Interest Rate Rises…. What will It Mean to the Property Market!

Happy Monday to you

Firstly & most importantly a big happy mothers day to all the wonderful mum's. I hope that you got spoilt and that you enjoyed your special day.

From a real estate perspective, whilst we always try to find a balance between positive and negative property information each week, it's fair to say that last week has been a challenge.

The vast majority of articles produced over the past seven days have discussed reduced affordability, further interest rate rises and likely price falls.

Our role as agents has always been to look after our sellers and that will clearly remain our focus however I sit here now and ask myself how would I feel reading the current negativity in the media if I were a buyer?

Clearly, the buyer pool has now moved from having a fear of missing out mentality to having a fear of paying too much mentality.

Understanding how a buyer's thought patterns have shifted does however help us in our discussions with our sellers.

For our current vendors, making sure that a property is well presented and priced to meet the market is critical. In a falling market, every additional day that a property sits on the market is a day whereby the value of the home potentially diminishes.

For future sellers thinking of selling, every day that they wait is now also crucial.

Yes, the market is changing. Record prices may no longer be commonplace but if a seller is realistic and acts accordingly strong results are still possible.

Our lead story this week comes from REA. After Tuesday's interest rate rise, an article "What will rising interest rates mean for property prices" was published. It is an interesting read that looks at what impact rising interest rates may have on the property market.

The full article is below.

What will rising interest rates mean for property prices?

On Tuesday the Reserve Bank increased interest rates for the first time in 11 years and rates are expected to increase sharply over the rest of 2022. We have already seen a slowdown in home price growth sparked by buyer expectations of rate rises. But what will higher rates mean for the housing market?

Pricing in the futures market implies the cash rate will be above 2.5% at the end of this year. That means the cash rate will increase by more than 2.2 percentage points.

If mortgage rates increase by the same amount – and it is entirely possible they increase by more than that as lenders look to repair their net interest margins – that would double the average rate on new loans from the current 2.5% to 5%.

That is a very steep increase. It would quickly take mortgage rates back to levels not seen in almost a decade, in 2013.

Major bank forecasts are more conservative. They put the cash rate somewhere between 1% and 1.5% by the end of the year.

A one percentage point increase in mortgage rates will increase total repayments by around 12%. This is despite the interest rate going up by 40%. This is due to the feature of fixed-repayment mortgages in Australia, where when interest rates increase principal repayments actually fall for newer mortgages, offsetting the increase in interest payments. This feature is a key reason why savings, in the form of principal payments, boomed following the reduction in interest rates at the start of the pandemic.

This increase in savings will mechanically reverse and buffer mortgagors from repayment shocks.

Borrowing capacity will reduce too. Maximum borrowing sizes will go down by around 10% from a one percentage point increase to mortgage rates, increasing to 19% if rates are two percentage points higher.

This will have significant effects on the housing market.

In their recent Financial Stability Review, the RBA estimated that a two percentage point increase in mortgage rates would reduce real housing prices by 15% over a two-year period.

The 'real' part is important – it means if inflation is cumulatively 5% over the next two years, price levels will be only 10% lower than currently.

While a sizable drop, it would only retrace a small amount of the recent extraordinary gains we have seen across the country. A 10% nominal drop would put national prices where they were in the middle of last year. All capital city prices would only retrace to prices seen some time last year.

While interest rates matter for housing, they are not the only driver. The RBA’s estimate isolates the effect of interest rates on prices – but other things also matter. Indeed, the RBA increases interest rates when the economy, and things like wages growth, are performing strongly.

These other factors boost housing prices. The last two times interest rates were increased, home prices also increased.

From 2002 to 2008, prices were up more than 30% despite the cash rate increasing three percentage points (due to data limitations, the chart begins in 2003). This is a good comparison with the current period, both because interest rates increased quickly, and because it was a period of strong wages growth, which we expect to see this time.

From 2009 to 2011, home prices were up 11% at their peak, and were up 6.6% at the end of the tightening phase that pushed up rates by 1.75 percentage points.

Is this time different?

In short: yes – for two related reasons.

First, we have just seen national home prices rise by 35% since the start of the pandemic. Even without interest rate increases, this rate of growth could not continue.

Prices increased to match lower borrowing costs – a process that has all but ended.

Second, related to the above, price growth has already slowed markedly across the country. Many buyers and sellers take signal from recent market performance and the fact that growth has slowed so much suggests prices will remain weak.

The outlook for price growth is therefore for further flat or slightly falling prices.

However, much can change in terms of both how steeply interest rates increase and how fast wages growth is. Both remain uncertain at this point.