Record low interest rates have been fuel to Australia’s red-hot property market, but the dream run on rates may be about to end, leaving some buyers exposed.
A one per cent hike on a typical $500,000 home loan could add more than $3000 to annual repayments.
“The Reserve Bank looks likely to find itself under property price pressure a lot sooner than it had expected, with reports stating housing prices climbed in February,” said Canstar group executive, of financial services, Steve Mickenbecker.
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The market is so hot that people are camping out days to get land for homes in southwest Sydney.
In 2020, Reserve Bank governor Philip Lowe said interest rates would likely remain at 0.25 per cent for years – then they dropped to as low as 0.10 per cent.
His argument was that the unemployment rate would need to fall to around 4.5 per cent and inflation should be sitting between 2 and 3 per cent before rates would head north.
“I think it’s reasonable to expect that will not be for some years,” he said at the time.
However, Australia’s unemployment rate is already falling, dropping from 6.6 in December to 6.4 per cent by January, the economy is booming and dwelling prices are soaring.
“The Reserve Bank doesn’t expect to raise the cash rate for three years or more, but unless property prices can be slowed it will have to start looking for some way to apply the brakes,” Mr Mickenbecker said.
We’re witnessing a perfect property storm.
The perfect storm
New listings throughout 2020 were at four-year lows according to Mr Mickenbecker, meaning there just isn’t enough stock on the market.
“Property demand has run way ahead, with the fear of missing out becoming a powerful psychological driver as government incentives and low interest rates have encouraged first-home buyers and home builders into the market in a rush,” he said.
The result of slow supply and increased demand is a timing mismatch.
The auction crowd turnouts are becoming insane.
“Market forces must eventually slow the pace of demand, but we are going to have to see an increase in property listings to get us to that point. Supply must come from investors who will be feeling the heat as first-home buyers leave a further vacancy behind, but investors can walk away with a tidy capital gain and no pressing housing need,” he said.
“Buyers will be feeling a lot of pressure before this all plays out and the Reserve Bank will be looking for a circuit breaker,” he added.
It all sounds great, but there can be a downside to low interest rates.
What goes down, must go up
Anyone who entered a mortgage in recent years would have felt the positive effects of falling interest rates. But considering the typical home loan lasts 30 years, there is every chance rates could climb much higher during the life of the loan.
Canstar has crunched the numbers and just 10 years ago the average variable rate sat at 7.21 per cent. That heftier rate on a $500,000 loan would be $3,397 a month – far from the $1,848 repayments on a present day loan at 2 per cent.
Photos for impact of rising interest rates. Picture: Supplied
Nerida Conisbee, chief economist at realestate.com.au, said people need to be mindful that interest rates can go up quickly.
“It’s like house prices, when they’re falling people think they’ll fall for ages, but then suddenly they can start shooting up again. The same thing can happen with interest rates. People need to be prepared and put in place a buffer so they don’t find themselves getting into distress,” she said.
Rise above the bank’s buffer
Billie Christofi is finance director with Reventon and has 21 properties. She said savvy investors should plan for the eventuality of rising rates by going above and beyond the 2.5 per cent serviceability buffer banks calculate when lending.
“Those buffers are great because they take into consideration changes to your living expenses and cater for changes in the interest rate. But I advise people put buffers in other areas as well,” she said.
Billie Christofi is a finance director with Reventon Picture: Supplied
“Put a buffer in the vacancy rate of your investment property, don’t expect it to be rented out for 52 weeks of the year, put a 10 per cent buffer in there as well.”
Ms Christofi added that even if interest rates do start to creep up, it’s not all negative.
“If they do rise four or five years down the track, you need to take into consideration that rents will increase too,” she explained.
“So plan for interest rate rises, but know that circumstances do change in your favour as well. “Also, if it’s an investment property, that interest you’re paying is tax deductible.”
Alternative scenario
“I think we’ve still got at least a couple years, where interest rates are going to be quite stable. Right now is still a really good time to get into the property market. And if you feel uncertainty about what’s going to happen with interest rates, look at fixing your loan instead of keeping it variable,” Ms Christofi said.
Before the RBA increases interest rates, Ms Conisbee said there could be other initial steps taken.
“That could include a return of greater scrutiny on tax incentives and maybe negative gearing might come up again as a hot topic. Probably a lot of the first-home buyer grants will also be reviewed over the coming 12 months,” she said.
“There might also be a focus on the responsible lending rules that were previously relaxed. When they eased up, it was much easier to get finance and banks started offering a lot of incentives; not just low interest rates. I think if the RBA is right and they don’t believe inflation will take off for a few years, then it will be some other form of intervention that will be looked at to slow things down.”
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