Why property prices will go down

The honeymoon is over. For those of you who thought the increase in property prices would go on forever the market will soon prove you wrong. The good news is that the decrease in house prices will occur gradually. It’s not going to suddenly implode and come crashing down, unless of course a major event were to occur to catalyse such a situation.

“We are getting near a price correction. It will be a long period of stagnation and not a shock,” said John Loos, household and property sector strategist at FNB Home Loans last week.

“Many housing market corrections take place slowly in real terms,” adds Loos, “where often over a number of years one gets slow house price inflation, which by-and-large remains below the general rate of inflation in the economy as measured by such common measures as Consumer Price Inflation (CPI) or wage inflation.”

In other words, while house values may be rising in real time, when adjusted for CPI inflation they are declining gradually.

The long haul

So how long will this ‘correction’ go on for?

Loos reminds us real housing market corrections can be particularly long. The previous downward correction in the 1980s and 1990s took place over almost 15 years from 1984 to 1998. But after that the country experienced a massive boom from 1999 to 2007.

Loos adds that while some say that South Africa has already had a “downward correction” since the end of 2007 he would argue that this “process” was not nearly completed. So why haven’t prices fully corrected?

Loos believes this is because the correction was cut short by abnormal fiscal and monetary stimulus across the globe, as well as domestically where government widened its fiscal deficit and the South African Reserve Bank (SARB) cut interest rates to multi-decade lows to “keep the economic party going”. This delayed the full correction.

Now this stimulus is running out. Government has begun to raise taxes more aggressively to narrow the deficit. In the Budget Speech earlier this year income tax hikes were announced. Then there’s a strong possibility that the SARB will increase rates. If you look abroad, the United States is set to do the same thing soon.

Loos adds there is little structural economic change happening in South Africa at present to keep the momentum of that stimulus going. He points to social tensions adding that: “All of this means that we appear destined to be perhaps a 1% to 2% growth economy at best, instead of a 5%+ one.”
 
Bottom line is that South Africa is going through tough economic times and house prices will soon have to reflect this economic weakness. And if there’s no more fiscal or monetary stimulus then there’s nowhere to go but down.
 
“We had expected one last postponement of the “correction” to come from sharply lower energy prices early this year, and a resultant boost to the economy. However, against this we have electricity constraints proving disruptive to the economy, while non-energy commodity prices have also fallen, hampering certain key SA exports and thus economic growth. The result has been what appears to be a disappointing start to 2015 economically, and the pace of residential market strengthening has slowed,” says Loos.
 
He adds: “From here onward, therefore, we don’t see any further obvious economic boosts that could sustain the pace of residential market strengthening of recent years. The market still remains a “comfortable space”, but perhaps the time is near for lower single-digit house price growth, and for the “longer term real price correction” to gradually resume.
 
A good time to buy?
 
Even though we are due for a correction in property prices there is still some good news. When asked about property prices in high demand areas, Loos says: “There will always be pockets that don’t see a slowdown. It’s [the house price correction] going to be a slow puncture where some houses in certain areas will outperform. Cities are becoming more centrified. A good school will make sure that certain zones remain in demand. Also properties close to public transport will do well.
 
He also advises potential buyers to consider smaller more affordable properties, pointing out that we will see more increases in prices elsewhere. “It’s not going to stop with Eskom. Water comes next and it’s going to cost more to own a house. Increases in municipal prices need to be thought of.”
 
When pressed about whether it’s a good time to buy Loos advises: “If you want an investment property then now is not a great time to buy. That time has come and gone. The time to buy an investment was back in 1998 when prices were rock bottom.”
 
He adds that potential homeowners consider the entire cost of purchasing a property and not just the purchase price. “Interest rates are very low and the Reserve Bank has said it wants to normalise rates which means they will be going up. You’ve got to look at that and the fact that municipal rates will go up too.” 
 
Strength of WC house prices
 
Those who have bought property in the Western Cape (WC) still have reason to smile though. “The Western Cape appears to be the strongest of the major provincial residential property markets of late,” says Loos.
 
The FNB Western Cape House Price Index for the first quarter of 2015 rose year-on-year by 9.2%. This is mildly slower price growth than the 10.7% recorded in the corresponding quarter a year ago, but is the highest price growth of the four major provinces.”
 
Stats provided by FNB showed that 18% of sellers sold in order to upgrade properties, while 14% sold to downscale to smaller homes due to financial pressure. Loos says that to date there has been little hint of renewed rise in percentage selling due to financial stress.
 
There are many drivers of this growth in the WC. The province’s economy remains one of the strongest in terms of growth, only slightly behind Gauteng’s growth and keeps its employment and household income growing faster than other regions. It is also perceived as a well-run province with a strong economy and a good lifestyle. The province benefits from repeat home buyers, while the other provinces suffer from fewer repeat home buyers. Foreigners are also tempted by the attractiveness of the province and property in the WC has regained popularity as a global asset class in recent years.
 
But the province is the most expensive points out FNB, which means it’s become a challenge for first time buyers to get their foot up on the property ladder. This is despite its per capita income being slightly lower than that of Gauteng, the country’s wealthiest province. However, Gauteng is landlocked and therefore suffers less of the land scarcity than does the City of Cape Town Metro Region.