Liquidation and a downturn in the housing market: Does it spell disaster?
Phillip Parker from Altair Asset Management made a huge move last week by liquidating all of the fund’s Australian shares and returning the money back to investors. Parker stated that the bubbles in Chinese debt, overvalued property in the east coast, and overvalued equities would lead to a major shock for Australian equity investors.
In addition to this, we’ve seen a decrease in Australian home prices by -1.1% month on month in May and a predicted 8.3% year on year drop. AMP economist Shane Oliver stated that ‘May is weak seasonally so exaggerates but the boom is likely over’. Demand for investor credit increased by 0.6% in April, placing the annual growth of investor credit at 7.3%. Though, this could be linked to a possible increase in ‘interest-only loans’.
‘Interest-only’ loans allow a bank to provide the same principal mortgage, but with an interest only period for the first several years. This could sound very attractive to someone who is initially entering the housing market. Access to finance and you just have to pay back the interest for the first few years to get prepared? Sounds great.
Well the issue comes when we consider the fact that after that interest-only loan period, the home-owner will have to pay a higher fee for the next twenty years of the interest and principal sum. For example, by putting off paying the principal in the first five years of a twenty-five year loan, you’ve increased the amount of principal you will have to pay over the next twenty years.
When you consider the rate at which incomes increase, this could be perfect for someone with a fast career progression but if you aren’t going to foreseeably make more money due to an increase in living expenses or a stagnating wage, you’ll be hit with an unmanageable level of debt for two decades.
Overall, it seems like the Big 4 banks have over-leveraged Australian home buyers leading to a high level of risk and volatility. Richard Holden compared the level of finance accessible to a household that earns $160,000 a year in the U.S. and in Australia, adjusted for currency. In the US, this household can only access $3,733 while the same home can access $4709 in Australia.
We need to consider what the major risks of this type of volatility in risks are. Any major drop in unemployment, housing prices or equities could lead to a perfect storm and result in a major financial disaster in Australia.