An extract from Victoria Devine’s new book Property with She’s on the Money
In today’s summer reading extract, finance expert Victoria Devine helps you smash your property goals, whether you’re getting your first foot on the ladder, hunting for your dream home or planning for an investment property.
Friend, I’m not going to lie: the current stage of the property market cycle is pinching. A lot. I recently managed to buy my first house, so I feel all that interest-rate and high-inflation pain too. Believe me!
Weighing up all the factors, I chose not to fix my low-interest mortgage rate back when the rates were quite low. While I don’t love paying a much higher interest rate than what I started on, I also know it’s just part of the cycle. One aimed at trying to bring the cost of living back down and our wages’ buying power back up. As a former financial adviser, I’m onboard with it. (Doesn’t mean it doesn’t sting, though.)
While many things have changed since our parents and grand parents were buying houses, the economic cycle, including inflation, has not – and who knows if it ever will. What has changed, though, is the relative buying power of our income compared to the cost of housing … and this is what’s at the heart of all the bad press.
Since I always say that education is your way out of a bad situation, in this chapter we’ll take a proper look at all these terms – inflation, interest rates, the market – so you can be fully informed about the property-buying journey and its potential impacts. Interest-rate fluctuations are part and parcel of the fun journey of property ownership – the ride you sign up for if you choose to jump onboard this particular train – so let’s find out more.
KEY TERMS
borrowing capacity: how much a bank is willing to lend you, based on your income and expenses.
RBA (the): the Reserve Bank of Australia – our central bank – maintains a healthy financial system, in part, by setting the cash rate and providing liquidity to financial institutions.
cash rate: the RBA sets the base (wholesale) lending rate in Australia, otherwise called the cash rate, to help keep the economy stable.
global financial crisis (GFC): the period of extreme stress in global financial markets and banking systems between mid 2007 and early 2009, initiated by a downturn in the US housing market.
inflation: the increase, over time, of the cost of goods and services. If wages don’t keep up with price increases, your buying power is reduced.
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interest rates: the fee charged to borrow money, usually a percentage of the initial loan amount (principal).
mortgage affordability: how much of a person’s income is being directed to pay their mortgage – industry guidelines suggest it should be no more than 30 per cent.
principal: the initial amount borrowed when establishing a loan.
The long view on the Australian property market
There’s been a lot of talk in 2023 of the ‘cost-of-living crisis’ and ‘rapidly rising interest rates’ and at the time of writing, experts are stating that mortgage affordability appears, quite frankly, unaffordable. So I reckon it’s quite fair to wonder why anyone in their right mind would ever consider buying property. Even if they could possibly afford it.
If we look at the long-term view of property in Australia – say the last 30 years, from 1990 to 2020 – property prices in most capital cities have steadily risen. Even in the last ten years or so, as the following graph shows, while housing prices have had some short-term declines, ultimately, they recovered then increased again.
This will not necessarily forever be the case, with certain econ omists suggesting that tightening mortgage affordability and lending rates will ultimately force house prices to come down. If you’re not yet in the property market, that would be a dream scenario. Trouble is, apart from short-term periods, we haven’t seen this play out. So, to now, people who’ve chosen to wait for this to happen have found themselves priced out of an ever increasing market.
‘Victoria, why does this keep happening? Surely something has to help make housing more affordable?’
The thing is, there are so many factors at play, and both sides of the equation to consider. Those already in the housing market pray that prices won’t plummet, as this could see their life savings disappear down the drain. Those yet to buy are desperate for house prices to stop rising.
The government has a few, limited levers they can and do use to help; interest rates being one, buyers’ grants and schemes another. Let’s take a closer look.
Your inflation primer
‘Victoria, what do you mean by inflation?’
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Followers of our podcast will have heard me explain inflation like this a million times, but it works, so bear with me old friends and strap in new ones …
Inflation is when the cost of goods rises, so our dollar buys less. Think about your Maccas soft serve. When you were growing up it cost like, 30 (maybe SO) cents, right? For me and my sister, it was our after-swimming-lesson treat, and one I was pretty keen on. Fast-forward to today and sometimes, after a summer swim, I still love one. But these days, the exact same Maccas soft serve is going to cost me anywhere from 85 cents to $1. Yes, folks, a whole shiny dollar for exactly the same swirl of creamy vanilla goodness in the same plain cone.
