Are Auckland property prices in for a shock?

Auckland city waterfront

The thing about frothy property markets is that speculators are quick to exit when they get nervous. I've had two well known investors in my office this week, who I'd consider "speculative" and who are nervous about what they are seeing. They wanted a reality check.

From what I see, the market is softening quickly. Listings are up, auction clearance rates are down, the "bullish" stories are not as fervent.

If you are buying it needs to be below market value and based on fundamentals. I feel the pain for clients who try to diligently buy well, and property after property they miss out.  It's easy to encourage clients to buy well, but it's hard to buy well in practice! Personally, Mike and myself (JV partners) have sold three properties this month. Two were supposed to be holds. We have also sold down all of our trades, and we haven't bought new ones. We have repaid $2.3m of mortgages in the past 6 weeks. It hurts because that's a mighty tax bill, but we're getting used to paying tax. We sold up partly because we have a large development in the pipeline, but also because we have struggled to find anything in the market that we would consider good value, and a sense that the market is getting riskier. I've said since September that the RBNZ rules will bite much harder than most commentators have suggested. Bank economists pooh poohed the RBNZ approach and said it wouldn't work.  Many are still sceptical and think this is a temporary aberration. I'm still backing the RBNZ to win and I am a fan of using policy rather than interest rates to settle the market down. Perhaps not quite as hard and fast as they've done.

What's Up in Auckland

First Home Buyers are clearly out of the market. Almost nobody can buy with less than a 20% deposit. We can sometimes help first home buyers by using Guarantees, but other than that there are very few options. We still have pre-approvals out there for some existing clients above 80% but these are running out fast. We've had good settlements in October and November due to our pipeline. But, when it comes to First Home Buyers our pipeline has been dropping rapidly. In terms of new approvals we are down about 50%. This will bite. The other area that has been severely impacted (and not reported on so much) is younger property investors.  When getting started in property the idea is to buy, get capital growth and then recycle your deposit into the next property. There really is no other way to start. Up until the RBNZ changes, it was possible to buy up to 3 properties at 90%. We had clients with multiple properties at 80% still able to buy the next one at 85% or even 90%. Now, even if you own one property with a 75% mortgage, you no longer have enough equity to buy another property in Auckland. Using leverage to grow your portfolio is basically dead. With all of this change, property spruikers must be in a tailspin. This is their market. Kiwis worshipping false idols and pursuing naive dreams of property fortunes. (I get extremely frustrated seeing people buy property without properly understanding what they've bought, especially if they have paid good money for a coach.)

South Auckland

My view is that investors have been paying too much for property in South Auckland. Gross yields under 8.00% have become commonplace. There is a complete lack of transparency in how property is sold in South Auckland. It is never clear who is paying who and who is profiting from what. Agents and Traders got away with it in a hot market with desperate buyers and complicit media headlines. A lot of investors make their first foray into South Auckland because it is all they can afford, it appears more cash flow neutral, and it is easier to buy. Now, there are fewer first home buyers in South Auckland, but an even bigger factor is that green investors are dead-in-the-water. No demand equals price falls. I personally think the risks for investors with a heavy exposure to South Auckland have increased these past few months. South Auckland will be the first market in Auckland to report lower prices. I think prices could fall 10% in South Auckland over the next 12 months and retrace some of the gains made over the past 2 years.

The Chinese Effect

There is still a lot of hot money coming in from offshore. However, Chinese like to buy in a confident market, they like competition, and they like to buy at auction. They often buy without much due diligence based on location and land-size. They take a lot of advice from the real estate agent (often acting as a buyer's agent) who points to increasing prices everywhere to justify price. "Confidence" buying relies on positive media headlines, record prices, busy auctions. When you've got lots of positivity combined with unconstrained buying power and a limited supply of property for sale, then you've got the perfect storm for price increases. Confidence has waned. At the moment, Chinese investors are sitting back more than they have in the past year. They are slightly spooked by the market. If the market surges again, they'll be back in big time.  However, I suspect Chinese will be more subdued over the next year, buy more off plan, or develop existing properties where they can.

