Australian homebuyers are borrowing at the fastest pace in four years amid record prices, straining debt levels already among the developed world’s highest as interest rates are set to climb.
The value of new mortgage approvals jumped 25 percent in November from a year earlier, the fastest annual pace since September 2009, to a record A$26.9 billion ($23.8 billion), according to the statistics bureau. Ten out of 29 economists surveyed by Bloomberg News forecast the Reserve Bank of Australia will raise its benchmark rate by the fourth quarter and the median forecast is for a 25 basis-point increase in the first three months of next year.
Consumers from Canada to Scandinavia are on a borrowing binge, taking advantage of cheap credit that in Australia has pushed mortgage rates to a four-year low and underpinned a rally in home prices to unprecedented levels. Australians’ preference for variable-rate loans and investor demand for rental properties is setting the stage for delinquencies to rise as interest rates climb. This could saddle banks with potentially profit-eroding impairments, according to Brian Johnson, a Sydney-based bank analyst at CLSA Ltd.
“As and when interest rates turn and unemployment rises, it’s going to be savage,” said Johnson. When rates climb by about 2 percentage points, “house price escalation stops and the quantum of repayment increases, putting pressure on borrowers.”
Average dwelling values in the biggest cities climbed 9.8 percent in 2013 to a record A$614,367, according to the RP Data-Rismark home value index. Sydney led the gains, with a 14.5 percent jump in prices last year to A$729,969, followed by Perth with an almost 10 percent increase to A$618,248.
Australia’s housing market was the fifth-most overvalued among countries in the Organization for Economic Cooperation and Development relative to rents, the International Monetary Fund said in a December report. The leader is Canada, followed by New Zealand, Norway and Belgium. Prices in Australia’s biggest cities, home to two-thirds of the population, have risen 26 percent since the start of 2009, according to the RP Data-Rismark index.
The nation has the most expensive housing market after the U.K. when prices are considered as a proportion of gross domestic product per capita, Fitch Ratings wrote in a report this week. The survey compared Australia, the U.S., Canada, Japan, the U.K., the Netherlands, “core” European Union and “peripheral” European Union countries.
Australia avoided the type of housing crash that other countries went through in the past decade.
Anecdotal evidence suggests about half of households that borrowed when rates were higher got ahead on their obligations by keeping repayments the same when they fell, the central bank said in its Financial Stability Review in September.
As more new loans at current low rates are issued, that buffer, which reduced the risk of delinquencies when borrowing costs rose in the past, will shrink, said James Zanesi, associate director for structured finance at Fitch in Sydney.
“In the current environment of increasing house prices and low interest rates, new loans are more of a concern,” Zanesi said. “Over the past six to nine months, we’ve seen a strong prepayment rate driven by seasoned borrowers used to higher interest rates. This is not the case for new loans.”
The average variable home loan rate was 5.95 percent as of Dec. 31, the lowest since September 2009. The central bank cut its benchmark by 2.25 percentage points since the end of 2011 to a record low of 2.5 percent. Some 83 percent of mortgages to owner occupiers are on variable rates, according to the statistics bureau, which doesn’t provide the data for investors.
The RBA is facing a dilemma as it seeks to balance soaring house prices with a cooling in mining investment, which helped Australia avoid a global recession. The central bank in November projected gross domestic product will rise by a maximum 3 percent this year, compared with as much as 3.5 percent growth predicted three months earlier. Treasury has forecast the jobless rate will climb to 6 percent by July from 5.8 percent now.
“The worst-case scenario for housing and banks is a rapid 150 to 200 basis points increase in rates at the same time that unemployment is rising,” said Michael Wiblin, Sydney-based banking analyst at Macquarie Group Ltd., adding that this isn’t a near-term scenario. “That could push up impairments and hurt banking profits.”
Westpac Banking Corp. (WBC), Australia & New Zealand Banking Group Ltd. and National Australia Bank Ltd. (NAB) said they ensure customers can maintain repayments when interest rates rise when assessing mortgage applications.
About 71 percent of Westpac borrowers are ahead on their home-loan payments, Supreet Thomas, a Sydney-based spokeswoman for the bank, said by e-mail. ANZ Bank in July raised its “sensitivity buffer,” the level of rate increases borrowers can tolerate, by 25 basis points to 2.25 percentage points, Stephen Ries, a Melbourne-based spokesman for the lender, said in an e-mail. NAB verifies a borrower’s existing commitments and income before approving a loan, Nick Higginbottom, Melbourne-based spokesman for the bank, said in an e-mail.
Steve Batten, a Sydney-based spokesman for Commonwealth Bank of Australia, declined to comment citing the bank’s first-half earnings on Feb. 12.
The average home loan size across Australia grew 10 percent to A$436,002 in November from a year earlier, based on data from Perth-based Australian Finance Group Ltd.’s network of 1,800 brokers. The average weekly wage expanded at less than half that rate to A$1,105 before taxes as of May 31 from a year earlier, the latest statistics bureau data show.
In New South Wales, with almost two-thirds of its population living in the state’s capital Sydney, the average mortgage ballooned by A$56,000 to more than A$529,000, the highest in the country, AFG said. Western Australia, where 64 percent of the population resides in the state’s capital Perth, saw its average home-loan size expand almost 8 percent to A$436,000, according to the mortgage broker.
Sydney and Melbourne were among the 10 most unaffordable of 360 cities surveyed by Belleville, Illinois-based urban development consultancy Demographia, with homes costing nine times and 8.4 times the median income respectively.
As investors rather than owner occupiers continue to drive Australia’s home price increases, they are raising the loans’ riskiness, said Martin North, principal at data company Digital Finance Analytics, who has been partnering with JPMorgan Chase & Co. to produce mortgage reports for more than nine years.
Tax rules allow investors to claim deductions against other income if rental property costs including interest payments exceed income.
Loans to investors rose 35 percent in November from a year earlier, compared with a 19 percent increase in mortgages to owner occupiers, according to statistics bureau data.
“If you’re an investor, you want to borrow a bigger loan and you don’t want to pay the loan down,” North said. “With growth in credit flowing to investors, with the uplift in house prices that represents, that means buyers have to put a greater proportion of their salary into housing.”
Household debt was 105 percent of Australia’s gross domestic product in the second quarter of 2011, the highest level among the world’s 10 largest mature economies, according to the most recent comparison of the data by New York-based consulting firm McKinsey & Co.
Average household indebtedness in Australia has hovered near 150 percent of annual income since 2006, RBA figures show, compared with 135 percent in the U.S. Housing debt has been above 130 percent since the last quarter of 2009, the RBA said.
In Denmark, consumers owe creditors 321 percent of disposable incomes, a world record that the Paris-based OECD said in November demands a policy response. In Sweden, debt by that measure is close to 180 percent, while Norway’s private-debt burden is 200 percent.
While Australian consumers are nowhere near as indebted as their Scandinavian counterparts, a rise in borrowing costs would stretch the ability to repay mortgages of buyers clamoring to get a foothold in an overheating housing market. SQM Research Pty, a Sydney-based data company, forecasts home price gains of as much as 11 percent this year in Australia’s biggest cities.
On a 25-year, A$436,000 home loan, a 2 percentage point increase in the interest rate from the current average 5.95 percent would increase monthly repayments by A$555 to A$3,351 a month, a mortgage calculator on the website of the Australian Securities and Investments Commission showed.
With housing prices higher than they’ve ever been, recent buyers, particularly those purchasing for the first time, “are only just about keeping their heads above water with interest rates as low as they are,” North said. “People have less money to spend on other things, discretionary spending will be muted, and that has a depressive effect on the broader economy.”