Thursday, January 20, 2005

Stay grounded. House prices haven't hit the floor

So you think the slump in real estate is over? You are in good company. On Tuesday the research chief at Australian Property Monitors declared house prices might have "finally reached their floor". A day later real estate agent Ivan Bresic said the market looked "set to come back strongly in 2005".

They must be talking to the agents I've been talking to.

For six months my wife and I have been searching for a house. We sold and then rented while we talked to agent after agent. They all seemed to be decent people. None of them lied about the state of the houses they were selling. But when we asked about the state of the market they began to babble.

Prices were just about to pick up. They could sense it. They were getting more inquiries. Some confided that they believed prices were already moving up. This was at a time when Sydney prices were relentlessly falling and when the agents themselves were coming back to us with progressively lower asking prices...

If the agents had their heads in the stratosphere when it came to prices, the economists I met at an annual forecasting conference in December could not have been more firmly grounded.

Each year the executive of Australian Business Economists (ABE) presents its forecasts for the 12 months ahead. On the committee are Australia's leading private-sector forecasters, among them the economic chiefs at Westpac, Qantas and Macquarie Bank.

Not a single member of that committee expects an increase in overall house prices during the next 12 months. The committee's forecast is for a fall in prices of between 5 and 10 per cent. And it says there's no sign of a pick-up beyond that. There won't be a "meaningful" increase in prices until the end of the decade.

So who are you going to believe? On one hand it must be said real estate agents are pretty personable, and that until recently they seemed to have had a good grasp on the way prices were moving. On the other, it must be said that economists, while less impressive socially, tend to get the difficult forecasts right.

The past year was extraordinarily difficult to forecast. When it began, prices were still soaring. And yet the ABE's forecasting team correctly picked that there would be a downturn and got its magnitude about right.

And I have another reason for throwing my lot in with the economists. It's the broad sweep of real estate history.

Professor Peter Abelson, from Macquarie University, has done anyone interested in house prices a huge favour by putting together reliable data for each Australian city going back to 1970. It wasn't easy. Much of what has previously passed for good data has been suspect, depending on the sales the agents themselves have chosen to report.

Abelson got around this by using state Land Titles Office data where he could and also the work of a clerk in the Tax Office who compiled figures for Hobart as a hobby.

When adjusted for inflation, Abelson's data points to four distinct house price booms in Australia, each separated by years of stagnant or falling prices. The first thing to note is that each of the first three booms was short. Beginning in 1971, 1979 and 1987, each lasted two to three years. The most recent boom is the exception. It lasted from 1996 to 2003.

The second thing to note is that after each boom collapsed it took five to seven years for Sydney prices to crawl back to their previous real level. And Abelson believes the true story on prices is even grimmer than those figures suggest. That's because houses are getting bigger. New homes have typically 40 per cent more floor space than they did 20 years ago. And existing homes are continually being extended at the owners' expense.

If a house that used to sell for $400,000 now sells for $700,000 but has an extra bedroom and a living room and a deck, it didn't really increase in price by $300,000.

Comparing like with like, Australia's house price booms have been shallower than is widely believed and the slumps between them have lasted even longer: some for the best part of a decade.

If you are an owner who still wants to feel optimistic about the decade ahead, or perhaps an agent, you are perfectly entitled to declare this doesn't matter. History won't repeat itself. Sydney will be spared. But you would need a good argument. The ones that I have heard don't stand up.

One is that Sydney prices move differently to those in the rest of Australia. Abelson's figures show prices in all Australian cities move surprisingly closely together, with the recent movements in Sydney particularly closely tied to those in Brisbane and Melbourne. Only in Perth and Canberra have prices at times shot up on their own: in Perth's case because of a mining boom, and in Canberra's case following the election of Labor governments.

Another argument is that Sydney is becoming an international city, accepting the bulk of new migrants. It is true that Sydney takes in more new arrivals than any other Australian city, and that once here they typically stay here. But that puts less pressure on the NSW population than you might imagine. Migration pulls in about 40,000 people each year. But at the same time about 30,000 locals move out, mostly to Queensland and Victoria. As a result Sydney's population is actually growing more slowly than either Brisbane's or Melbourne's.

None of this need disturb real estate-obsessed Sydneysiders. If you own a house you've enjoyed a spectacular capital gain. On Abelson's figures, since 1980 the real value of your home has more than doubled. Even allowing for the money you have spent on improvements it has increased 75 per cent.

But savour it while you can. That gain will shrink if, as the economists expect, real house prices head down.