A decade or so of real house prices ranging sideways: The new housing reality

• The slump in national average home prices accelerated in July with prices down 0.7% according to Cotality, their largest monthly fall since December 2022. Capital city prices fell 0.9% with five of the eight capital cities seeing falls led by an acceleration in declines in Sydney & Melbourne. Brisbane, Adelaide and Perth now falling too.

• The key drivers of the slump remain this year’s rate hikes, the Budget tax hikes on investors and low buyer confidence with further price falls likely.

• After 6.8% growth in the 2025-26 financial year, we expect national average property prices to fall around 3.5% this calendar year and to fall around 6% over 2026-27, with a top to bottom fall in prices of around 7%. Sydney prices are likely to have a top to bottom fall of around 11%, of which they are already down 5%.

• Units and lower end property are likely to hold up better as they didn’t go up as much, are more affordable and are benefitting from the expanded FHB 5% low deposit scheme. The tax changes also favour properties with higher rental yields.

• Asking rents rose 0.4% in July, with annual growth holding at 5.9%yoy as vacancy rates remain low. This remains a problem for inflation.

Home price downswing accelerating

Cotality data shows national average home prices fell 0.7% in July, with capital city prices down 0.9%, their fourth monthly fall in a row. Prices nationally have now fallen 2% from their high and by around 5.5% in Sydney and Melbourne. 

The boom in Brisbane, Adelaide and Perth is over as they are falling too, with revised data showing that price falls in those cities started in June with Perth likely to get revised negative for July too.

The weakening in the property market has been accelerating since late last year reflecting a combination of rate hikes, the Budget tax hikes on investors, poor affordability and depressed buyer confidence. 

Still working the other way though is the chronic shortage of housing in Australia and a boost from the expansion late last year of the 5% low deposit scheme for first home buyers. 

This combined with poor affordability pushing buyers into lower price points is showing up in relatively stronger conditions in lower quartile property prices and in units.

The slowdown is also evident in weak auction clearance rates and sales.

So far it still looks like just another cyclical correction after a strong period. But it’s still early days in the downturn!

Home prices are likely to fall further

There are three key supports for the property market. 

• First, there remains an accumulated housing shortfall – of 200,000 to 300,000 dwellings - that has built up after years of very strong population growth and the supply of new homes not keeping up. This is evident in low rental vacancy rates. Building approvals have picked up but are still running below the Housing Accord target and completions are running well below the target. The rise in interest rates and construction costs suggests new supply will remain constrained. So, a quick resolution to the housing supply shortfall is unlikely. 

• Second, vendors don’t appear to be in a rush to sell just yet with new listings down from year ago levels, particularly in Sydney and Melbourne, suggesting that they are waiting for better prices and that distressed selling is not an issue at present. This is being aided by still low unemployment. 

• Finally, the expanded first home buyer 5% deposit scheme will help support lower priced entry level houses and units. But the bring forward of FHB demand due to the 5% deposit scheme will likely hit an air pocket next year.

However, while the housing shortage, weak new listings and the expanded 5% first home buyer deposit scheme are providing support for property prices and should help head off a big fall in prices (say 15-20%), the Australian housing market is likely to weaken further as higher mortgage rates, the removal of most property tax concessions, record poor affordability and poor confidence continue to impact.

Rate hikes - three rate hikes this year have taken rates back to their 2023 cycle high. While lower than expected inflation in June along with weaker than expected jobs and housing markets will now likely see the RBA leave rates on hold this month the RBA is likely to retain a tightening bias and we expect one more rate hike by year end as inflation is still too high and likely to take too long to get back to target threatening higher inflation expectations.

So, relief on the interest rate front is still a fair way off. Rate hikes have usually been associated with some softening in property prices or slower growth. See the next chart. This is because they cut how much buyers can borrow, hit confidence and can boost distressed sales. Of course, this is not always the case as other factors can intervene like the population surge did in 2023.

The Budget tax hikes on investors - the move to curtail access to negative gearing and return to the taxation of real capital gains with a minimum tax rate of 30% is driving a decline in investor demand for housing in the near term because they mean a significantly lower after-tax return for investors. 

So, it makes sense for investors to sit on the sidelines until they see lower prices or higher rents or some combination of the two resulting in a higher starting point rental yield before they invest to compensate for the higher tax rate they now face.

This is being reinforced by banks reducing how much they can lend to investors due to their reduced cash flow from the tax changes. We are assuming a 5% negative impact on property prices with the impact occurring over the next 12 months. However, there is significant uncertainty around the impact of the tax changes on investors given that we have not seen such a structural change like this for decades and as such the risk is likely to be on the downside for prices.