Nothing about a Maccas soft serve has changed. Except for the price. And it’s not because the golden arches are greedy (actually, they make a point of making low-budget meals affordable for the whole family) … No, the reason my soft serve now costs me $1 is because our money today is worth less than when we were kids.
‘Victoria, I earn three times the salary my dad started on. What do you mean my money is worth less?’
Right there, is part of the answer. You earn more, but can buy fewer things (housing being one of them). Since your dad’s first job, the cost of making things has increased. For Maccas, the cost of staff, the cost of rent and the cost of ingredients to make the soft serve have all risen. For them to make and serve you a cone, it costs them a whole lot more. In turn, they have to charge you a lot more, just to cover their costs. Everyone’s playing a big-ole game of kiss-chasies.
Now, in the grand scheme of things, a steady rise in inflation (the cost of goods and services) is a good thing. It’s the sign of a healthy, growing economy and, as with any healthy growing thing, that means productivity. For plants, that means leaves (and, if you’re lucky, some juicy tomatoes) and for the economy, that means more jobs. More jobs means more tax income for the government, which ideally means more support for us by way of hospitals, schools, roads and the like.
The problem is when it all runs away too fast. (Which isn’t a problem I’ve ever encountered, personally, because running? Ugh, no thanks.) When inflation runs hot, the cost of living rises too fast for our wages to keep up. Not only do things cost more, but our buying power is reduced.
The normal rate of growth as measured by inflation is happiest around 2 to 3 per cent. So, when it starts rising too much (like in mid-2023, to 7.1 per cent), that’s why the RBA, Australia’s central bank, hikes interest rates. They do so in the hope it will stop people spending so much. And in turn, they hope that this will put a brake on the rapid rise in the cost of goods and services.
You see, if people are not buying quite so many hot-girl hand bags, then the manufacturers will have to make fewer of them. It’s the old supply-and-demand equation – if buyers aren’t buying, then demand slows, which hopefully cools the cycle. Kinda the reverse of ‘mo’ money, mo’ problems’ – or that’s the plan, anyway. The RBA hopes to reverse the problem of runaway inflation by influencing us to splash less cash.
A quick look at interest rates
So, now that we’re all up to speed on inflation, what has that got to do with property? For a start, interest rates, which is where this whole chat began.
‘Hey, Victoria, talk to me about interest rates.’
Interest rates are the fee a lender charges a borrower for loaning them money – usually, a percentage of the principal (the amount loaned). In Australia, our central bank, the RBA, sets the whole sale rate (the ‘cash rate’) as a way to manage credit growth. Adjusting interest rates is the biggest lever the RBA has available to keep inflation at its targeted 2 to 3 per cent. If the RBA raises the cash rate, the banks that lend consumers money must, in turn, pass those rate rises on – somewhere between 1 to 3 per cent variation on the rate the RBA has set. This is not so they can make more money, but simply to keep operating at the same profit margin.
Although it might not feel like it, especially to those paying off a hefty mortgage, this ultimately benefits us all. A steadily growing economy is a healthy economy. It helps the government afford to continue supplying central support services – such as security, health, telecommunications, grants and funds – some of which, like the various schemes to help first homeowners buy property, we’ll cover off in this book.
That said, when we’re coming off the back of several years of historically super low interest rates – down in the 1 to 2 per cent range – any rise in rates will hit mortgage holders’ back pockets. And that can be a heavy burden to bear if you haven’t factored it in. From May 2022 to June 2023, the cash rate has gone from 0.1 per cent to 4.1 per cent, bringing the cost-to-consumer rate for a variable home loan to roughly 5.5 per cent.
This is partly why investing in property can be such a big ask. First, of course, it’s the price – it’s not like we’re buying an ice-cream (or even a whole box of them!), right? We’re talking hundreds of thousands of dollars. But also, it’s the unknowns and the longevity. I can’t even commit to a single pair of trainers for the next six months, but when you sign up to own property, the bank generally writes you a loan with a 30-year repayment term. That’s a long time, and a lot of interest-rate rollercoasters to ride along the way.
On the plus side, like any long-term investment, the longer you hold, the smoother those bumps are likely to become. As I often like to say, ‘When in doubt, zoom out.’ If we look at the 12-month period we’re in at the time of writing, yes, the buying power of our wages against the cost of property is unsustainable. Unless you have been given a 7 per cent (or more) pay rise this year in line with inflation, then your money is actually buying you less.
