Is Melbourne’s Property Supply Drying Up?

Property is such a topical subject, and it’s not hard to see why. Around 70% of dwellings within Australia are owner occupied. So if to property values change, it will gravely affect the wealth of everyday Australians.

Many have already predicted that Australian property is doomed. We are in a bubble, they say, and house prices will crash like they did in the US. But the comparison between the US and Australia is a stretch, to say the least.

We have nowhere near the relaxed lending regulation that the US had. Sure, it might be easy to get a loan. But you need a 20% deposit; and you must be looking to buy a particular type of property. Only if you do this will things run smoothly.

By particular property, I mean that which the banks look on favourably. This usually won’t be studios or high-rise apartments. In fact, many lenders will stay away from apartments less than 50 square metres.

Why are they so concerned about these types of property? Well, for one, they don’t perform well historically. Regulation is now tighter than ever. So why would banks want to gamble on risky loans?

Banks are in fear of the ‘what if’ question. What if the borrower defaults? What if we can’t redeem our initial capital? Banking profits are becoming less attractive. So the last thing they need is to lose their initial investment on risky loans.

But right now, it is not the average homeowner that’s finding it hard to get a loan. Rather, it is Melbourne-based developers. Developers are struggling to get traditional lenders to fork out the money. And it could be due to a supply problem.

Funds drying up

According to a survey by the Urban Development Institute of Australia, three out of five Melbourne developers are struggling to access bank funding.

The institute asked 50 developers how the current environment was affecting business. The recent policy and regulatory changes have definitely tightened lending practices. So, of course, developers are feeling anxious.

Around 60% of respondents said capital was increasingly unavailable. Traditional lenders are playing hardball when it comes to funding. And around 78% of developers expected at least one of their projects to face delays.

But when there’s a will, there’s a way. If developers don’t want to miss out on opportunities, they might turn to other sources. Third-tier lenders might be the answer for many struggling developers.

Think of third-tier lenders as banks. They can be individuals or corporations who lend to other individuals. I know it sounds pretty much like a bank, but third-tier lenders aren’t under any regulatory agencies. And because of this, their lending rates are usually much higher.

Some third-tier lenders are asking developers for as much as a 50% deposit. If developers cannot put up the cash, they might not even consider lending at all.

Traditional banks usually require a 30% deposit from developers. So, as you can imagine, the 50% that some third-tier lenders are asking for seems a bit outrageous. But if the developers want to stay in the market, it is one alternative to accessing necessary funding.

And as third-tier lenders help out developers, they’re also indirectly helping out property investors. How? If a property investor decides to buy an off the plan apartment, they’re at the whim of the developer’s contract.

The deposit (5% in some cases) and repayments are attractive for low wage earners. Yet investors could end up buying from a developer whose funding fell through. This means the developer, for various reasons, wasn’t able to fund the build.

Therefore, the investor will lose their deposit in most cases. And they’ll receive no apartment either. However, if third-tier lenders can help the developer fund the project, then everyone’s happy. Well, at least the three parties involved, anyway.

How much supply is there really?

With developers finding it hard to obtain funding, you’d think construction would slow down. But this might not actually be the case.

CoreLogic research analysts Tim Lawless and Cameron Kusher released a New Settlement Risk Report this year. The report looks at the number of units due to settle over the next six, 12, 18 and 24 months.

Across capital cities there were 92,102 new units set for completion over the next 12 months. And over the next two years this figure is expected to rise to 231,129.

So is more supply a good thing? It depends who you ask. For property investors looking to get into the market, supply could be a good thing. Excess supply will either stagnate or depress prices. Therefore, first time investors can continue to save without prices running away from them.

Yet if you ask developers, excess supply is obviously not great. The prices at which they sell new developments is reduced. And it makes it more difficult for them to obtain funding from traditional lenders.

Just this year alone there were 1,846 apartments under construction in Melbourne. Construction is expected to be completed by the end of this year. And 4,432 more apartments are expected to come onto the Melbourne market in 2017. But we will soon have to fill all these new apartments coming onto the market.

Of course, some of the 1,846 apartments are likely already paid for. Developers usually won’t start building before they have sold a number of apartments already. But will aggressive developers leave a long lasting mark on Melbourne apartment prices?

The prices to come

Excess supply will place downwards pressure on prices. So Melbourne apartment values could stagnate or even drop in the near future. But it’s important to make a distinction here. If apartments within Melbourne’s CBD are oversupplied, then those prices will be adversely affected.

Houses and apartments within the inner city, or slightly further out, might not be affected at all. They most likely won’t be affected because of one word: scarcity. There isn’t a constant stream of construction and high rise apartments going up in inner city or suburban areas. So these areas don’t experience downwards pressure like Melbourne apartments would.

As it stands, developers have two options. They can either hold off on new developments, or they can keep building, cutting margins even lower. But with the amount of new apartments going up, it does look like prices will keep rising.

Härje Ronngard,

Junior Analyst, Money Morning

PS: Most people think great deals in Aussie property are already all gone. This is the worst attitude to have. Why would you take financial advice from some self-proclaimed guru? Instead, why not do your own research. Take control of your financial future. But where do you start?

If you’re interested in investing in property, check out Money Morning’s property expert Callum Newman’s report ‘Australian Real Estate Game Plan’. In the report, Callum reveals the eight letter word that really drives property values. It’s the ultimate guide to help you start your future property plan, and it’s free!

To get your copy of Callum’s report, click here.

Money Morning is Australia’s most outspoken financial news service. Your Money Morning editorial team are not afraid to tell it like it is. From calling out politicians to taking on the housing industry, our aim is to cut through the hype and BS to help you make sense of the stories that make a difference to your wealth. Whether you agree with us or not, you’ll find our common-sense, thought provoking arguments well worth a read.

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