Pete Wargent blogspot


'Must-read, must-follow, one of the best analysts in Australia' - Stephen Koukoulas, ex-Senior Economics Adviser to Prime Minister Gillard.

'One of Australia's brightest financial minds, must-follow for accurate & in-depth analysis' - David Scutt, Markets & Economics Editor, Business Insider.

'I've been investing 40 years & still learn new concepts from Pete; one of the best commentators...and not just a theorist!' - Michael Yardney, Amazon #1 bestseller.

Thursday, 3 March 2016


Simple rent equation

BIS Shrapnel copped some heat this morning for apparently suggesting that changes to tax rules could impact rents. 

Haven't read the report and don't plan to, but as someone who works in the housing market, it's a simple enough equation: other things being equal, in cities with a growing population a reduction in investor activity leads to rising rents (while correspondingly a surge in investor acitivity cools rents). 

It's that straightforward, investors pull out and rents go up, investors rush into the market and rents steady or fall. 

All other arguments are usually a smokescreen for another agenda.

A typical counter-argument is that in the event of restricting investor tax deductions new homebuyers would magically step in to fill the void, but in the real world the property markets don't work like that.

There exists a significant proportion of the market that is not in a position to buy, and increasingly many Australians rent by choice as the workforce becomes more flexible. 


We don't have much empirical evidence for this, since there have only been two occasions when there has been a sharp pullback in or shock to investor activity across the 33 years of available data.

The first was from 1985 was monthly investor lending crashed by more than half from $210 million in May 1985 to $99 million by January 1986 due to changes in tax legislation, before stabilising somewhat (lending then jumped back to $240 million in July 1987 when negative gearing rules were reinstated). 

The second occasion was during the global financial crisis.

The figures below show that investor lending all but halved for a second time from $10.1 billion in June 2007 to just $5.1 billion by January 2009, as investors were spooked by the onset of the global financial crisis and predictions of a crash by some market commentators.

As you can see in the chart below, investor lending rebounded strongly from the month of February 2009, the month within which Kevin Rudd announced his famous $42 billion stimulus package, at which point rental growth quickly cooled again.

Note that this period coincided exactly with a spike in rents as investors deserted the market, until the month in which Rudd announced the stimulus package, whereupon rental growth immediately cooled again.

The key point is that investors were not immediately replaced by homebuyers, and rents spiked more or less exactly as you should expect - fewer rental properties on the market resulted in higher rents.

Sydneysiders in parts of the Eastern Suburbs in particular would recall that the rental market was bordering on out of control at that time.

The chart above also shows how the recent huge surge in investor lending in response to low interest rates has cooled rents dramatically, with rental growth soon to hit its lowest level of growth on record as the cycle moves on.

The index may even turn negative in the near future, which is obviously great news for renters.

Prices to fall?

On a related note the Grattan Institute calculated a "more accurate" assessment - on the back of the nearest available envelope, one assumes - that if negative gearing were to be scrapped then house prices would fall by 2 per cent.

The calculation cited was an NPV model taking $5 billion of negative gearing deductions and applying an arbitrary multiple of 20:

(Value of housing stock $5 trillion) - (value of tax benefit $5 billion x arbitrary multiple of 20 = $100 billion) = $4.9 trillion.

Not even sure where to start with this.

Perhaps just by noting that prices (and therefore total stock value) are set at the margin rather than by any arbitrary valuation of a tax benefit, that the composition of buyers today is not in the same proportion as in times past, and that Grattan's valuation of the housing stock is not even close to being correct at $5 trillion. 

All of which are rendered moot points since the Coalition appear unlikely to change negative gearing rules.