The residential property market won’t escape the fallout from COVID-19

A cloud of uncertainty is hanging heavily over the Australian residential property market, as it is over most parts of the global economy. The simple truth is that we don’t know the end destination for this COVID-19 health crisis, and until we do, it is hard to predict the long-term effects on asset values.

We can, however, read the indicators as they arise and at least gain an understanding of the dynamics currently driving the market. For Australian house prices, the immediate outlook is not rosy, but in the context could be much worse.

Dynamic 1: Demand softens along with the economy

Auction clearance rates in most major capital cities have tanked¹, however to this point the data may reflect logistical challenges as much as decreased demand. With group inspections and live auctions now prohibited, many sellers have withdrawn from the market. Listings have also increased, due in part to sellers rushing to enter the market before the situation deteriorates further.

Over coming months, however, the hit to economic activity from lockdown measures will take over as the dominant feature in the market, smothering demand and putting downward pressure on prices. Uncertainty is a major factor in this, with buyers reluctant to enter the market in the current geopolitical climate, and rental holidays and non-payments destabilise cash flows in the sector.

Ultimately, as the unemployment rate climbs towards 10 per cent there will be very significant income effects as well, as household budgets come under strain and access to credit is reduced for those who have lost jobs or taken pay cuts.

Finally, lower levels of population growth due to decreased immigration is also likely to have deflationary effect on the market.

Dynamic 2: Supply cools over the medium term

Current approvals data pre-dates the pandemic, but have been trending downwards since late 2017, despite a recent spike in February. As demand declines, expect to see further downward pressure on residential construction activity, which will in turn act as a drag on economic growth.

Alongside cooling demand, practical difficulties may also play a role in dampening construction activity. Material supply shortages have been a concern to the industry², although these fears may be alleviated as Chinese production comes back online. Another looming threat would be additional restrictions on movement affecting jobsites, which to this point have been relatively unscathed by public health interventions.

Previously we had be worried that diminished construction activity would create an undersupply in Sydney and Melbourne, however we now expect falling demand to dominate market conditions, in the short term at least, leading to a fall in house prices nationally in the order of 5-10 per cent. This is predicated on unemployment rising towards but not exceeding 10 per cent. If this proves to be overly optimistic a larger collapse in the housing market could eventuate.

If government intervention is successful, or if there is a significant stabilisation of the pandemic, unemployment rates may start to return to normal levels, at which point the effects of our low interest rate environment will start to kick in again, which should bring some upside to home prices.

¹ https://www.corelogic.com.au/news/auction-clearance-rates-weighed-down-significant-number-withdrawn-auctions
² https://www.afr.com/property/residential/builders-and-developers-struggle-with-supply-shortages-20200301-p545tb