The first Tuesday of every month marks the day when the board of The Reserve Bank of Australia sits down with its coffee and Tim Tams to decide what to do with the official cash rate. It is the RBA’s job to regulate and issue monetary policy to “contribute to the stability of the currency, full employment, and the economic prosperity and welfare of the Australian people”.
The independent will of everyday Australians and how they spend their money seems to be at the forefront of fiscal concern, particularly how Australians spend their money on housing. While acknowledging that the country has the economic equivalent of a hangover from the feast that was mining and resources, the comments of RBA Governor Philip Lowe concerning housing were pretty stark for one particular group in the housing sector: negatively geared property investors.
Negatively geared property investors are vulnerable in the short term with depressed rents affecting landlord cash flow. They are exposed in the long term if slow wage growth and increasing household debt affect the next generation of buyers’ ability to bail them out of an underperforming investment. You see if tomorrow’s buyer isn’t in a position to pay enough for a property so that it recovers the (negatively geared) loss – then all of the certainties that existed about a property being a safe long term investment won’t be true. It would be like the end of every Disney film went in some completely unsatisfying alternative direction – like in reality where Pocahontas travelled to England with her husband and died of smallpox.
There will be people who have been sacrificing avocado brunches to pay the mortgages of their rental properties, running them at a loss; investors who won’t be able to recover as the market cools its jets in line with wage and debt factors.
Light Bulb Moment #1: It finally makes sense why the baby boomers were so upset about that smashed avocado get-down. Millenials, it seems, are supposed to be saving their money for the large deposits that will bail out the baby boomers from their risky bets on a negatively geared retirement. #soznotsoz.
In the Financial Stability Review of April 17, The RBA noted that “indicators of household financial stress currently remain contained and low-interest rates are supporting households’ ability to service their debt and build repayment buffers…”. However, it was clear that although financial stress is ‘contained’, the prevalence of ‘riskier’ types of borrowing, such as interest-only lending (read negatively geared investment loans) was still noted as concerning in the context of rising household debt. In short, a lot of people have gone out on a limb on this property dream, and it is a problem.
In yesterday’s decision, Governor Lowe said, “In the eastern capital cities, a considerable additional supply of apartments is scheduled to come on stream over the next couple of years. Rent increases are the slowest for two decades. Growth in housing debt has outpaced the slow growth in household incomes. The recently announced supervisory measures should help address the risks associated with high and rising levels of indebtedness.”
The banking sector is guided but not regulated by the RBA; regulation comes from the Australian Prudential Regulation Authority (APRA). In a speech last month entitled “Prudential Perspectives on the Property Market”, APRA’s Chairman, Mr Wayne Byres, said that over the past five years “APRA has been ratcheting up the intensity of its supervision of residential property lending”… and that since the end of 2014, APRA had “… established quantitative benchmarks for investor lending growth (10 percent), and interest rate buffers within serviceability assessments (the higher of 7 percent, or 2 percent over the loan product rate), as a means of reversing a decline in lending standards that competition for growth and market share had generated.”
Mr Byres admitted that the supervisory measures were unusual but warranted in the context of “high house prices, high household debt, low-interest rates, low-income growth and strong competitive pressures. In such an environment, it is easy for borrowers to build up debt. Unfortunately, it is much harder to pay that debt back down when the environment changes.”
The “supervisory measures” that Governor Lowe mentioned to help address the risks associated with rising debt referred to APRA’s recent decision to add “an additional benchmark on the share of new lending that is occurring on an interest-only basis (30 percent) to further reduce vulnerabilities in the system,” as explained by Mr Byres in his speech.
Light Bulb Moment #2: It appears that the banks have been involved in something of a price war during the resources boom to gain market share and may have got themselves, and quite a few Australian mum-and-dad investors, into a bit of a whoopsie, with risky investment loan products.
And so the finger pointing begins, and negative gearing is on the agenda…now. Talking about negative gearing…now…feels a little bit like shutting the stable door after the horse has bolted; bolted then found new owners, had a foal, nursed the foal to maturity and seen it win a few Group Ones at Caulfield.
If you thought investment property owners in the margins rallied around smashed avocado, take away negative gearing, and see how quickly torches and pitchforks are taken up. The tax deduction applicable to investment property losses (negative gearing) makes sense not to punish those engaged in entrepreneurial risk taking; risk-taking that provides our country with rental accommodation.
Somewhere along the line, the ‘risk’ part of property investment was lost amid low, low, low, interest rates and very easy access to credit…and we got a bit too comfortable with risk. Australians forgot that the property cycle fluctuates, and that while desirable inner-city properties will always have a strong market – a glut of apartments, little boxes of sameness with negative-gearing sugar sprinkled on top, might unravel the hopes of many investors who went into the margins, buying property at negative returns which might take much longer than anticipated to make the type of capital gain that would justify the risk and the loss.
APRA has already implemented strict regulations on the types of loans that create a negatively geared return for investors…so why is parliament even bothering to talk about this? Negative gearing isn’t a housing affordability issue, access to credit is a housing affordability issue. If future investors can’t access credit with the same incentives as the current investors; and Millenials can’t afford to buy homes at the increasing price rate because wages aren’t increasing, labour markets are volatile, and, they have been eating too much avocado; and foreign investors are restricted from purchasing property at increasing prices…How is the current cohort of negatively geared investors going to see a capital return on all that loss?
Light Bulb Moment #3: The negative gearing debate is silly and not worth debating. It is, however, a pretty good distraction from having to reflect on some pretty set beliefs about demand and the ever-green nature of the Australian property market.
As agents, we hold a sacred position of trust when it comes to dealing with people’s significant assets and impacting upon their financial future. Asked several times a day, “How’s the market?”, agents need to be connected to the bigger picture and how the bigger players, like the RBA and like APRA are pulling levers to alter the course of housing and property over the coming years.