Andreas Wassenaar, Principal of Seeff Properties Dolphin Coast, describes the critical drivers of the property market – and how to make sure you keep all factors in mind when investing now.
The two drivers are the cost of finance and the availability of finance. To be able to understand the most likely direction our market is heading in, we need to understand these factors and the underlying forces that affect them. As many cash buyers as we do have for residential properties, the overwhelming bulk of real estate transactions are reliant on mortgage bond finance.
The prime interest rate remained unchanged at 9% following the Governor of the Reserve Bank’s published statement of the Monetary Policy Committee (MPC) on May 12, this year, which left the bank’s “repo” rate unchanged at 5.5%. This is the rate at which the Reserve Bank lends to the commercial banks, and any change in this administered rate immediately translates into changes in the prime lending and mortgage rates we are all so familiar with. The view expressed by the MPC is that the outlook for our domestic inflation is that the trend has been reversed with inflation expected to increase. We can now be very sure that we are at the bottom of our interest rate cycle, and any movement in the future will be upwards.
Because of the impact the cost of money has on your ability to buy and sell property, expected changes in the trend and the ability to forecast these will assist you in making the correct decisions regarding pricing, if you are a seller, and the level of debt finance you are comfortable with, if you are a buyer.
Our Consumer Price Index inflation was recorded as 3.7% in January and February 2011, 4.1% in March and 4.2% in April. According to the Reserve Bank this is expected to average 4.7% in 2011 and 5.7% in 2012. It is expected to peak at 5.8% in the first quarter of 2012. The inflation expectations of financial analysts, as measured in a survey conducted in the first quarter of 2011 by the Bureau of Economic Research at Stellenbosch University, are for 5.3% in 2011 and 5.7% in 2012.
Inflation
Although inflation is not being driven by demand-pull factors, in South Africa it is the cost-push factors such as higher fuel and food prices that are creating the pressure. Economists refer to factors such as the Middle East unrest and the Japanese earthquake and tsunami as ‘external shocks’ which have a direct and meaningful impact on our local economy. Higher and rising oil prices result when oil-producing countries experience unrest. Natural disasters impact food prices, manufacturing and any company importing or exporting to the region. While the strong rand helped subdue cost-push factors during 2010, foreigners have been net sellers of rand-denominated bonds and equities this year, indicating that we can expect a depreciating rand during 2011 and no assistance from this source in putting the brakes on local inflation.
FNB have measured the household sector’s vulnerability to interest rate hikes by taking the cost of servicing household debt expressed as a percentage of disposable income. This ‘household sector debt-service ratio’ was recorded as 11.9% in the 4th quarter of 2010, which is significantly down from the 16.2% reached in the 3rd quarter of 2008, which caused extreme pain to households and banks, both of which have not fully recovered as yet. Why would banks pay attention to this type of statistic? Well it happens to be an excellent predictor of default rates on their home loan book. The question then is how much of an interest rate hike can we endure before receding back to the ‘painful’ place.
FNB’s expressed opinion is that our debt-service ratio should remain below 13% for relative comfort, which translates into two percentage point increases in interest rates. What this means to every home owner in the country is that you should do the calculation of the impact on your finances if interest rates were at least two percentage points higher and to ensure that you are able to comfortably afford these payments. For a buyer looking to enter the market with a new bond, we advise taking the conservative approach and factoring in a 2-3% increase in interest rates over the short term. The total debt to disposable income ratio for South Africans is now recorded at 77.6%, which is only moderately down from the all-time high of 82% reached almost three years ago at the beginning of 2008. This means that South African households remain highly indebted and are therefore very vulnerable to increases in the cost of servicing this debt.
“Your ability to secure mortgage finance on that amazingly well priced property depends to a large degree on how much other debt you may have. Ooba, South Africa’s largest mortgage originator, has reported that the average initial decline ratio (ie first bank decline) has improved to 45.4% in April 2011 from 54.1% a year earlier – a significant 8.7% improvement. The ratio of applications declined by one lender but approved by another has increased marginally to 21.6% in April 2011 from 21.1% a year earlier. The overall effective approval ratio has increased to 64.4% in April 2011 from 57.3% a year before.
So yes, it is a bit easier to secure finance now, and yes, interest rates do look enticingly low, and yes, there are the most amazing buying opportunities currently available – but invest within your affordability zone and expect interest rates to increase by the end of this year.”
Contact Andreas Wassenaar, Principal of Seeff Properties Dolphin Coast on 082 837 9094; office 032 586 0170; e-mail:andreasw@seeff.com.