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Wednesday, 18 August 2010

Collapsing House Prices? We Ain't Seen Nothing Yet...

THE most comprehensive report on the Irish property market is out and it evidences the total destruction of wealth of a certain generation. According to the wonderfully detailed work done by Ronan Lyons at Daft.ie, asking prices countrywide fell by just over 4pc in the second three months of the year -- a slightly larger fall than in the first quarter.

The average asking price nationally in the second quarter of 2010 was just over €224,000 -- 36pc below its 2007 peak. The acceleration in price falls will come as little surprise, but the question now is how can a generation whose balance sheet has been so totally vaporised ever start spending again?

Back in 2007, I wrote a book called 'The Generation Game', which focused on how the generation between the ages of 30 and 40, who had got into the housing market via huge mortgages, would be financially eviscerated. This group was termed "the juggling generation" because they were trying to juggle being good parents and good workers, while still paying these huge mortgages.

The book focused on a generational gap between these commuter-workers and the older generation, many of whom had become accidental millionaires as a result of an unexpected windfall from the housing market.

Obviously, negative equity would swing against the jugglers in the predicted bust, much as positive equity had enriched the accidental millionaires in the boom. In the book and the related documentary, the housing boom was painted broadly as a massive transfer of wealth from one generation to another.

The figures from daft.ie show just how extreme the negative equity trap now is. Prices in Meath, for example, have fallen by 38.4pc from peak to trough.

The figure for Louth is over 40pc; Kildare's is 36pc and Wicklow's 36pc. These were the counties that were growing fastest during the boom.

The question is, where next for the property market?

Are we at the bottom or is there yet more negative news in the pipeline?

During the evolution of a housing crash, there comes a time when the fall in prices tells us less than other indicators, such as the time it takes to sell, the total stock of houses in the market or the amount of houses coming on to the market.

The time it takes to sell gives an indication of how realistic the asking prices actually are. All around the country, estate agents' windows are full of houses -- but if they are not selling, then the price asked is of limited value in determining the next phase of the market.

So, for example, the average time to sell is four months in Dublin, whereas it is up to a year in Connacht and 10 months in Munster.

The suggestion here is that prices in Dublin -- having fallen by 50pc in the city centre since the peak -- are not at the bottom yet but might be getting close.

In contrast, the rest of the country has a long way to fall.

The other concern, given what we know about unemployment and negative equity, is how many of the sales are forced sales, rather than voluntary sales? How much of the new stock reflects bankruptcy, rather than people thinking: "Okay, now I might put the house on the market because I think there is more activity"?

In terms of where prices go, it is now crucial to understand the change in mass psychology.

A property crash normally ushers in a period where people choose to rent over buying, particularly with so much choice out there and with so much uncertainty about job prospects.

Furthermore, to assess whether a house is good value or not, the prospective buyer has to do some basic maths to see why he should buy. And whether we like it or not, for a housing market like Ireland's to clear, investors need to come back into the game.

Let's look at it from the perspective of the investor, by looking at the return to buying houses now through the prism of yield. What percentage yield does an investor have to get to make it worthwhile investing in bricks and mortar for rent?

LET'S do the sums. With government bonds yielding more than 5pc, it's fair to suggest that an investor would need to get a yield of at least 7pc from housing. So taking the average house price at €220,000 and the average rent at €863 per month, we see that the investor gets -- with these prices and these rents -- a gross yield of just over 4pc. This is before he takes into account his funding costs. Why would he bother getting into the market just yet?

In order to make a 7pc yield at the present average rent, the average price of houses would have to fall to €135,620. This suggests a huge further drop in average house prices here.

This is quite stark reading, particularly when you consider that house prices overshoot, both on the upside and on the downside.

So even without the overshooting process, the investor would be crazy to get into the market at these prices. So too, therefore, would the renter be mad to buy the house that he is in at these prices.

Prices would have to fall by another 30pc for the renter in the commuter belt to choose buying over renting.

This is the central inconsistency which exacerbates the generation trap in Ireland. For the housing market to clear, prices have to fall much further; the basic maths can't be fudged. But when this happens, the negative-equity trap will tighten on the recent home-buying generation, whose only crime is that they were born in the wrong decade.

So for Ireland to recover, there will have to be a 'lost generation' who will be largely shut out of whatever economic future this country experiences.

This generation trap is the poisonous legacy of the Ahern-Cowen years.

"A lot done, a lot more to do."

Yeah, right.




Article by David McWilliams - Irish Independent

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