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Weekend reads/week ahead!

Must see reads

The must-read articles of the week summarised for you here at Property Update (or click the image below).

This week, a look at 'QE', the coming first home loan deposit scheme, and the end of the high-rise tower: 

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The week ahead

The September National Accounts are due to be released on Wednesday this week, with the GDP partial indicators from retail, construction, and CapEx figures all negative, and only a modest contribution from net exports expected.

Contributions from public spending and inventories should prevent it from being a stinker, but nobody is forecasting a strong result and the median market forecast is only for growth of +0.5 per cent for Q3. 

By a quirk of the calendar the Reserve Bank meets for the last time this year on Tuesday this week, before the Q3 National Accounts are released.

Figures released on Friday showed credit growth slowing to the lowest level in 9½ years, and the median market forecast for Monday's building approvals figures points towards another year-on-year decline of almost 20 per cent. 

Comparatively very few apartments are now being approved in inner Sydney, although some are still getting up in LGAs such as Liverpool, Parramatta, and Ryde.

Financial markets expect a pause and for interest rates to stay on hold now, despite inflation being forecast to miss the target for a further couple of years. 

Commentators outside the mainstream financial media are becoming increasingly agitated as market based measures of inflation expectations see no return to target for a further half a decade.

Never a dull moment.

Have a great weekend!

Wealth effect asymmetry

Asymmetric information

The RBNZ has found that with more leverage around these days there's an asymmetric wealth effect, meaning that there's not such a noticeable boost to consumption on the way up, but a nasty drag when asset prices fall. 

The Reserve Bank in Australia has noticed the same thing over the past couple of years, and will need to revisit and update its housing market/consumption models accordingly.

With any luck, this will discourage further 'leaning against the wind' over the next couple of years and encourage a more concerted drive towards full employment and income growth, both of which have been MIA since the financial crisis. 

The RBA released its latest Financial Aggregates figures today out to October 2019.

This is one of the least accurately reported data series on the Twitter and elsewhere, so let's have a look and see if I can avoid falling on my own sword. 

Slowest since 2010

Credit growth was just 0.1 per cent in October 2019, bringing the annual pace down to 2½ per cent, which is the lowest annual growth rate since April 2010.

Yuck.

Personal credit growth was sharply negative again, bringing the annual pace down to an alarming -4.7 per cent.  

One of two things must be happening here.

Either personal credit growth is imploding, or buy now pay later (BNPL) providers have taken away from credit card use and other traditional forms of personal credit.

It's probably a bit of both.

Zip estimates that BNPL now accounts for about 17 per cent of retail transactions, so that's likely to be a factor. 

Separate data from APRA showed credit card loan usage declining to 9½ year lows in October 2019.

Annual housing credit growth slowed marginally from 3.06 per cent to 3.04 per cent, which is the lowest level on record, but the monthly figures confirmed that the bottom is now in. 

As predicted earlier in the year, the rebound in credit growth will all be driven by homebuyers as more investors snap on to P&I loans and accordingly pay down debt. 

In fact, investor credit growth is now in negative territory year-on-year, which has never happened until this cycle, even in the depths of our darkest recessions. 

I'm sceptical as to whether you can use a credit impulse to predict (or even explain) housing price changes, especially given the shifting composition of loans, demographics, and the impact of foreign capital.

That having been said, the impulse has now shifted back towards positive territory, and housing prices actually are in positive territory year-on-year. 

CoreLogic will report a strong post-election rebound in housing prices on Monday.

Business credit was also negative in October, dragging the monthly result for total credit growth down yet further.

The wrap

Aussie regulators pulled off a masterstroke in reducing the stock and flow of interest-only loans so swiftly and effectively, defying expectations in doing so.

With both investor and housing credit growth running at record lows, and inflation forecast to miss the target for a credibility-stretching 6 years consecutively, the focus should hopefully now been on targeting full employment.  

Sydney back in the line of duty

Stamp duty rebounds

Annual property transactions and transfer duty lodgements fell to the lowest level since 2013 in New South Wales in October 2019, to sit at well under 200,000. 

But the bottom will soon be in.

And indeed stamp and transfer duties are already rising again, thanks to the excessively high property taxes facing buyers these days. 

Stamp duty thresholds and rates are now too punitive, and this inhibits labour force mobility (increasingly so too does capital gains tax, since young buyers use investment properties as an early step on to the ladder). 

It's all unlikely to change any time soon, though, since - just as with pokies - state governments are addicted to the revenue.

Even still, I can't get behind the calls for a broad-based land tax. 

At least with stamp duties buyers can effectively aspire to owning a home, although there are always still rates to pay.

