near on impossible. You must be prepared to pay a fair market value. At the same time you must avoid overpaying for property. Demand can spike and then normalise only a few months later. People that overpaid in early 2016 would have been in a loss position (on paper) by the end of 2017.
I don’t want to overemphasise the importance of paying the right price – because quality is always more important than price. But it is important to remind ourselves that property prices can move in two directions, not just one.
Here’s what I think will happen…
I admit that short term predictions are meaningless. In the short term, markets are inherently unpredictable. It is far more important to focus on making good long-term decisions.
That said, I’m happy to share what I think could happen to property prices this year.
- Blue-chip suburbs – I think these will continue to perform well but, for the reasons described above, I would not be surprised if price growth between now and the end of the year is less than 10% p.a. That is, price growth will level out.
- Outer-ring suburbs – locations that are dominated by lower income earners will probably under-perform compared to blue-chip locations. The reason is the lowest 40% of income earners have been impacted by Covid the most.
- Popular WFH locations – locations that attract ‘work from home’ (WFH) employees looking for a sea or tree change will probably continue to be dominated by low-supply. That is, there are very few properties available for sale in these locations which could drive prices higher. That said, I think demand from WFH buyers will level out at some stage.
Of course, expect the unexpected
It seems like over the past decade (or so) there have been a series of once-in-a-lifetime events. The GFC, Covid, political uncertainly, floods and fires and so on. Therefore, it is probably wise to expect the unexpected. And if one occurs this year, my prediction above will be wrong.