Investors should keep an eye on Property’s three Ps: Population, Policy and Preferences

For investors, we see three key factors that will underpin the housing market in the coming years: population, policy, and changes in preference. The housing market has recovered from the lows recorded in sales last year. House prices nationally are up 4% yoy. Although gains are largely being made in the regions, as they play catch-up to the main centres. Auckland’s market remains muted. Investors are uncertain, and cautious as the Government gears up to implement policies targeted at speculators. The Government has already tightened the bright-line capital gains test and plans to remove the negative gearing tax loophole and ban foreign purchases of existing stock. The policies, and the uncertainty associated with them, may hamper house price gains over the next few years. But we don’t expect a major correction. There is a housing shortage and mortgage rates remain low. And unemployment is expected to fall, not rise. Housing corrections are often driven by households suddenly unemployed or lumped with rampantly rising interest rates. Neither is expected over the next few years. House prices are expected to eventually pick-up. But we don’t expect a return to growth rates seen in recent years. We expect investor restraints, rising interest rates from late next year, and a steady stream of new supply to restrict gains.

 

Population growth may cool, but will not contract.

Housing demand has been driven by NZ’s rapid population growth. Population has outgrown housing supply for 10 years. We are undersupplied, and our population will continue to increase for generations to come. In the last five years New Zealand added 420,000 people (mostly migration). Prior to 2013, it took twice as long to expand by the same number. Migration flows are multifaceted, fewer Kiwis have left, more Kiwis have returned, and we attract foreigners. Surging population has compounded a housing shortage, particularly acute in Auckland. RBNZ estimates suggest Auckland alone has accumulated a housing shortage of between 40,000-55,000 homes over 20-years.

Population growth has started to slow, but it will take a while before the current rate of construction can match demand (see chart above). And there is still the past housing shortages to address. At current rates of construction, it could take several years to alleviate the shortage of homes. Supply has responded, but it remains to be seen whether a constrained construction industry can maintain this pipeline of activity.

 

Policy likely to impact growth, but not direction of market

Compared to other asset classes in NZ, there is a significant tax advantage, and even benefit, from being in property. Some of this advantage is set to shrink. A number of policy changes, primarily aimed at investors, are in discussion, and include:

  • The tightening of the bright-line capital gains test from 2 to 5 years (already in place);
  • The removal of the negative gearing tax loophole; and
  • Banning foreign purchases of exiting housing stock (Overseas Investment Amendment Bill still working its way through Parliament).

We believe a combination of the above will impact growth, but not the direction of our property market(s). Remember, you only pay these taxes when you have made money. The changes may influence the amount of leverage and exposure investors take, but we doubt they will cause an exodus. Only time will tell.

Another element of policy to keep an eye on is that directed by the RBNZ. At present the RBNZ is simply in no hurry to raise interest rates until at least the second half of next year. For investors, when the RBNZ is ready to hike rates, the speed will be gradual and the amount will be small compared to previous RBNZ rate hiking cycles. We don’t see the RBNZ looking to loosen its loan-to-value ratio (LVR) restrictions as it would work against future monetary policy as the Bank tames rising inflation.

 

Preferences are changing, but only slowly.

Preferences also look to be changing. There has been a flood of interest from northerners (Aucklanders) on a southern pilgrimage. An intergenerational transition is taking place. The baby boomers are retiring. And when you retire, you might look to unlock some of your land-locked wealth. We’re seeing Auckland boomers, as a prime example, leaving in droves for the cheaper regions. The wind has died down in City of Sails. Following a period of phenomenal activity. In contrast, house price gains are notably higher in most other regions including parts of Gisborne, Rotorua, the Hawke’s Bay, and Manawatū-Whanganui.

Interestingly, these standout regions have some of the highest rental yields. Good old fashioned economic opportunity is at work. Property investors hunt yield, and places like the Hawke’s Bay offer a higher return. Whanganui is off the charts, offering 9% rental yield. Also, the RBNZ’s LVR restrictions on investor lending may have forced investors to look at cheaper property, given the larger deposit required. $100,000 deposit goes a lot further south of the Auckland border.

In another change, we also prefer higher-density dwellings. It’s “cooler” to live in apartments surrounded by funky cafes and shops. And we have attracted a large number of Asian migrants over recent years. Indian and Chinese migrants come for far higher density countries. A 70-100sqm apartment is huge in comparison to Mumbai or Shanghai for example.

 

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Kiwibank Economics

 

Jarrod Kerr, Chief Economist (+64 27 298 5195)

Jeremy Couchman, Senior Economist (+64 4 816 1550)