What affect will higher mortgage rates have on the Australian residential property market?

If financial markets are anything to go by we are likely to see the cash rate lifted in both November and December bringing the official cash rate up to 3.75 percent and the average variable mortgage rate to around 6.5 percent (see the cash rate futures yield curve here).  Economists seem to be aligned with the financial markets with most tipping an additional 50 basis points to be added to the cash rate before Christmas.

The overall affect on the housing market from three successive rises is not likely to be dramatic.  To most, a rising rate of interest should come as no surprise and the majority of mortgage holders would have been factoring a ‘more normal’ mortgage rate into their budgets.

The numbers of new borrowers who have stretched their finances too thinly are not likely to represent a large proportion of the market due to the fact that banks have been exceptionally risk averse in their lending standards, generally requiring a 10% deposit and demonstrated track record of genuine savings.  For this reason the mortgage default rate is likely to remain low (currently less than 0.5% of mortgages are in arrears).

The tightening of interest rates will affect demand in the first home buyer segment the most as this is by far the most price sensitive segment of the market.  We are already seeing first home buyer demand winding back as the boost to the First Home Buyers Grant has now been halved and the fall back of first home buyer volumes is likely to continue.  First home buyers now represent just 24.7% of all owner occupier housing finance commitments, down from a recent peak of 28.5%.

On balance we are seeing more non first time buyers and more investors enter the market.  Housing finance commitments for investors were up 7.6% in August (see graph below – the value of investment in the residential market hasn’t been this high since Feb ’08)  highlighting the surge in investor numbers in the market as first home buyers wind back.  In all likelihood we will see investor numbers continue to improve over the rest of the year and into 2010.  Additionally, we are likely to see the continued trend of more upgraders returning to the market as both these segments are much less price sensitive to rate rises.

Housing finance commitments for Investment purposes

To provide some perspective, when residential property market values were growing rapidly in 2007 mortgage rates were between 8% and 8.55%.  In the boom of 2001 to 2003 mortgage rates went as low as 6.05% and were averaging 6.6%.  The market will tolerate successive increases in interest rates to a certain point, however if mortgage rates break the 8% mark there would likely be a more serious dampening of demand in the market.  You can see the last two growth phases in the graph below (2001-03 and 2007) and what the average standard variable mortgage was at the time.

Property values with interest rates

About Tim Lawless

Tim heads up the RP Data research and analytics team, analysing real estate markets, demographics and economic trends across Australia

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One Response to What affect will higher mortgage rates have on the Australian residential property market?

  1. Bertha Reynolds October 11, 2009 at 1:13 pm #

    I would tend to agree, even though rates are heading up I don’t think they will get any where near the highs reached in 2008. Of course there will be those singing from the roof tops about the bubble bursting and prices crashing but this is simply not on the cards. Build another 200,000 homes to address the supply deficiency and it might be a different story, but that is not going to happen quickly!

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