Land taxes, on the hand, can be something else again. 

As we've see in Brisbane City Council (and elsewhere), unimproved land valuations and therefore land taxes simply get jacked up at each and every available opportunity regardless of market conditions, with no realistic means of appeal. 

In effect, buying a property that attracts land tax becomes a liability over which owners have no control.  

Listings still low

Low stock

There's been quite a lot of unrealistic commentary about a mad rush of property listings as investors bail out of the market.

The interest-only cliff was thought to be a potential driver of forced sales.

But it is not so, per CoreLogic.

In fact new listings are still tracking at the lowest level this decade for this time of year, and so too are total listings. 

Source: CoreLogic

Transactions are now picking up, but with more incumbent owners now paying down debt bank mortgage portfolio run-off is outpacing new flows (and this will result in only very modest housing credit growth, despite rising prices). 

REA Group confirmed an extremely high level of interest in Sydney, with the harbour city driving the housing market rebound. 

Housing credit data is due out tomorrow...can't wait for this month’s 'hot takes'!

CapEx outlook fizzles

CapEx declines

Private new capital investment declined modestly in Q3, driven by a 3½ per cent decrease in equipment and machinery.

At the industry level mining and manufacturing investment is now increasing.

Unfortunately investment in other industries has been sinking for 9 months. 

At the state level investment in Western Australia has now been rising for 6 months after its brutal downturn. 

The wind-down in the gas mega-projects has now washed through, so investment in iron ore projects will lead mining and Western Australia higher. 

It's just a shame that the same can no longer be said of the three most populous states. 

More notably, the 4th estimate for 2019/2020 CapEx was only $116.7 billion, well below the $120 billion anticipated by markets, and only modestly higher than a year earlier, by 2½ per cent.

GDP fizzer

The early partials for GDP growth in the third quarter look to be weak, with declines in dwelling construction, a negative contribution from retail sales, and now another weak via partial from the CapEx figures. 

Net exports might deliver a contribution of ~0.2, but overall it's going to be another fizzer. 

The optimists will seize on the increase in annual GDP growth, as a weak result will drop off. 

Evans pencils in QE

QE incoming

Here's what Bill Evans thinks of the Reserve Bank's forecasts:

Source: Westpac

Which is to say, evidently not all that much!

Evans sees two more interest rate cuts by June 2020, with QE to start thereafter.

Leaving the progress towards QE too long would risk an unwelcome appreciation in the Aussie dollar, noted Evans. 

Media commentators have been calling for fiscal stimulus, but, unusually, often not the traditional supply-side stimulus.

Instead, many have been calling for large scale infrastructure, nation-building programmes, and all manner of other things besides. 

This doesn't really make any logical sense given Australia's floating currency and inflation targeting regime, for the reasons discussed previously here. 

It's probably not going to happen, in any case.

Rating agency S&P has put Australia on notice by reporting that major stimulus would risk a downgrade from the prized AAA-rating. 

It seems unlikely that the Coalition will cave in now and jeopardise the AAA-rating having pushed the 'return to surplus' meme so hard over recent times. 

In any case, the RBA is still forecasting GDP growth to return to 3 per cent in 2021. 

So at the very least, expect low interest rates for a long time to come, as implied this week by Governor Lowe.

According to financial markets interest rates could be heading lower yet. 

Source: ASX

What's driving the resi construction downturn?

Units building slows

Residential construction work done fell by -3.1 per cent in the September 2019 quarter, and was down by -10.6 per cent over the year to September.

It's the steepest decline in nearly two decades, but what's been driving it?

The short answer is apartment construction in Sydney, Brisbane, and Gold Coast, which will drive the next undersupply of dwellings by 2021.

Melbourne attached dwelling construction powers on. 

Around the country attached dwelling construction slowed to the lowest level since 2015, with approvals and commencements data pointing towards further declines to come. 

There's talk of confidence rebounding for new apartment sales, which probably does hold true for boutique developments.

For larger developments, this seems questionable, with buyers understandably cautious about building defects and cladding issues.

Perhaps developers will be able to tap the swelling capital flight from Hong Kong to get new projects off the ground again.

There was a decent bounce in engineering construction in Sydney and Melbourne which helped to cushion the blow a little in the third quarter.

Engineering construction took a step backwards, however, in Western Australia and Queensland.  

The wrap

Overall, construction work done contracted by -7 per cent from a year earlier to $50 billion.

Quarterly construction work peaked two years earlier at $66 billion. 

Listed developers such as Stockland and Mirvac have reported a pick-up in enquiries as housing market conditions improve, and Brickworks has also reported an improved order intake. 

