Are Melbourne House Prices Really Set to Fall by 9%?

There’s a lot of noise out there in the property market right now.

Investors are constantly second guessing the future direction of the market. Analysts can’t seem to agree on whether the outlook is positive or not.

Last week, the Reserve Bank came out claiming house prices still represented a bargain for buyers. According to the RBA, property prices are undervalued by 30% compared to the cost of renting.

That’s quite a conclusion to come to. Try convincing households the million dollar properties they’re looking at are 30% undervalued.

At the very least the RBA suggest house prices — in select cities — should continue to rise.

But a new academic paper, currently under review for the Economic Record, paints an altogether different picture. It suggests the Aussie real estate market is in for a mixed 12 months.

The most striking conclusion drawn from the paper is that house prices in Melbourne are set for a 9% correction over the next year. Researchers expect Melbourne is facing an immediate drop, with prices falling sharply in the next six months.

That would be a relatively sharp turnaround for the Victorian market.

Such a price decline would contrast markedly with the growth witnessed over the past year. House prices in Melbourne have risen by 7.6% in the 12 months to April. A 9% decline in prices would represent a significant reversal of fortunes.

The average Melbourne house today costs $750,000. If the researchers are correct, that suggests average prices could fall by as much as $67,500.

That would be nothing short of disastrous for households that have recently purchased a home. It would be somewhat digestible for owner-occupiers were interest rates to fall again soon. But even then it looks like a severely mistimed investment at best. And that’s to say nothing of what investors will think. They’ll find themselves having entered the market at its peak.

Melbourne to fall, Sydney to grow

Sydney, meanwhile, is projected to fare markedly better over the next year. Researchers suggest that Sydney house prices will back up their impressive recent growth, rising by another 6%.

Unlike Melbourne, house prices in Sydney are expected to keep rising before levelling off. This would only strengthen Sydney’s already dominant position as the king of Australian real estate.

The average house in Sydney today costs $950,000; a 16% rise year on year. A further 6% uplift would represent a $57,000 improvement in the average price of a house. That would just about equal Melbourne’s respective price decline.

What about the rest of the nation?

The forecasts for price movements are as mixed outside of the big two cities.

The researchers expect Brisbane house prices to fall by 8.1% in the next year. Equally, Perth’s weak property market could see prices drop by an additional 5.2% from current levels.

Meanwhile, Adelaide, Hobart and Canberra prices are set to rise slowly. All of those markets have experienced years of stagnant price growth. Even modest improvements would present a victory for investors and owner-occupiers alike at this stage.

Does the research give us a realistic picture of the market?

Any claim that projects Melbourne prices falling by 9% in a short timeframe requires some evidence.

What makes the researchers so sure this will be the case anyway?

The thing is, the paper doesn’t actually give any explanations for its extrapolations. Rather, it relies on house price data going back 20 years.

Essentially, researchers sat down and analysed all house price movements between 1995 and 2015. This allowed them to create a model that could make general hypotheses about future prices.

That adds a few question marks over the credibility of these forecasts.

I think there are two ways we could approach their conclusions.

The first is to take them at face value. Some of their forecasts are certainly plausible over the next six months. At the very least, the model is consistent with the current market conditions across a range of cities.

We know that real estate in Perth is struggling from the effects of the mining bust.

At the same time, it’s well documented that Sydney has a shortage of both land and apartments. That, in theory, suggests prices are only heading up.

But it doesn’t take a lot of research to predict the trends in either Perth or Sydney. We’ve known about these conditions for some time. The real question mark hangs over the findings relating to Melbourne.

Is there evidence which suggests Melbourne house prices will decline in the short run? Well, there could be.

Melbourne could face downward pressure on house prices from its oversupply of apartments. Even if house prices in Melbourne rise, this should nonetheless put a restraint on growth.

If we judge the findings using that evidence, the model could have real merit.

But the researchers admit that the modelling can’t predict every price movement. Rather, it’s designed to give a general idea of the direction of future house prices.

Unfortunately, apartment prices are unaccounted for in their data. That leaves us with one half of the market completely unrepresented.

While it might be possible to fill in the gaps on apartment dwellings, it’s still less instructive for investors. Most young investors still target apartments as a first point of entry into the market.

But the researchers maintain the findings present a credible guide for house prices. And they hope to build on their model, eventually adding apartment prices and suburb specific data. With enough updates, they hope that it will be able to provide advance notice of potential ‘turning points’.

But that’s also the reason we should take the findings with a pinch of salt. Without a full representation of the entire property market, it remains inconclusive.

The other problem with the data is that it doesn’t factor in potential events that could hurt house prices.

For example, Australia hasn’t had a recession in the last 20 years. That kind of record skews the trend of the housing market as a whole.

Yet there is now a raft of economic data which suggests Australia faces a recession up to 2017. Between weak business spending; growing trade deficits; rising household debts; sluggish wage growth; or even the effects of a Chinese crash; the signs point to a sustained economic decline.

To be fair to the researchers, that would speed up the deterioration of Melbourne’s housing market. But it would also weigh heavily on Sydney’s. And that’s not what their data suggests.

For that reason, it’s equally plausible to suggest that Melbourne prices will continue to rise in line with recent trends. If a 9% drop is based solely on an oversupply of apartments, then it’s not likely we’ll see prices fall by that much.

But if we match them against the potential future of the Aussie economy, then it’s not just Melbourne which will experience sharp falls in house prices.

Mat Spasic,

Contributor, Markets and Money

PS: Not every property analyst predicts a tough year ahead for Melbourne. Some, like Markets and Money’s property expert Phillip J. Anderson, see no correction in real estate taking place.

Phil says that the national property market is only set to continue growing. He says that Aussie real estate will continue booming for another decade.

Phil’s 20 years of experience as a property analyst and advisor has given him a keen sense for where the property market is, and where it’s going. He correctly predicted the 2008 housing market crash. He also went against the trend in 2009, saying that house prices would go on to boom this decade.

He was right on both accounts.

In his latest free report ‘Why Australian Property is on the Verge of a Decade Long Boom’, Phil guides you through this coming decade. He’ll show you the right time to buy property at its cheapest, and how you can use this to time your investments. To find out how to download his free report, click here.

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Markets and Money offers an independent and critical perspective on the Australian and global investment markets. Slightly offbeat and far from institutional, Markets and Money delivers you straight-forward, humorous, and useful investment insights from a world wide network of analysts, contrarians, and successful investors.

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