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Auckland Property Market Research April 2018

ISSUE 144

Rule Changes to Pull Back Net Migration

Annual net migration peaked at 72,402 people in July last year. Since then, the net inflow has eased to just under 69,000pa, with residence visa approvals declining and growth in work visa arrivals running out of steam.

The shift in trends reflects rule changes that were implemented by the previous National government between October 2016 and August 2017. Annual net migration is likely to ease further during 2018 to about 65,000 people by the end of the year.

Labour aims to bring net migration down by another 20,000-30,000 people per year by restricting student visas for selected course types, raising the criteria for post-study work visas, and regionalising the occupation list for work visas. These rule changes will start to have an effect from early 2019, with next year’s intake of international students in January and February likely to be significantly lower than in previous years.

The new government’s policies are forecast to bring annual net migration down to 35,600 by June 2020, with the net inflow reducing further to 21,000pa by early 2022.

Thoughts of Higher Interest Rates Keep Getting Pushed Back

The Reserve Bank’s current forecasts suggest that the official cash rate (OCR) will be held at 1.75% until mid-2019. This outlook reflects the fact that inflation remains relatively benign due to continued overcapacity in the global economy and subdued wage and price-setting behaviour domestically.

Nevertheless, both skilled and unskilled workers are becoming increasingly difficult for businesses to find. Given the tightening labour market, it is possible that the OCR will need to be lifted earlier in 2019 to counteract mounting wage and cost pressures.

During the next tightening cycle in monetary conditions, Infometrics expects the OCR to peak at about 3.5%. An OCR at this level would translate into floating mortgage rates of about 7.6%. This relatively modest peak is indicative of a view that interest rates are set to remain lower than the rates that prevailed during the 1990s and 2000s.

Although longer-term interest rates ended 2017 slightly lower than they started the year, upward pressure on these rates still looks to be in the pipeline. Stability in global economic growth will gradually see more central banks around the world move into a phase of tightening monetary conditions. Infometrics forecasts that 10-year bond rates will rise about 50 basis points during 2018 and a further 50 points over the following two years. These movements will flow through into higher fixed mortgage rates, with all rates advertised by the retail banks back above 6% by the end of 2020.

Rental Growth is Still Relatively Slow

Rental inflation across much of the country remains relatively subdued, at 4.6%pa in February. Auckland’s growth of 4.4%pa is close to the national average.

The latest Crockers Property Investment Index (CPII) survey asked what factor people saw as being the biggest current influence on rents in Auckland. There was little agreement among respondents, with the most popular reason – an insufficient rate of new house building – attracting just 28% of responses. The next two most popular reasons were “loan-to-value restrictions and a lack of housing affordability keeping people renting rather than owning their own home” (20% of respondents) and “fewer rental properties available to let due to investors exiting the market” (17% of respondents).

Low interest rates and strong capital gains for property have contributed to a drop of more than one percentage point in average rental yields since the end of 2011. However, gradual increases in interest rates during 2019 and 2020 will start to put more upward pressure on rents.

Infometrics’ forecast of a fall in house prices between now and 2020 (see On the cusp of a house price correction) also has the potential to contribute to an improvement in rental yields. Nevertheless, only 4% of respondents to the latest CPII survey thought that slower house price inflation would push rents up by focusing investor attention more on rental income.

There has also been some speculation that regulatory changes compelling higher rental property standards, including insulation requirements, could force rents up over the next 18-24 months. Some landlords are likely to try and recover the costs of the necessary expenditure by increasing rents, with 10% of respondents to the CPII survey citing this factor as being the biggest current influence on rents in Auckland.

Tenants are likely to have more ability to pay higher rents in coming quarters. Contributing factors to this enhanced ability include a lift in the Accommodation Supplement from 1 April 2018, a pick-up in income growth as the labour market continues to tighten, and the Labour-led government’s proposed minimum wage increases through to 2021. Thus conditions are likely to be conducive to faster rental inflation over the next 2-3 years.

LVR Changes Stem Fall in House Sales

Recent house sales data has shown signs of improvement, with sales volumes in the first two months of 2018 higher than a year ago, following 18 months of continued declines. This pick-up is probably due to the Reserve Bank’s relaxation of its loan-to-value restrictions (LVRs) from January this year, which was earlier than had been expected.

Even with the Reserve Bank set to make further adjustments to the LVRs within the next 12 months, it is likely that investors will continue to face tougher requirements than people purchasing their own home. This situation will ensure that investor demand for housing will stay relatively weak. A lack of expected capital gains in the market over the next couple of years will also curb speculative purchasing activity.

Even with changes to the LVR restrictions making it easier for some people to purchase property, demand for housing will remain constrained due to high prices and affordability problems in many parts of the country, particularly for first-home buyers. Housing affordability continues to be especially critical in Auckland, with the region’s undersupply of housing having escalated to an estimated 45,000 dwellings.

There is widespread scepticism that the government’s KiwiBuild programme will have much effect on affordability in Auckland within the next three years, with 57% of all respondents to the CPII survey stating that it will have little or no effect. More than half of those respondents expecting little effect from the programme cited the region’s massive undersupply of housing as the factor that would prevent KiwiBuild solving the affordability problems.

Another factor likely to weigh on house sales volumes in coming months is the government’s move to ban foreign buyers of residential property. In the near-term, some buyers might bring their intended purchases forward before the legislation is enacted. Infometrics expects a steeper drop-off in sales activity to occur in the second half of 2018 and into early 2019 as foreign buyers are excluded from the market.

On the Cusp of a House Price Correction

Having peaked at 14%pa in mid-2016, house price inflation had slowed to 3.9%pa by October last year according to Quotable Value’s index. However, data during the middle to latter part of 2017 showed small signs of a recovery in prices, particularly in Auckland.

We note that 26% of respondents to the latest CPII survey expect house prices in Auckland to fall over the next 12 months. This figure is greater than the 23% of respondents a year ago and the 11% recorded in early 2016 when looking forward over a two-year horizon. Significantly, just 8% of people in the latest survey expect price rises of 5.0% or more over the next year, well down from the 31% in this camp in 2017 and 61% of respondents in 2016.

Infometrics is forecasting a drop of 15% in house prices over the three years to December 2020. This fall appears dramatic compared to the 9.8% average decline in prices over a 15-month period in 2008/09 at the height of the GFC. However, property is now significantly more overvalued than it was prior to the GFC. Infometrics’ forecast decline is also more gradual than during the GFC, with less financial stress on property owners and fewer forced sales limiting the extent of house price falls.

Two factors present upside risks to these forecasts and could limit house price declines. Firstly, a solid economic performance of 2-3%pa GDP growth could see prices hold steady, but fewer properties being transacted, with owners under little pressure to sell and so refusing to drop their asking prices.

Secondly, Auckland’s undersupply of housing could maintain a high level of competition among buyers and force property prices higher. Considering this situation, Infometrics notes that Auckland’s housing undersupply places the region less at risk of house price falls than many other parts of the country as population growth slows.

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