So the construction downturn won't go on forever, but in the meantime there's a further slowdown in apartment building to be navigated, which may mean unemployment drifting higher. 

Record household wealth in 2020

Stocks at record highs

Australian households may now only be the second wealthiest in the world measured when in US dollar terms, as the strong currency has come down post-mining boom.

But measured in Aussie dollar terms household wealth looks set to hit a fresh record high in the first quarter of 2020. 

The ASX 200 closed up 63 points at 6850.6 today, and is now higher than it reached at the 2007 peak, even excluding dividends.

This represents an enormous boost to Australia's massive superannuation balances, with the ASX 200 index bouncing by almost 25 per cent since Xmas Eve last year. 

On a net total return basis (i.e. including the dividends) the ASX 200 has absolutely roared away.

Housing markets have also quickly rebounded in Sydney and Melbourne, which is set to send the mean household wealth in Australia soaring to well above A$1 million next year.

Household wealth per capita peaked at $416,400 in the June 2018 quarter, but this also looks set to be surpassed in 2020. 

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Confidence at 4-year lows

Confidence slumps

Consumer confidence is at the lowest level in 4 years, and now sits below the average since 1990.

Confidence towards future economic conditions, meanwhile, slumped to the lowest level in the history of the Roy Morgan survey. 

Subdued wages and a deteriorating jobs markets were the main drivers, while there was 'renewed weakness' on inflation expectations.

Earlier in the week the RBA suggested that low wages growth was a new normal for the time being, even though other countries have managed to get incomes rising again.

QE...or not QE?

Governor Lowe also delivered his Sydney speech yesterday on unconventional policy options - summarily, purchasing government securities - while noting that interest rates could fall as low as 0.25 per cent before they'd be considered.

QE is not on the agenda unless things were seen to be moving away from, rather than towards the goals for both full employment and inflation. 

And even then it wouldn't begin as soon as rates hit 0.25 per cent - there would be a higher threshold.  

We'll have to see what 2020 brings, but job advertisements have been dropping off for some time.

Lowe re-emphasised that QE was still considered unlikely, and that growth is expected to return to 3 per cent in 2021.

The housing rebound wasn’t all the RBA’s handywork, quipped Lowe in the Q&A - to some audience amusement - Labor’s election defeat also played a significant role, he suggested.

The Q&A would've been more interesting had someone asked whether wages growth would be higher today if the RBA had cut sooner and begun QE a year ago.

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Phases of the market cycle

Late cycle indicators

Howard Marks, master of the market cycle, says that we're 'in the eighth inning' of the stock market cycle, and because prices are high exposure should be reduced because expected future returns are poor.

But Marks himself has said that doesn't necessarily mean the market will turn down yet, and bull markets can run for much longer than you think.

In fact, the period since March 2009 has now been by far the longest bull market in history, with well over 10 years since the last bear market (defined as a 20 per cent correction) and the S&P total return far outpacing sustainable earnings growth in more than quadrupling over the past 127 months.

Cycle indicators

I recently re-read one of the my favourite books on Aussie stock markets, in which Colin Nicholson discussed how to identify when you're into the third (rampant speculation) phase of a stock market cycle, so you know to reduce your market exposure. 

Of course, there can't be one simple indicator; if there was then everyone would know about it and the indicator wouldn't work. 

It's a subjective issue rather than an objective one, and the point is not to make forecasts - which always prove to be wrong - but simply to position yourself accordingly. 

If you're interested, read Nicholson's case studies from 2007 and 2008 where he runs through his checklist of indicators - they're both brilliantly insightful and brutal. 

Where are we at in Australia today? Let's run through his checklist of questions and try to apply them logically to today's market:

Is the general public in the market? New small private investors experiencing their first cycle? Disregard for valuations?

Yes, heavily. There's been a huge increase in passive investing in index funds and ETFs, which some argue is a bubble. These products don't make up a major share of the stock market capitalisation, so bubble may not be the right term. But there's no doubt the general public is in the market. 

Have stockbrokers rediscovered private investors? Are there lots of new floats? Takeovers?

2017 was a bumper year for floats in Australia, but no, 2019 hasn't seen a particularly high level of initial capital raised. Forthcoming floats include a few small resources companies and an online consumer lender. 

The US, on the hand, has been something else in 2019: Beyond Meat, Uber, Lyft, Pinterest, and a range of others helped to make the June quarter the biggest in years in terms of both performance and capital raised. 

