Interest Rates

Interest rates are like the nasty smell in the room that nobody likes to talk about, or admit to. The upheaval of the property market in the early 1990’s produced interest rates of approximately 16% – unthinkable in today’s market – and two and a half decades later there is still that unpleasant odour that can stymie investor confidence. Not because the rates are so low, but because that sort of volatility is something no investor wants to abide by.

Today, interest rates are just above rock bottom – about 1% higher than the lowest value in the previous half century, and whilst we’re not really racing to the water with our trowels and sifters just yet, given the yard stick of the past, we’re in something of a property gold rush. And for some investors, they are itching to go panning for gold.

Melbourne’s demand presently outweighs its supply by about 20%. In raw figurative parlance, this means that Melbourne is building roughly 30,000 less abodes in the CBD and surrounding areas to an audience of $170,000 buyers annually.

This is not to cause a hyena-type pack mentality where auctions become feeding frenzies as desperate punters play an investor’s version of musical chairs, rather it is because 140,000 developments reflect Melbourne’s ceiling for building new apartments and housing based on manpower and skill set.

What is interesting about current interest rates is what is on the other side of the equals sign to balance the equation. Property owners possess equity in any property they own. This is a measure of their asset wealth. Paying off a property worth $220,000 (citing the ANZ as an example) with a variable interest rate of 0.5% p.a or fixed at 0.15% p.a is attractive, and very achievable but even adding 0.25% to these figures correlated to just under an additional $50 per month in repayments. Still not something that would break the bank. At best it would require a few sacrifices here and there if things were dire in the hip pocket.

interest rates

Now comes the other side of the equals sign. Over a 7-10 year period, that same property could be worth about $3,500 to said investor in monthly rental payments.

These numbers tell a story, and that story is that the sliding and unpredictable global instability has made Australia a very attractive place to buy investment properties. For now.

Take New York; a city of renters. It is a culture where people are content to not have the prestigious tag of “home owner” attached to their census form in return for the privilege of living in one of the World’s great cities with its instantly recognisable skyline, movie stars and history.

In Melbourne, rents are increasing, and the current rental returns vary from about 3.5% to 6.0%, with the data showing an inclination towards the latter. This is an indication that the rate of vacancy is decreasing in the city. Again, it is the equation balancing itself out. A city that is growing at a rate of 2% – or at about 80,000 people per year (by Melbourne’s current population) with a finite capacity to build new housing for said migration AND a decline in renters actually vacating forces up rent prices.

rate rises

This increase in rent does not look like slowing down anytime soon.

So, we have a delightful self-fulfilling prophecy; the increase in rental returns attracts investors who buy up any vacant properties that could potentially be snapped up by first-home buyers, Gen “Exxers” and “Whys” trying to get into the market. Except Melbourne’s souring population drives those prices out of their reach. Enter the investor, with his portfolio to prop up the necessary repayments. The result? Less property to rent in a city that is trending to become a city of renters.

Indeed, as the baby boomer generation shuffles off into old-age, those who can afford to help their children will no doubt do so, giving them a leg up in the property space. It is a fact that the Rises in Cost of Living have not correlated to any rise in the average wage – not even close – so as property becomes more and more inaccessible, Generation X and Y are becoming more and more reliant on inheritances or generous relatives to open the property doors for them.

Presently Australia actually has one of the highest rates of ‘home ownership’ out of any comparable country. But this will no doubt slip because as property prices continue to rise at an increased rate relative to what people earn, future generations will simply be squeezed out of the market.

It is inevitable based on current trends of population growth, the current supply and demand of the market and the projected increased in living costs.

rate rise

The elephant in the room – and a significantly smelly one for many – is the interest in international investment from the Asian markets. Understandably, in a country where they build golf holes on top of buildings because they have absolutely no space, Chinese investment has been pouring into Australia for years lured by the vast expanses of land, the multicultural diversity of Melbourne in particular and the attractive rental returns.

(It is not just the concrete jungles of the urban skyline that is piquing their interests, there is significant monies – millions of dollars – pouring into Australian Agriculture presently. In fact, Agriculture is set to become the “new mining boom”)

There are Real Estate firms based in Melbourne who are run by Chinese expats who travel to China on a fortnightly basis with nothing but a portfolio to sell to hungry investors. And sell they do.

This is an issue that needs to be addressed at some point because it is the ugly side of capitalism – where the rich simply increase their wealth because they have the means, and the poor continue to struggle because they don’t have the means.

What is yet to be made clear is how big this schism can get between those who will be forced to rent their whole lives and those who possess lucrative property portfolios.

Regulations are tricky in this space, and taking into account international money complicates it further, particularly because a healthy rental market – fuelled by scarcity of supply – makes for a healthy property economy.

Something that any government, irrespective of its political leanings, would be happy to see.