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Apartments and skyrocketing commercial property a risk, says RBA

Posted on 21 November 2017

Source:  Australian Property Journal

CHINA'S tightening on capital movement out of the country has tempered buyers demand in the Australian residential market, however the surge in apartment construction continues to pose the greatest risk.

The Reserve Bank of Australia's head of financial stability, Jonathan Kearns, told the Aus-China Property Developers, Investors & Financiers lunch in Sydney yesterday that the capital controls had seen purchases of new properties by foreign buyers ease over the past year. Around 75% of offshore buyers are from China.

Foreign buyers in total account for between 10% to 15% of new constructions, or around 5% of total housing sales, and around 25% of new apartments. Melbourne and Sydney receive the highest share of new construction purchases.

However, it is the surge in apartment construction that poses a greater threat to the market.

"The longer time to build higher-density dwellings than detached houses increases the risk that a large number of new dwellings could be completed just as the housing market turns down, so amplifying the housing cycle.

"The high valuation of commercial property, which is common to many other assets, increases the potential for a sharp correction and so the risks from commercial property lending. The high level of household mortgage borrowing also brings risks, both for lenders and households," Kearns said.

He said a notable feature of the recent dwelling construction cycle had been the marked increase in the share of higher density construction, "a helpful response to the shortage of well-located land in Australia's large cities".

Apartment construction numbers have been led by Sydney and Melbourne, but the number of apartments being built in Brisbane has been greater relative to existing stock. Peak apartment completion is expected to occur in Brisbane this year, and Perth has also seen strong relative growth.

Kearns said that while Brisbane and Perth have seen small price falls in recent years, despite valuations for some apartments at settlement being lower than the purchase price off the plan, there have not been widespread reports of higher rates of settlement failure, or any notable increase in arrears or losses for banks.

Approvals for new higher density dwellings nationally have jumped from less than half of detached dwellings to being almost on par within a decade.

For all of the market analysis and speculation in recent years as the major east coast markets continued to heat up, it appears that the precise impact of foreign buyers on the market is still unclear.

"Purchases and financing by foreigner investors and banks have been prominent in the current commercial property cycle. We have seen this before and are well aware of the impact this can have on the cycle. The increased purchases of dwellings by foreign buyers, particularly for investment purposes, are a more recent phenomenon and so their impact on the housing cycle is less clear.

"Purchases by foreign buyers do not, on the whole, reduce the supply of dwellings available to local residents and in fact may actually contribute to expansion of the housing stock.

"Foreign buyers in Australia for work or study would have been renting if they did not purchase. Other foreign buyers rent the property as an investment and so contribute to the rental stock. Also, there are some new developments that only proceed because they get high pre-sales from foreign buyers," he added.

Foreign investors do have the potential to add to the commercial market's cyclicality if they enter the market when prices have been rising and there are more properties for sale.

"Alternatively, if foreign investors' decisions are largely influenced by conditions in their home country rather than the domestic market they may actually moderate the domestic property cycle," Kearns said.

He said the strength of the Australian property market, and the participation by foreign buyers, had enticed some foreign developers to Australia for specific projects, but overall they remain a small part of the market. Foreign banks likewise have a "very small" role in residential property lending, although Asian bank have double their market share in the last two years.

"This strong growth in commercial property lending by Asian banks is reminiscent of European banks' growth in the lead up to the financial crisis. However, whereas Australian banks eased their lending standards in that pre-crisis period in order to compete, this time Australian banks do not appear to have eased lending standards."

Direct links between foreign banks to domestic banks tend to be small, so their impact on the domestic financial system is likely to be indirect through an amplification of the credit cycle and property market, he said.

Also yesterday, the head of the RBA's domestic markets department, Marion Kohler, said the degree of loan discounting over the past 12 months had increased.

Speaking at Australian Securitisation Forum, she said this had been the case for both owner-occupier and investor loans.

"The increase in interest rate discounts offered to new borrowers over the past year suggests that competition for customers is stronger for new borrowers than for existing borrowers." Kohler concluded.


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