Westpac's opinion 2002-2005

From: Michael Croft

Property market seen slowing in 2002
Feb 19 13:00
Jim Parker Aust Financial Review

Australia's residential property market is set to slow this year from record highs as first home buyers drop out of the market and as investors become more selective, according to Westpac Bank's latest property outlook.

The office market is likely to remain pressured by corporate downsizing, the travel downturn will continue to squeeze the hotel market, although the outlook for retail and industrial property is slightly more promising, Westpac says.

In the fourth publication of its report 'Outlook for the Australian Property Markets, 2002-2005', Westpac concludes that investors will find it difficult to find tenants for all types of property in the coming year.

However, it says low speculative supply under construction should support the commercial market through the coming period of weak demand.

"Although new projects are under construction in most sectors, they're generally pre-commitment led and not due for completion until 2003," said Westpac's head of property markets, Mr Frank Allen.

"However, the housing market, which last year hit record highs, is anticipated to slow as first home buyers and investors become less active," Mr Allen said.

The large number of first-home buyers who became owner-occupiers last year by taking up the Federal Government's expanded subsidy would also reduce the number of tenants available to rent investment properties.

"With supply levels in some markets increasing in 2002 and investors accounting for up to 50 per cent of the new apartment market, vacancy rates are likely to rise and rent fall," Mr Allen warned.

However, the larger existing home market was unlikely to fall as much as the first-home buyer and investment markets, while continuing low interest rates should continue to buoy values this year.

"Overall, we expect that existing house prices will stabilise over the year, with pressure to fall not coming until interest rates rise in 2003," he said.
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Reply: 1
From: Steve Navra

Yes Michael,

I agree (as much as I dislike ever agreeing with a bank!)- and the emphasis will become increasingly dependant on valuing as per 'Rental Reality'.

High market sentiment is great for sellers, the smart investors will wait until the market sentiment drops to below the rental reality.


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Reply: 1.1
From: J Parker


I'd be interested to hear your definition of rental reality.
It does indeed seem that the first home owners grant and low interest rates have been partially responsible for pushing prices up. I guess we will have to wait for more choice when interest rates rise and some are forced to sell.
There are still bargains to be found, of course, in this market. It just means you have to look harder and be restricted by what's on offer.

Just my thoughts anyway.
Cheers, Jacque :)
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Reply: 1.1.1
From: Steve Navra

Hi Jacque,

"Rental Reality" :- The objective value of a property based on the realistic income yield it can achieve, in a given market.

Most commercial properties are valued this way - $$'s per square meter.

Residential real estate is no different in principle. The important factor here is that there is a certain reality in every market - this is that a tenant will pay a certain amount to rent a property.

All things being equal, say a property is worth $300,000 and renting for $300 per week.
Then the rental yield will be: $300 X 52 / $300,000 = 5.2%

Scenario 1: Interest rates drop substantially, and property prices rise accordingly (like now) The market sentiment might well push the price of the example above up to say $380,000. Problem is that the tenants don't much care about market sentiment - and are still only prepared to pay $300 per week. You might then say that the yield has dropped to: $300 X 52 / $380,000 = 4.1% (Hmmmmm, aren't we seeing this happen right now, across the country.)
The rents are NOT dropping drastically (slightly yes in sympathy of oversupply) - but the yields are way down, because the market has been pushed unrealistically high.

The reverse applies too:
Scenario 2: Interest rates increase dramatically. (1988/9) Affordability and serviceability is severely tested, and sales are very hard to come by. Prices are subdued and do in fact decrease. (Refer all previous median house price data) Thing is, the tenant is semi-oblivious to all of this, still happy to pay his $300 per week. The example property might only fetch $275,000 in such a climate. The rental yield in this Low sentiment market would thus be: $300 X 52 / $275,000 = 5.67%

What this all means is that rental variance (the true measure of market affordability) is the more objective measurement of where the market is at.

NOW, the crux of the matter: We can use the corollary of this principle to value property.

It is relatively easy to research what a property can achieve as a rental income. (At a particular point in time - say today)
Also, one can research what the median rental for a particular area / post code is.
These don't fluctuate as much as the market does - hence the higher the market gets (High market sentiment / heated market) the greater the difference will be. NOT a good time to buy.

Conversely, the more subdued the market gets (Low market sentiment) a similar difference is reflected in reverse - good time to buy.

The formula again:

Actual achievable rental per annum / rental yield % in the area. (This usually measured over a couple of years, as supplied by ABS and R.E.I.A) = True Objective Value.

Finally: If a property can / does achieve $285 per week and the yield in the are is 5.0% then:

$285 X 52 / 5.0% = $296,400 (Rental reality value.)


Uh, does this answer the question?
(If not, e-mail me!)


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From: Steve P

Hi Steve,

Interesting analysis you give here. One question I have though is how is it possible to assess the "real and true" yield and weekly rental for a particular IP. In case your estimate of these two factors are incorrect, chance is high that you pay too much ....

Now Median prices per suburb in Sydney are available, but what about yields and weekly average rentals per area (or per street preferably). How do you assess those ?

Steve P
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From: Bob Quiggin

Steve (P)

I agree with Steve (N)'s analysis, but with an extra rider. I tend not to look for the rental reality, but MY rental reality - preferably 10% or above (don't always get it, but then I'll look for a twist!).

Ask yourself what can you afford (for neg gearing) or what are you willing to afford (you might say pos gearing only). That's YOUR rental reality.

Best wishes,

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From: .watto .

On 2/20/02 9:05:00 PM, Steve Navra wrote:
>Hi Jacque,
>"Rental Reality" :- The
>objective value of a property
>based on the realistic income
>yield it can achieve, in a
>given market.
>Finally: If a property can /
>does achieve $285 per week and
>the yield in the are is 5.0%
>$285 X 52 / 5.0% = $296,400
>(Rental reality value.)

Hi Steve,

With the above calculation the figure $296,400 = Rental Reality Value, Never pay more than this.....

Does this mean actual price or do you also include assoc. costs and never pay more than this price????

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