Professional investors often aren't keen on IPOs because of the information asymmetry, inevitable hype, and the frequently unfavourable timing. WeWork had planned to list by the end of the year but investors eventually realised the valuation was absurd and the listing was pulled.

I don't know if brokers are successfully promoting speculative companies (presumably, yes), but the cryptocurrency mania was an indicator of speculation writ large, albeit mainly in a different asset class.

There haven't been too many major takeovers in Australia. In the US, Munger and Buffett say they've never faced more competition than they do today from private equity prepared to use more leverage.

Has the media discovered the bull market?

Yes.

Is there more day trading?

I've certainly heard of more people getting into market trading; though in my experience many were into virtual currencies rather than stocks.

Are trading systems being promoted?

They're everywhere, but again seemingly more crypto-focussed this time around. 

Are speculative companies changing their names?

Long Island Ice Tea Corp renamed itself as Long Blockchain and saw its stock price go up 289 per cent as a result. It’s since been delisted and gone from 6 bucks to 20 cents. Do we need to look at any more daft examples? This was more of a 2017 thing, though.

Are governments selling off their enterprises?

Only to some extent. Ausgrid was sold off for $16 billion and New South Wales went through a $20 billion asset sale and recycling program. 

There's a huge raft of public infrastructure and other assets which could be sold off to reduce state debt (WestConnex, energy, water, etc.), but that hasn't really happened yet en masse. 

Much of the selling in recent years has been of government land and property assets, including public housing such as at Millers Point, and hundreds of Department of Education properties.

Are fundamental ratios at high levels?

In Australia, yes, though not ridiculously high. Previous cycles have seen corrections from PE ratios lower than 12 times or as high as close to 20 times or above, while the global financial crisis crash happened when the ASX had a PE a bit above the long term average. 

The Australian market may not be wildly overvalued, but some sectors (e.g. biotech) are arguably in the midst of a speculative mania. Financials are priced above their long run average, commodities and resources companies have generally been out of favour, but other sectors are enormously higher than average.

As for the US, valuations are extremely high on virtually any metric you care to look at. 

The interesting thing here is that if you think long-term interest rates are going to stay below 3 per cent for the next few decades then stock markets may arguably not be overpriced at all. 

Earnings yields slipping to 6 per cent or below Down Under would be considered expensive territory in historical terms...but then again look at how low bond yields are. The 10-year bond yield has been as low as 1 per cent! Valuation on its own is a nebulous concept.

Is everyone bullish?

Not everyone, though it's noticeable how many are defensive or argumentative if you mention downside risk.

Are new paradigm theories being advanced?

In 2007 and 2008, Nicholson cited the rise of end-of-the-world scenarios related to global warming, China growing at a fast pace for the next 50 to 100 years, and a forecast 'soft landing' for the global property boom.

Global warming is back in the headlines, but other new paradigm theories have abounded, from the genius of technology entrepreneurs, to Blockchain, cryptocurrencies to replace fiat currency, cyber trucks, low interest rates causing an endless bull market, and more. 

Relatively high interest rates, high/full employment, inflation?

Not in Australia. In fact, interest rates are as low as we've seen. Employment growth has been high for some years, but we haven't seen full employment as we did in the lead up to the financial crisis, or significant price inflation (except in some property markets).

In the US, however, the unemployment rate recently hit the lowest level since the 1960s.

Interest rates are not high. You could argue that they're relatively higher as compared to zero, but the tightening cycle has already ended for now. This could support the higher valuations for longer as central banks become more influenced by holding up asset prices. 

Is there speculative activity going on?

Is there ever! See Beyond Meat or any one of a thousand other examples, in Australia or overseas.

Are stock markets more volatile?

Not at the moment. There was a sharp correction in Q4 2018, which quickly rebounded before it could become a bear market. 

Leverage and risk

Margin loans are less popular in this cycle, but have been replaced by CFDs and other forms of leverage.

Business credit growth hasn't been especially high. The book value of gearing for listed non-financial corporations is rising, but isn't especially high either after several years of deleveraging by major resources companies such as Fortescue Metals Group and others. 

Positioning & posture

As you can see, there's never going to be a perfect checklist that can show you when a market will turn down. The indicators are quite mixed for Australia, but are less so for the US.

Australia's valuations may not be obscenely high, but most indicators from the US suggest - as Marks has pointed out - that it's a late cycle market in its 'eighth inning'. And if the US comes down it will likely bring the rest down with it as we saw in 2008-9.

How you choose to invest then comes back to your own strategy. For example, the legendary John Templeton increased or reduced or increased his allocation to stocks according to market valuations.

The general idea is to avoid giving back the strong gains of the past 10 years through adopting a more defensive position.