Real estate down-under is a one-way bet

Well-off Aussies and Kiwis prefer to invest their hard-earned dollars in bricks and mortar. With home prices softening in the Antipodes, this could be a good moment to buy.

Housing? No worries, mate

Australians and New Zealanders can be very British. There is nothing they like more to chat about over a cup of tea, a beer or a glass of wine than the weather – and property prices. And as with the weather, when it comes to real estate down under, there is much to talk about.

Antipodeans are wary of the stock market – especially right now. Over the medium term stock market returns have not been particularly rewarding (the same can be said of the UK market over the last 20 years – though it currently has a higher dividend yield). Middle class Australians are likely to have some money in equities, though this is less common in New Zealand where, as I discussed last week, the stock market is shallow.

Corporate and government bonds have been popular but yields are low on government papers. (The 10-year Aussie government bond is yielding 2.80 percent[i]and the Kiwi equivalent is yielding 2.886 percent as I write.) With interest rates subject to upward pressure, especially in Australia which is more tightly linked to US money markets, fund managers and investors are aware that bond prices are likely to weaken.

That leaves property – real estate, both residential and commercial – as the more favoured asset class for those with a nest egg to secure. And indeed, better-off Aussies and Kiwis have been investing in buy-to-let for some time, assisted by a tax regime where all mortgage interest can be offset against rental income. They believe, with some justification, that property secures better returns long-term and that, in countries with rapidly expanding populations, residential property is a one-way bet.

Nosy Pom that I am, during my travels through Australasia I have taken a keen interest in what people have paid for their houses – and where the smart money is heading…

Northern New South Wales: Sipping tea while counting koalas

Australia’s Gold Coast (Southern Queensland) may have been and gone as a property hot spot. As in Melbourne, rows of gleaming towers of luxury apartments contain a significant number of unsold units. Moreover, across the Gold Coast, from Surfer’s Paradise to downtown Brisbane, traffic congestion is a growing concern.

But drive south down the coast into northern New South Wales and you come to a very classy stretch of coastline with such heritage towns as Byron Bay, Bangalow, Lennox Head and East Ballina. There are many affluent retirees here but also an upwardly mobile young crowd. The pubs and bars are buzzing; there are superb restaurants; there are antique and craft fares every Sunday. (Australians are all crazy about Antiques Road Showand Fiona Bruce is revered as an honorary Aussie.)

Prices are toppy along this coastline, especially in the Byron Bay-Ballina-Lismore triangle. There is nothing in Byron Bay Shire under about AU$1.5 million – and beach view houses go for between AU$5 million and AU$7 million. Some wealthy purchasers (often from Sydney) have recently incurred the displeasure of the locals by buying top-end beach-front properties only to tear them down and build modernistic trophy homes.

But go inland a bit and residential property becomes more affordable. Century 21 (itself a US real estate franchise) is offering a spectacular modern home at Keerrong on 2.2 hectares (5 acres) of land set back from the road. It has high ceilings supported by timber beams, all illuminated by abundant natural light. It has four bedrooms, just one bathroom (below average for Australia), a huge garage and a separate study stroke guesthouse. It has the obligatory barbie (barbeque) terrace protected by a canopy of lush greenery. It comes with 2kw of solar panels, air-con and a wood stove. The grounds resonate with the sound of birdsong, particularly kookaburras and rainbow-coloured lorikeets. You’ll have to install your own swimming pool – but please don’t wake the koalas who sleep in the eucalyptus trees.

The price? A very reasonable AU$678,000 (£371,000) – a sum that would not go very far in England’s Home Counties. Transaction costs are also reasonable. Stamp duty (the same name is given for the same tax as in the UK) is in line with UK rates, on a sliding scale. Legal costs are inexpensive. Expect to pay just AU$2,000 (plus GST – sales tax – of 20 percent, so AU$2,400) regardless of the cost of the property.

Go inland even further and traditional colonial style wooden houses with ornate porches become surprisingly affordable. In more provincial towns like Casino a duplex can be had for less than AU$250,000. A duplex in Australia is not a two-level maisonette or apartment as it is in the UK. It is a modern-style detached cottage or chalet home with garage and yard.

Some duplexes offer excellent returns for investors. First National Real Estate is offering a two-bedroom refurbished duplex in Goonellabah (outside Lismore and close to Southern Cross University) at a guide price of AU$245,000-265,000. The rental value is AU$330 per week. Assuming the purchase price is at the middle of the guide price then that would secure an investment yield of 6.73 percent. Not bad in a country where cash returns are below two percent – and with good potential for capital gains.

