After a peak to trough decline of just over 4%, home prices at a national level are now growing once more, with Sydney leading the rebound.

The housing market started the year on a stronger footing and after nine consecutive months of declines, home prices rose in March for the third time this year.

Market conditions are firmer and although auction volumes are lower, clearance rate are at the highest level in a year.

And they remain elevated in comparison to the back half of the year, when the fast uplift in interest rates created a mismatch between buyer and seller expectations.

Rising mortgage rates, inflation, and economic uncertainty have dampened homebuyer demand, resulting in sales volumes falling from the strong levels seen in 2021 and early 2022.

National sales volumes were 24% lower throughout the first 12 weeks of 2023 when compared with the same period in 2022.

But they remain close to levels seen in the same period in 2020 and above volumes recorded in the first 12 weeks of 2019. This suggests that while overall activity is down, it is stabilising.

What’s driving the rebound?

While interest rates have been the primary driver of home price falls to date, there are other factors at play in the market.

The supply of properties for sale, the rate of immigration, new home building, tight rental markets and interstate and regional migration all impact home price growth trends, as well as how they are distributed across the country.

Currently, the softer flow of new listings and limited stock on market, combined with tight rental markets and the strong rebound in immigration, are offsetting the downward pressure from interest rate hikes.

Fewer properties are hitting the market compared to the same time last year, which is creating a more competitive buying environment and buoying home values.

The level of buyer demand is helping to keep prices resilient to the to the falls the calculated shift in borrowing capacities would imply.

Markets that led downturn now lead the nascent recovery

According to the latest PropTrack Home Price Index, Sydney has led the recovery in home prices so far, recording the greatest lift in values out of all the capital cities over the past quarter.

Sydney home values are up 1.01% over the March quarter, which is the fastest pace seen since the December 2021 quarter of.

Sydney also led the downturn and saw the largest correction, with home prices falling 7.19% from the peak to the low point recorded in December 2022, which could be another factor buoying buyer interest.

Sydney prices remain 6.25% below their peak, however that decline has only very slightly unwound the pandemic boom, with home prices still up 22.8% on pre-pandemic levels.

And although home prices have fallen from their peak in most markets, in each capital city and regional market Australia-wide they remain up considerably compared to pre-pandemic levels.

Drilling down into smaller geographical areas, regions that led the downturn appear to be leading the emerging recovery.

Further drilling into the data by percentile value, although the lower end of the market held up better through the downturn, the upper end is driving the recovery.

After falling sharply during the downturn, more expensive areas of Sydney and Melbourne are seeing prices bounce back the most.

More expensive housing stock has generally recorded greater declines, which may be seeing opportunistic buyers re-engage.

Previous cycles have seen a similar trend, where the upper end of the market leads both the downturn and subsequent recovery.

What’s ahead?

We have now reached or are very close to a peak in the interest rate cycle.

While the significant reduction in borrowing capacities and deterioration in affordability implies larger price falls than have been seen to date, the downward pressure on prices from the substantial tightening already pushed through is being counterbalanced by strong demand drivers.

A strong rebound in immigration and tight rental markets, combined with the limited stock on market, are underpinning home prices.

Now the RBA has paused its tightening cycle, the bottoming-out process is likely to continue with home prices further stabilising as some of the uncertainty buyers have experienced reduces.

With the end of rate rises seemingly in sight, both buyers and sellers can better adjust to the higher interest rate environment and move ahead with their property plans. If inflation pressures end up being more persistent than expected, this would change.

Stock levels will also influence home prices in the coming months. If the listings environment remains constrained, with fewer properties coming to market, that may continue to put a floor under prices.

However, headwinds remain, with the full impact of recent rate rises yet to be felt.

The fixed rate mortgage cliff?

This is why the so-called ‘fixed rate mortgage cliff’ will be a key test of conditions in the coming months and whether the downfall in prices finds a second wind.

It takes time for higher interest rates to fully impact household cash flows.

And in this tightening cycle, so many borrowers who took advantage of record low fixed rate mortgages throughout Covid are yet to feel the full impact of rate rises.

A closer look at CBA’s loan book serves as something of a proxy for the market, given more than one-in-four home loans are with the bank. It reveals that one in two outstanding fixed rate home loans is set to expire at some point this year.

Many of these borrowers face large increases in mortgage repayments as their fixed rate terms expire in coming the months.

The RBA’s Securitisation Dataset indicates that about 35% of outstanding mortgage debt is fixed. About 70% of that debt is due to roll onto variable loans this year. Those households face a sharp increase in servicing costs as they shift onto a rate that is substantially higher.

This increase will be countered to a degree by large savings made throughout the cheap fixed period. And for those who are able to refinance with a different lender, the current level of competition – with less buoyant credit conditions seeing many lenders offering discounts – will also provide some respite.

In addition to liquidity buffers, strong home price growth through the pandemic means many households have substantial equity buffers in their homes.

The tight labour market conditions also provide a safety net for many households.

Banks will also be working with their customers to minimise this hangover, or cliff, as some have termed.

However, there is no doubt that this will be a challenging period, with substantial budgetary adjustments required in the face of cost-of-living pressures biting elsewhere.

For the most part, homeowners are likely to prioritise their mortgage repayments, and household spending will decline preventing mortgage defaults or a significant number of distressed sales.

As such, it is expected that consumer spending will slow sharply in the coming months as the full impact of higher interest rates already delivered catches up.

All told, the housing market bottoming-out process looks to have begun.

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