Interest rates on hold, but downside risks for the housing sector remain
The RBA held the cash rate at 4.1% today, but kept the door open for a rate hike in August, citing ongoing concerns around the trajectory of inflation amid tight labour markets and uncertainty relating to the household sector.
The June quarter inflation outcome, to be released late this month, will be critical in determining whether there are more rate hikes ahead.
Currently high interest rates and the potential for a hike in August could weigh further on consumer sentiment, which is already around GFC lows. Historically consumer sentiment and housing market sales have been closely correlated.
Housing activity could be further impacted if credit becomes less available. The average variable mortgage rate for new owner occupier loans is approximately 5.9%. With a three percentage point serviceability buffer in place, new borrowers will be assessed to repay their loan at a mortgage rate close to 9%. The combination of high cost of living pressures, negative real income growth and the high cost of debt have made it hard for borrowers to obtain credit approval, especially with lenders less willing to lend on high debt-to-income ratios, high loan-to-income ratios or on smaller deposits.
Renewed growth in housing values is another factor weighing on RBA decisions. While the RBA has been clear it doesn’t target asset prices, there is a risk that higher housing prices could keep inflation higher for longer as homeowners feel wealthier and more willing to spend.
Despite rates holding firm in July, we could see some further dampening of the recent exuberance seen across housing markets, where values have generally been rising since March. CoreLogic’s Home Value Index for June showed a subtle easing in the rate of growth nationally, from 1.2% in May to 1.1% in June, which could be the first signs of some heat leaving the recovery trend.
As more borrowers are exposed to higher interest rates, either via rising variable mortgage rates or the expiration of fixed rates, we are likely to see a progressive increase in mortgage arrears, albeit from record lows last year. To date, the majority of borrowers have kept on track with their mortgage repayments, with APRA data for the March quarter indicating only half a percent of home loan borrows had fallen less than 90 days behind on their mortgage repayments.
While the portion of borrowers falling behind on their repayment schedule is likely to rise, Australia’s unemployment rate is forecast to remain below 5%, which should help to prevent a material blowout in mortgage arrears.
Whether the current interest rate setting and the potential for a further hike in August is enough to push the housing market into a double-dip downturn remains uncertain.
Despite the high interest rate environment, the housing sector is still facing an under supply which is likely to provide some support for values. The number of capital city homes advertised for sale is tracking about 26% below the previous five-year average and dwelling approvals continue to trend well below average levels. Low supply in the face of record net overseas migration and extremely tight rental conditions should be a key factor helping to offset the impact of higher interest rates.