Poor housing affordability - the ratio of home prices to wages and incomes is still around record levels and in combination with the rise in mortgage rates has led to a widening gap between home prices and what an average buyer can afford to pay for a property.

Poor buyer confidence – consumer confidence remains depressed as are perceptions of whether it’s a good time to buy a dwelling and consumer expectations for home price growth are falling rapidly. With oil prices rebounding following the demise of the interim US/Iran peace deal and petrol prices heading back above $2 a litre as a result of this and the removal of the temporary fuel tax cut, confidence is likely to remain weak, and this will continue to weigh on home buyer demand. A gradual loosening in the labour market driving higher underemployment and possibly unemployment won’t help either.

With a near perfect storm hitting the property market we continue to expect a top to bottom fall in national average property prices of around 7% which is within the range of average capital city property price declines seen over the last 40 years or so. 

This involves a 3.5% fall this calendar year and a 6% fall in the current financial year. Given the uncertainty around the full impact of the property tax changes on demand the risk is likely on the downside.

By the June quarter next year, property prices are likely to have bottomed with the market starting to anticipate RBA rate cuts – we expect the RBA to start cutting through the second half of next year but a sharp fall in home prices could bring this forward to the first half as falling prices depress wealth which weighs on consumer spending which in turn would bring inflation back to target faster than the RBA is currently assuming (ie, by 2028).

We continue to expect a wide divergence between cities and property types. In terms of price to rent ratios adjusted for inflation as a rough guide to whether a market is over or undervalued - a bit like the PE for shares - houses are 38% overvalued nationally compared to units at just 8%. See the next table. And units are likely to be supported by FHBs using the 5% deposit scheme. So, houses overall are far more vulnerable to a fall in prices than units are.

In terms of houses, Brisbane, Adelaide, Sydney and Hobart are the most overvalued and vulnerable. And in terms of units, Brisbane, Adelaide and Canberra units are the most vulnerable.

Melbourne is the least overvalued and hence least vulnerable city and could benefit relatively if the new Victorian premier or a change of Government in the upcoming election lead to a more property investor friendly environment.

Is the super cycle upswing in property prices over?

The combination of a rising long-term trend in mortgage rates after the long term downtrend that ran from 1989 to 2021, the virtual removal of property tax concessions, record poor affordability and a political shift towards lower immigration after nearly 20 years of relatively high immigration may also mean the 30-year super cycle upswing in home prices may be at or close to over. 

This saw average property prices rise dramatically faster than their long-term trend since the mid-1990s (see the next chart).

In particular, the swing from a long term down trend in interest rates to what now looks to be a rising trend combined with less favourable tax treatment of property investors (who account for 30-40% of the home buyer market) are major structural changes that both point to higher residential property rental yields, via some combination of higher rents and lower than otherwise prices. 

This could start to reverse some of the downswing in rental yields that was a key aspect of the super cycle upswing in property prices over the last few decades, particularly for houses.

If the property super cycle upswing is over it could mean a decade or so of real house prices ranging sideways and a moderation in home price to income ratios. It could also mean that cyclical downturns in property prices are deeper and upswings take longer for prices to reach new record highs.

The ongoing housing shortage remains the key sticking point though so it’s hard to be definitive as to whether the property super cycle has ended or not!

What to watch?

The key things to watch with respect to the next 12 months will be interest rates, oil and petrol prices, unemployment and investor demand in response to the tax hikes. Several more rate hikes, a sharply rising trend in unemployment and a big drying up in investor demand could result in much bigger price falls than the top to bottom 7% fall that we are expecting.

On the flip side a quick resumption of rate cuts, a quick resolution of the oil supply shock and a subdued investor response to the tax changes could drive a renewed upswing in property prices from later this year and through next year.

Overall, the risks for home prices over the next 6-12 months seem skewed to the downside but note that in the absence of much higher unemployment causing forced or distressed sales, forecasts for a national property price crash (say a 15-20% fall or more) are likely to be wrong.

A crash would require wide scale forced selling by homeowners – but without much higher unemployment forcing homeowners to sell this is unlikely.

In terms of the 30-year super cycle upswing in home prices – many of its key drivers (notably falling mortgage rates and high immigration) are now reversing or fading but the housing supply shortfall is key. If it closes quickly thanks to stronger supply and/or a faster fall in immigration, then the super cycle upswing is more likely to be at or close to over.