Is Australian property really the world’s most overpriced?

The Economist magazine’s latest survey of global housing reported that Australian property had the poorest return on investment of the 20 countries it evaluated.

The same survey found that Australian property was overvalued by 61% based on the current ratio of house prices-to-rents and historic ratios. Next on the list was Hong Kong (53% overvalued), followed by Spain (50%).

So is our property market really so overpriced and a bubble waiting to burst?

Interestingly, I’ve read similar commentary from The Economist magazine year after year after year, and in the meantime property values have just kept increasing.

I guess their argument could be: “Yes the bubble is just getting bigger and bigger which means Australia is heading for a bigger property crash just like overseas.”

Why don’t I think houses in Australia will drop in value like they did overseas?

Well in some areas, in particular some of the outer suburbs and lower socio-economic suburbs, property values have been falling and are likely to fall a little further from their highs of earlier this year, especially when interest rates rise further later in the year.

But our overall market is unlikely to collapse because the current property fundamentals, including our strong economy and the chronic shortage of housing, will insulate Australia from a property crash.

The Economist keeps analysing Australian properties as if they were shares – it’s like comparing apples with oranges.

Firstly, I believe it is wrong to assume rent levels are a good indication of what homeowners feel they should pay for their homes. Again it’s a bit like treating property likes shares and saying they should have a particular yield. Remember in Australia 70% of properties are bought by owner-occupiers. And one of the things that keeps pushing our property prices up is that by and large these property owners all want to live in the same areas.

If you think about it, 70% of our population lives in one of eight big capital cities and most of these people want to live in the inner and middle ring suburbs, near the city, near amenities and near their jobs.

Secondly, over the last 20 years “real” interest rates have fallen by about half, relative to what they have been historically and this could provide an explanation as to why the rent-to-price ratios have fallen.

Of course, it’s not unusual for overseas commentators to get it wrong about Australian property. Only last month, US financial commentator Edward Chancellor said that Australia was in the midst of an unsustainable property bubble.

But his thoughts and those of the Economist have been quickly dismissed by a raft of Australian economists who remind us that Australia’s property markets are nothing like the US or the UK.

For example, Michael Workman Commonwealth Bank senior economist said: “The story about house prices falling tends to be pushed pretty strongly from overseas groups, in particular because they don’t understand the growth outlook here and the under-supply of dwellings.”

We know that Australia doesn’t have suburbs full of empty houses awaiting mortgagee sales like the US. Instead we are not building enough houses. While we need something like 200,000 new homes each year to supply accommodation for our growing population, we are only building in the order of 165,000 new dwellings each year.

From a supply and demand perspective America is over-built – there are just too many houses. In Australia it’s the exact opposite – we are not building enough houses and our vacancy rates are at historic lows. The shortage of 200,000 dwellings in Australia that has been reported by various sources including Australian Property Monitors, ANZ Bank and the HIA will help put a floor under house prices.

Sure, some Australians currently have issues with housing affordability and are putting off their home buying decisions. But people still need a roof over their heads. People are still getting married and people are still getting divorced, some are having babies and others have to move house for their jobs.

If they can’t afford to buy a house they rent one, hence vacancy rates are at unprecedented lows and pushing up rentals.

However price growth is leveling off.

Our property markets have changed – don’t expect the type of capital growth many of us enjoyed in the last 12 months.

The Reserve Bank has deliberately put speed bumps on the road. They have increased interest rates to slow our booming property markets, and to an extent the general economy, on purpose.

What this means is that buying any property and hoping it will make a good investment just won’t work in this new era in property. Now is the time to buy well in areas that will outperform the averages and add properties to which you can add value.

In fact we have a two-speed property market, with properties rising in some areas and not in others. Values will keep increasing in the inner, more affluent suburbs and not as much in outer, working class areas.

Do you think Australian property prices are too high? Leave your comments below.

Michael Yardney is the director of Metropole Property Investment Strategists, a best-selling author and one of Australia’s leading experts in wealth creation through property. For more information about Michael visit www.metropole.com.au and www.PropertyUpdate.com.au.