Auckland City

My view is that Auckland City will be business as usual, but without the same level of capital appreciation that we've seen over the past 2 years. Prices will stabilise. Homeowners will look to upgrade and take advantage of the capital growth in their existing property, and take advantage of higher incomes and low interest rates. We are also going to finally see more downgrading from homeowners taking advantage of property values and choosing lifestyle over debt. Most of this will come from baby boomers. Some property renovators will get caught out, having paid too much for "Do Ups" in Grey Lynn, Westmere and Sangringham. As a property developer I have hardly made any money by developing per se. Most of the profit has come from being in the market when it goes up. That wasn't wisdom, it was lucky timing. Right now, it doesn't feel like the right time to be buying a development project, especially at current prices. There is no margin for error. With less buyers and tighter wallets you could get punished if you don't get the finished product just right. This is rapidly becoming a market where experience and patience counts. Looking at the market more generally I think we'll see a lot more new development being sold off plan. With prices in the city more stable and tight lending criteria, investors will increasingly look at the new development market egged on by Agents.

West Auckland

My thinking is that West Auckland will have some of the best buying over the coming 12 months. It will be reasonably hard hit by the LVR restrictions, but it has strong gentrification in areas like New Lynn and Avondale. Overall, prices will hold steady, but under the surface there will be poorly presented or marketed properties that will go cheap. Further out West in places like Massey and Ranui the market will be more like South Auckland. I'd be very careful buying in any market that is dominated by renters.

Shortage of Houses

Something that doesn't seem to get discussed in the media is how gentrification makes a "housing shortage" a problem for low income households. I don't think there is a housing shortage in Auckland, which is why rents are going nowhere. There is a lack of sellers relative to the number of buyers, but that doesn't mean we have a shortage. Everyone wants to be an investor, but not everyone can be. The reason I don't think we have a shortage is that the middle-class encroaches on old low-socio suburbs like Waterview, Avondale, One Tree Hill, Oranga, Penrose, Mt Wellington, Glen Innes, and Mangere Bridge. Prices in these areas go up, as they should and young professionals spill into these suburbs in increasing numbers. The real shortage of housing end up in areas like Otara and Mangere where 2 or 3 families live together in garages, sleep outs, caravans, and sharing bedrooms. It doesn't matter how many houses we build in Hobsonville or Flatbush or Silverdale. These aren't where the problem is.

Negative Headlines

There are bound to be more negative headlines in the press over the coming months. The media and commentators tend to be about 2 months behind the market. We are starting to get the odd comment about auction clearance rates dropping below 50% which is the first tangible signal of a softening market. I suspect we will get our first average price fall reported in January, not that the reported averages mean much. With an Election next year, the RBNZ is going to come under huge pressure around March/April. A soft property market and first home buyers cut out of the market is too political for an Election year. Look for bank economists to get stuck in. With the policy working so well, perhaps too well, and an Election I think you could see some exemptions to the new LVR policy creep in for first home buyers around March, but with no let up for property investors. That's just my view. The RBNZ has always signalled that it is only a temporary measure until the market calms down and prices stabilise.

Buying in this market

The latest press coverage would suggest we are heading fairly quickly back into a Buyer's market. It may soon be a good time to buy, but it is also a good time to consolidate and cut loose any deadwood properties. I think there will be some good value properties on the market in the New Year. There is clearly going to be a window of about 6 months where some properties will fall through the cracks. If you can get into this market, and are patient and look hard enough, then its worth having a closer look. I'd stay away from traditional rental suburbs. By all means keep an eye out for a steal. They are there, but there will be lots more in 3 months time. Don't buy the best house in the worst area. Rental houses depreciate, the long-term value is in the land. Don't get fooled into paying too much for something that is shiny and new. New is absolutely fine. Just don't make that your key buying criteria over investment fundamentals. You cannot look past the adage, "buy the worst house in the best street." Focus on areas that have strong population/demand drivers even in a weaker market (anything between 7km and 10km from the CBD is instantly appealing to me.) Maybe some good multi-incomes properties will come back into the market at realistic prices. They're hard to find but worth keeping an eye-out for.