An Australasian drama: Fletcher Building Group

On 13 April the Sydney Morning Herald reported that the Australian conglomerate Wesfarmers (ASX:WES)– which owns the Kmart and Bunnings brands – had bought a 3-4 percent stake in Fletcher Building Group (ASX:FBU & NZB:FBU), New Zealand’s largest building materials and construction group. Fletcher’s shares rose by 14 percent to a high of NZ$6.66. Later, Wesfarmers denied the report.

This prompted speculation that this major NZ player might be the subject of a full take-over – and therefore might leave the NZX altogether. Fletcher looked cheap, trading at a forward 12-month P/E of 10. In contrast, Australian building materials groups such as Adelaide Brighton (ASX:ABC) and James Hardie (ASX:JHX) were on multiples of 19 and 22.7 respectively last week.

Fletcher’s market value had fallen by NZ$3 billion since it announced one-off write-downs of NZ$660 million in February. Fletcher has racked up losses on 16 building projects including the SkyCity International Convention Centre in Auckland and Christchurch’s NZ$300 million Justice Precinct. Fletcher is known to have breached its borrowing covenants on its bond issues.

On 16 April it was revealed that Australian investment giant Ellerston Capital had purchased a 5.13 percent stake in Fletcher, requiring disclosure to the market. Ellerston manages AU$5 billion (£2.72 billion) of assets. Now, Fletcher looked more like a break-up opportunity.

The next day trading in the company’s shares was halted ahead of the announcement that it would raise NZ$750 million from shareholders through a rights offer to strengthen its balance sheet. This gave Ellerston the right to buy another 8 million or so shares at a discount. In the event Fletcher raised a reported NZ$515 million within one day from institutional investors including KiwiSaver (a state-sponsored retirement fund). The remaining NZ$250 million will come from retail investors.

As well as the rights issue Fletcher has negotiated a new revolving credit facility with ANZ, Westpac and MUFG Bank. Fletcher also announced plans to sell its offshore divisions Formica and Roof Tile which Morningstar reckons are worth NZ$700 million.

The moral of this drama is that construction companies active in the public sector are more risky in New Zealand than in Australia – due to their higher cost of capital and the higher transaction costs associated with a much smaller, less liquid capital market. Going forward Aussie companies are likely to acquire most Kiwi construction assets, which are undervalued relative to Australia.

That said the Kiwi residential market still looks enticing for bold private investors.

The new-build trend in New Zealand

Australia & New Zealand Banking Group (ASX:ANZ) economist Liz Kendall says that house prices in New Zealand are now so high that self-build is the best option for many, especially younger buyers[ii]. The challenge is to find the land on which to build. That, says Ms Kendall, requires that municipalities free up land on city fringes and allow people to build homes in greater density than is currently permitted.

Further, construction capacity in New Zealand is constrained by severe labour shortages. (Any brickies or sparkies reading this: You have a better chance of getting a residence visa there than any economist!) The government target to build 100,000 thousand affordable homes through an agency called KiwiBuild has been thwarted by supply factors.

Even these affordable homes can cost up to NZ$600,000 in Auckland – about six times the average income in the nation’s commercial capital – though just two thirds of the median Auckland house price of NZ$900,000 (£304,500). Given a 20 percent deposit (NZ$120,000) a typical young New Zealander might spend one third of their disposable income on mortgage payments as opposed to one half if they buy a median-priced property.

ANZ thinks that, over the medium-term, strong population growth coupled with supply side constraints will determine that property prices continue to rise in New Zealand, despite current restrictions on credit. Economists can forecast house building by means of Tobin’s Q Theory of Housing Investment[iii]. This compares the cost of building a home with the market price of that home. Houses (and apartments) tend to be constructed in increasing numbers as the cost of building falls below the cost of buying property.

In New Zealand, house prices have increased by about 50 percent since the start of 2012 while the cost of a new unit (being the cost of the land plus construction) has increased by only 30 percent over the same period. Housing demand is finally driving innovation in the building sector, says ANZ, including use of pre-fabricated modular homes. Greenhaven Smart Homes is one such NZ manufacturer which claims that its units are more environmentally-friendly than conventional homes. Such homes are also much quicker to build.

