According to an article in today's Australian Financial Review Sydney's house price falls are set to extend to some record-breaking levels in an outcome that could have wider implications for the economy at large.
The article reports that economists at National Australia Bank Ltd (ASX: NAB) now expect Sydney house prices to fall a whopping 20% from peak to trough.
Assuming the median value of a property in Sydney is around $1.1 million then that would equal an average fall of $220,000 in homeowners' net worth from top to bottom. Moreover, properties in certain areas could fall much further than 20% to leave anyone who bought in the last 18 months deep underwater.
Price falls of this size also create the prospect of negative equity where the market value of a borrower's home is actually less than the size of the loan they took out to pay for it.
For example if you took out an $820,000 loan to buy a $1 million property now worth just $800,000 you'd actually be in a 'net debt' or negative equity position with all the interest costs on the debt still to service. Ouch.
Many property investors also rely on negative gearing to buffer their cash flows in servicing their mortgage debts, however, this relies on the value of your investment property rising as otherwise you're making a cash flow and mark-to-market equity loss on your investment that is not sustainable.
It's also being reported that Sydney's median rental prices are down around 3% over the past year which makes it harder for investors to generate a decent return on equity (annual free rental cash flow, after mortgage, strata, expenses, etc) / equity invested) on their investment.
Return on equity is also a common share market metric that often confuses 'mum and dad' investors, but thinking of it in terms of property investments actually makes it easier to understand why companies with high returns on equity such as REA Group Limited (ASX: REA) and the a2 Milk Company Ltd (ASX: A2M) can make for outstandingly profitable investments.
The NAB's forecast reportedly does not assume any changes to the negative equity rules by a potential Labor government after the May 18 federal election. As such the outcome could be even worse for Sydney's home values.
As a major home loan lender the NAB's experts should know better than anyone about credit and housing market conditions to suggest Sydney's house prices have further to fall from what were arguably bubble-like levels.
