Australian Politics, Housing, and Equities
The Australian stock market is up 5% this year, underperforming other regional equities by double-digits. This lackluster performance can be attributed to a stagnant economy, a stretched household balance sheet and a market that trades at elevated valuations compared to other indices, with lower earnings growth. We don’t see the ASX gaining traction in any meaningful way, particularly as the country is facing renewed political uncertainty and a cooling property market.
Politically, the country seems to be plagued with yet another ineffective government. The current Liberal-Nationals coalition, run by Prime Minister Malcolm Turnbull, has become increasingly unpopular this year as wages flatline, housing affordability worsens, and electricity prices have more than trebled. A new attack on the Turnbull government launched recently involves charges that some of his MPs are dual citizens, which under Section 44 of Australia’s Constitution, is illegal.
A few weeks ago, a unanimous High Court decision ruled that the election of ex-Deputy Prime Minister Barnaby Joyce was invalid after it was discovered that he held Australian-New Zealand dual citizenship at the time of his 2016 election. In addition to Mr. Joyce, four other MPs have been disqualified from membership including Fiona Nash, a National MP and government minister, Malcolm Roberts, from the One Nation Party, and two members of the Greens. Further exacerbating the political nightmare for Mr. Turnbull was last week’s resignation of Liberal Senate President Stephen Parry over concerns about his British ancestry and calls that laws passed under these former MPs should be declared legally unsound.
Mr. Joyce who was a member of the Lower House will be required to face a by-election on December 2nd. According to Parliamentary rules, the other MPs who were from the Upper House, will be replaced by candidates chosen by their own parties. While Mr. Joyce will probably win his seat handily and the coalition will remain in majority, this is another example of the disfunctional political situation in Australia and the inability of the Turnbull government to confront, yet another, challenge. This raises the likelihood of another leadership change in the next twelve months.
Another headwind facing Australia is the potential slowing of the real estate market where prices have more than doubled since 2008. Recent data shows that property may finally being cooling as Chinese buying and investor transactions are falling for the first time in years.
This year, the Australian bank regulator, APRA, announced stricter lending standards for banks and mandated a restructuring of their mortgage books; away from interest only loans, which are typically granted to investors. They also instructed Australian banks to tightened lending criteria to Chinese investors, with some banks now not lending to foreign investors at all. At the same time, Beijing has restricted capital flows for individual property investors and dramatically clamped down on property developers “speculating” in foreign real-estate.
The CoreLogic Home Value Index released last week shows that Sydney’s median home prices dropped 0.5% in October. It was the third consecutive month of lower numbers; resulting in a 0.6% fall for the quarter. For 2017, Sydney’s median prices has increased just 4.4%, well below the 15% rise in 2016; and 12% growth over 2015. A further indication of a softer market was another lower than expected reading for new home transaction activity. The Housing Industry Association recently announced that sales grew only 6% in October, with multi-unit sales down 17%. This data is considered a leading indicator in the property market and peaked in March.
Additionally, over the past few months, preliminary auction clearance rates have fallen to 60-65% from about 75% in 2017. A worrying development is that revised auction clearance rates, which account for late reported results, have dipped below 60%. In a recent report, CSFB wrote that this is an important signal because, according to the RBA, home prices tend to fall when the clearance rate is below 60%.
The slowdown is related to lower activity by two important groups: investors and the Chinese. Investors, who were responsible for more than half of Sydney properties purchases in 2016 are facing stricter standards and higher mortgages rates which have substantially lowered their ability to buy.
Chinese players are facing more controls from domestic lenders and Beijing, in addition to a doubling of the NSW stamp duty on foreign buyers to 8% and an increase in the land tax surcharge from 0.75% to 2%.
It is unclear how large foreigner purchasers are, however, NAB recently calculated that they represented 17% of all apartment buyers and 11% of house buyers in the June quarter; with most of these being Chinese. As of August, Chinese local real estate agents reported a sharp drop-off in sales and according to a Chinese Melbourne-based agent, around 80 % of Chinese buyers will not be able to settle because of financing problems.
The impact could be even greater with the restrictions placed on Chinese developers. These companies bought as astounding 38% of residential development land last year and the fate of their projects, including Country Garden’s $400mn, 4,000 home site outside of Melbourne, is in question.
Better Global Alternatives
To be clear, while we have been cautious on Australian assets for some time, we are not forecasting an equity or property market collapse. However, with its anemic economy, one of the highest household debt/GDP ratios in the world and political paralysis, it is difficult to see any positive catalysts in the short-term. For international stock investors, the market is not compelling being more expensive than most other equity indices at a forward P/E of 16X, with lower earnings growth.