249c6263434c272f4fcde76583e90b4c - Aussie city with most ‘overvalued’ real estate

A global investment bank says house prices in a major Australian city are among the world’s most “overvalued” and on the brink of bubble territory.

With Australian property prices hitting new and ever-crazier highs, and regulators circling, ready to clamp down on the easy lending that is causing people to take on bigger and bigger loans, Global investment bank UBS has released its latest Real Estate Bubble Index. It comes with a warning for Australia.

Our most expensive city, Sydney, is overvalued and on the brink of bubble territory, the bank says.

Sydney house prices have risen an astonishing 23 per cent in the last 12 months, a barely comprehensible pace for a city where the median price has long been over a million dollars.

“Easier lending standards and rate cuts by the Reserve Bank of Australia have reflated the market ,” write UBS. “Without a turnaround in interest rates, the decade-long upward trend of house prices is likely to continue, given ongoing population growth.”

It has been astonishing to watch house prices soar throughout the pandemic. The surprising thing from an Australian perspective is that we are not alone. In fact, our housing markets are not even the bubbliest in the world, according to UBS.

As the next graph shows, several European cities have their house prices even further out of line than Sydney.

The bubble index is calculated based on:

  • – The ratio of the price of houses to income,
  • – Price to rent ratios,
  • – The amount of construction as a share of GDP (more = higher risk of bubble),
  • – The amount of mortgage lending to GDP (same) and
  • – The price of cities in relation to the rest of the country (what may be saving Sydney from being classified as being in a bubble is the rest of Australia is so expensive too!)

The circumstances that have driven up property prices in Australia are global. Interest rates are low in Europe and America too, in fact even lower than here. But relying on ever-falling interest rates to drive property prices up has its limits, as UBS explains.

“As long as financing costs trend toward zero, property prices, incomes, and rents can
continue to decouple. But ever-higher prices and leverage imply ever-higher risks, a
spiralling path that will likely prove a dead end in the long term.”

In short, if interest rates start rising, property prices will stop growing and could even fall.

This is where it is really important to understand the link between inflation and interest rates. Inflation is rising prices. If inflation goes up -i.e. if prices rise rapidly – the Reserve Bank raises interest rates in response.

This is the core job of the Reserve Bank – to stop inflation getting too high. Low interest rates are like an accelerator for the economy because they encourage people to borrow and spend. Inflation is like the engine overheating – if people borrow and spend too much, prices rise. To reduce the overheating the RBA will take their foot off the accelerator, i.e. raise interest rates.

So will inflation rise and force the RBA to raise interest rates? Inflation is already showing up here and there – petrol prices are hitting record highs, for example, and financial markets are now pricing in a couple of interest rate hikes by 2023.

Imagine if mortgage rates start rising in 2023. You have to feel bad for young people who have been socking money away for years to get their deposit while prices grow higher and higher. They may then also face higher and higher interest rates throughout the life of their mortgage, and flat or falling prices. It would be quite the opposite of the experience of people who bought 20 years ago.

The risk of a correction in property prices is always real, but as UBS says, bubbles are funny things, you can only say they existed once they’ve popped, and spotting one getting bigger is a lot easier than picking the moment when they are going to pop.

As spring selling season starts, the distant prospect of a property price correction is unlikely to deter buyers.

Jason Murphy is an economist | @jasemurphy. He is the author of the book Incentivology.

Read related topics:Sydney

This post was originally published on this site

  • Popular Searches
  • Hide Searches