[+] Raiser’s Edge: Jobs Must Hold as Mortgage Cliff Closes In

Unemployment rates are on every property economist's radar as they watch for signs of distressed properties flooding the market. And while bumper listings could be a boon for developers looking to agglomerate sites, the slump in building activity is a concern for the construction sector. More than 850,000 fixed rate home loans will roll off to variable rates by the end of 2023 and suddenly, every one of Australia’s 3.8 million mortgage holders has become an economist. Or at least they understand the numbers. It’s all about the numbers. They know, for example, when the Reserve Bank of Australia decided to leave the country’s cash rate target unchanged last week, it sat at 4.1 per cent. They’ve learned interest rates have risen 12 times in the past 14 months, which means if they have a $500,000 loan they’re already paying an extra $1217 a month for their mortgage, bringing their total monthly payments to about $3320. They may have calculated that’s an increase of 58 per cent from April last year. They’ll have felt inflation at the supermarket each week, but know it’s dipped to 5.6 per cent. Perhaps most important of all however, they’ll know when their fixed-term interest period ends, and suddenly they’ll have to move to a variable rate. And if they don’t, it’s likely their lender will have reminded them. Some people call it the mortgage cliff. “We know that banks have been contacting everyone on fixed rates and trying to understand how well prepared they are,” says Ray White’s chief economist, Nerida Conisbee. “They are looking for people that look like they’re going to be struggling,” she said. “They’re doing things like putting them on interest-only payments or extending out their loan terms. In some cases, they will look at trying to combine mortgages with other debts they may have to try and help them out.” It’s not just that banks don’t want to be stuck with a house to sell—they don’t—but rather they can afford to be lenient. During the most recent earnings session, the country’s Big Four banks reported cash earnings of $17.1 billion during the first half, well up on their previous half-year peak of $15.8 billion in 2015. “They are making a ton of cash because they do very well in high interest rate environments,” Conisbee says. “And also, they’ve been spending a lot of money to try and build up their loan book over the past decade or so.” ▲ Ray White’s Nerida Conisbee: Banks are trying to understand how well prepared fixed-rate mortgage owners are. Analysts say about 850,000 fixed-rate mortgages will expire by the end of this year, and another 450,000 or so throughout 2024. Australia’s mortgage delinquency rate did increase over the March quarter, according to risk assessment firm Moody’s, and is expected to continue to increase over the next 12 months because of high interest rates coupled with inflation. Moody’s says the latest data for residential mortgage-backed securities (RMBS) shows the share of home loans at least 30 days in arrears was 1.26 per cent in March, up from 1.05 per cent in December. That’s still below the peak of 1.76 per cent for prime mortgages during the Covid pandemic. “Over the next 12 months, we expect delinquencies will continue to rise moderately,” Moody’s said in a report released last week. “The combination of high interest rates and inflation will continue to weaken mortgage borrowers’ abilities to pay monthly home loan instalments,” the report said. But while the number of distressed mortgages is rising, most economists say it is “still remarkably low”. “We’re not even back to what you might describe as normal levels for people who are running behind in their payments,” CoreLogic’s director of research, Tim Lawless says, referring to pre-Covid peaks. “I think part of it is simply we haven’t seen borrowers get impacted by the full set of rate hikes just yet,” he told The Urban Developer . “Keeping in mind, if you’re an existing borrower on a variable mortgage rate, it’ll take two to three months, generally three months before the lender will increase your variable rates.” ▲ CoreLogic’s Tim Lawless says the building sector will continue to be challenged until certainty returns to the economy. And he points out Australia’s households have retained a “decent level of savings”. “Generally speaking, households will be depleting those savings before they fall into a level of arrears or stress,” Lawless says. But perhaps most critically, most Australians have jobs. At 3.6 per cent in May, the country’s unemployment rate remains low, and if there is a single factor also keeping the number of distressed mortgages low, it is the level of unemployment. “That’s probably where the biggest risk lies,” says AMP’s head of investment strategy and chief economist Dr Shane Oliver. “What happens to unemployment?” “Interest rates on their own probably aren’t enough to cause a huge surge in distressed sales,” he says, “but the problem would arise if the interest rate hikes combined with higher unemployment.” AMP is tipping unemployment to rise to about 5 per cent over the next 18 months. “Our view is that unemployment will go up probably more than the RBA is allowing for, and we are at