New Zealand’s South Island: affordability problems

In the Central Otago Lakes region of New Zealand’s beautiful South Island, the median house price is now 15.4 times the region’s average annual wage (which is well below that of plutocratic Auckland). That makes this beautiful but remote region one of the least affordable in the country. In Auckland the average house price is “only” 13.1 times average annual wages.

Massey University recently released its home affordability report, which estimates how hard it is for locals to buy a house, considering house prices, wages and interest rates. Nationwide, the median house price has risen by NZ$35,000 over the last year while wages and interest rates have been stable. Desirable Hawke’s Bay, Central Otago Lakes and touristic Queenstown are getting less affordable for ordinary New Zealanders.

As ever, rising house prices in real terms in New Zealand means that existing home owners have built up equity while aspirant home owners find it more difficult to get onto the property ladder. The country’s most affordable regions, according to Massey University, are Southland in the extreme south west of the country, Manawatu-Whanganui in the central North Island, and Taranaki in the extreme west of the North Island.

CoreLogic has published its Pain and Gain Report for Q4 2017 showing how much New Zealanders made and lost when they sold their properties in that quarter. In the last three months of 2017 96 percent of all houses and 90 percent of all apartments sold yielded profits for their owners.

Interestingly, Christchurch – New Zealand’s second city with a population of 450,000 – had the highest proportion of loss-making properties at 9 percent. But this can be put down to local factors.

Christchurch suffered severe earthquakes on 04 September 2010 and then again on 22 February 2011. These wreaked havoc with the very centre of the old town, bringing down several office blocks and wrecking the city’s Anglican cathedral at a cost of 185 deaths in the second quake. This has left the city centre almost deserted during the on-going reconstruction while many people have moved out to outlying suburbs. For a relatively small city Christchurch is now hugely spread-out, although road links are good. But property prices downtown have still not recovered.

Auckland sellers made the largest gains at a median NZ$370,000 per sale: but then there is little available now in the more affluent suburbs of Auckland – New Zealand’s largest city with 1.5 million inhabitants – under NZ$1 million (£510,000). Auckland was followed by Tauranga at NZ$227,500 and Hamilton at NZ$206,500 (both within a two and a half hour’s drive from Auckland). The report found that more buy-to-let investors made losses than owner-occupiers.

ASB Bank (a subsidiary of Commonwealth Bank of Australia (ASX:CBA)) Chief Economist Nick Tuffley expects weak house price growth in Auckland and Christchurch this year. He thinks house prices around the country will converge towards the overall rate of inflation of just above one percent. However, unemployment is expected to reduce further and interest rates are likely to remain at around the current 1.75 percent level.

Within a few years, then, the upward trend in New Zealand house prices is likely to resume. Bricks and mortar here looks like a sound investment.

Joining the Kiwi A-List

At the luxury end, there is no end of dream-homes in the Land of the Long White Cloud, some of them for telephone number prices. Ranches are currently much sought after by Hollywood (and Bollywood) A-listers around beautiful Queenstown. Agricultural land does not change hands that often in the South Island, though a medium-sized (about 500 acres) pastoral farm near Fairlie is currently on the market for NZ$7.5 million (£3.82 million).

But don’t despair – there are gems to be had for us lesser mortals. Set in the sub-tropical beauty of the north western coast of the South Island Sotheby’s Realty New Zealand is offering a magnificent architect-designed lodge on the Karamea Highway with three en-suite bedrooms and a massive high-vaulted living area with sea views. It’s priced at NZ$950,000 (£485,000) for a quick sale. Don’t hang around.

On the beach and out to lunch

I’m back in Oz after a journey across New Zealand – staying on the beautiful coast of northern New South Wales.

Drat! – I’m late for my surfing masterclass in Byron Bay. But what’s this? It’s an email from James, our dynamic young editor, reminding me of a host of meetings in London next week…

Mmmnn. I’ll think about it.


[i]Bloomberg Markets – see: https://www.bloomberg.com/markets/rates-bonds/government-bonds/australia

[ii]New-build economics stack up, by Rob Stock, The Christchurch Press, page G2, 21 April 2018.

[iii]Named after American economist James Tobin (1918-2002). A technical analysis of this theory is available at: https://libres.uncg.edu/ir/uncg/f/D_winkler_Q_2003%20(MULTI%20UNCG%20Authors).pdf

Victor Hill: Victor is a financial economist, consultant, trainer and writer, with extensive experience in commercial and investment banking and fund management. His career includes stints at JP Morgan, Argyll Investment Management and World Bank IFC.