high risk of a mild recession,” Oliver says. “But providing we don’t see unemployment surge much beyond 5 per cent, I don’t think we’ll see a major problem with distressed sales.” Borrowers who took out mortgages at low interest rates in the years before the RBA began its monetary tightening cycle are at most risk. Fixed loans signed in early 2022, for example, were at an interest rate of around 2 per cent per year. Today, variable mortgages are somewhere around 6 per cent. Investors bailing out of market Statistics from CoreLogic show it is mainly investors—those with a rental property or perhaps a holiday home—who are taking note. CoreLogic considers real estate listings to be investor-owned based on the rental history of a property. Research by the property data provider shows new investor listings brought to the market during May this year are just 2.9 per cent lower than the monthly average throughout the previous decade. In fact, in three capital cities—Sydney, Melbourne and Perth—investor listings for May were higher than the previous decade’s average. Sydney, for example, has a historic 10-year average of 38 per cent of new listings coming to market from investors. But in May the proportion of investment listings surged to a whopping 57 per cent. “The holiday home is another one that seems likely,” says Conisbee. “I think that’s one where some people are potentially looking at it like, ‘I probably don’t need this, and now we can travel again it’s not really such a necessity to have like it was during the pandemic’. “I think people that were relying on short term holiday rentals to try to pay their mortgage ... some of them would be losing that ability. And it becomes a far less profitable investment.” Renters are getting a double-whammy Already embroiled in an eastern seaboard rental market where vacancy levels are at historic lows, they’re often renewing tenancy agreements with mortgage owners feeling their own pain. ▲ Mortgagee sales have risen sharply risen in the new year, says real estate group Ray White. “Renters are in a much more difficult situation,” says Conisbee. “They’re often dealing with people who also have problems. If you’re dealing with a landlord that has a high debt level, for example, you’re in a much harder negotiating position.” General wisdom says the mortgage cliff will reach its peak early-to-mid 2024. CoreLogic’s Lawless expects June quarter data coming out of the Federal government’s Australian Prudential Regulation Authority (APRA) will show a further rise in the proportion of mortgages that are less than 90 days behind with repayments. “And that’ll progressively rise through to the end of the year, and probably into 2024, as well. It really depends on how high interest rates go, and how long they stay elevated,” he said. “But I think we’d be naive to think that it’s not going to be rising further, particularly at least back to normal levels, if not higher than that, as we see more fixed-rate borrowers migrating under the variable rates, as we see more variable rate borrowers being impacted by the full history of rate hikes. And as we see a further depletion in savings.” The AMP’s Oliver agrees. “I suspect it’s probably going to be next year when we’ll really know whether we’ve got a major problem or not,” he says. “Because that’s when unemployment will start to become an issue. “If unemployment goes from 3.6 now to 4 per cent, it’s not a big move. But if it keeps pushing up a lot beyond that, and occurs reasonably rapidly, then it becomes potentially more of an issue.” Not good news for construction sector CoreLogic says until certainty returns to the economy—particularly to the interest rate trajectory—the building sector will continue to be challenged. ▲ If you go back through past cycles, it's usually the unemployment that causes the problem, says Dr Shane Oliver. “Even though there’s a fairly clear under-supply building in the Australian marketplace, we’re not seeing a lot of new building activity simply because construction costs are very high to deliver a yield,” Lawless says. “But also, because we’re seeing consumers generally unwilling to make decisions such as buying off the plan or buying a new product, especially when construction costs have gone up as much as they have.” Ray White’s Conisbee echoes the views of many when she says the Reserve Bank’s policy is making the country’s rental crisis worse. “It’s going to lead to much less housing being built over the long term,” she says. “But, you know, the Reserve Bank isn’t there for the housing market, they are there to control inflation. So, there’s going to be problems in the meantime to get that sorted.” Labour Force Australia’s latest unemployment figures will be released in about a week. APRA will release June quarter figures for the proportion of mortgages in arears on September 5. The Reserve Bank’s board of governors meets again on August 1. For now, mortgage holders will need to keep watching the numbers. You are currently experiencing The Urban Developer Plus (TUD+), our premium membership for property professionals. Click here to learn more.

[+] Raiser’s Edge: Jobs Must Hold as Mortgage Cliff Closes In

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