Fair Value

They say that insanity is doing the same thing over and over again and expecting different results. By that definition, many of the nation’s most high profile economists are insane. One of the defining characteristics of Australia’s leading economists is that they will never change their theories about housing markets and property prices, no matter how often they are exposed as being wrong. The senior economists working for the big banks continue to discuss the entity they call “the Australian property market” in terms of interest rates as the biggest factor of influence, despite having their views cruelly exposed by the results of 2023 (when they all predicted prices to fall 15% or more because interest rates were rising, only for prices to rise strongly). Their forecasts are ALWAYS wrong because they think it’s all about interest rates and they refuse to admit that their simplistic mindset is flawed. So they keep getting it wrong. But perhaps the greatest example of refusing to let go of pet theories, despite repeated failures, comes from the senior economist for AMP Capital Shane Oliver, who gets my award as the worst forecaster of property price trends in the nation. Oliver has long had his nose out of joint because property prices refuse to behave themselves, according to his world view, and because housing is “over-valued”, according to his cherished theories. It was Oliver who famously went public in 2005 to declare there would be no growth in property prices across Australia for the next 10 years because property was massively over-valued back then. Here’s what he said in 2005: “House prices are at least 25% over-valued and may not start to rise again for another decade. It will take 10 years for rents and wages to catch up with house prices and there will be no rise in the housing market until they do so.” But, of course, property prices did indeed rise between 2005 and 2015 – a lot. According to the ABS, Sydney’s median house price rose from $494,000 in 2005 to $864,000 in 2015, while Melbourne increased from $320,000 to $570,000 and every other capital city had similar increases.  There were also big increases in median prices for apartments in ALL of the capital cities. So how could a senior economist for a major national institution get it so wrong? Essentially, it’s because of the belief that house prices should be intrinsically linked to other factors like rents, for example, as declared by Oliver back in 2005. But there is no evidence I’m aware of that this linkage exists. In my 40-plus years researching and writing about Australian residential real estate, I have never seen any evidence that the level of house prices is dictated by residential rents, or influenced by them in any way. House prices rise because of competition in the market. If a house is for sale and there is more than one person interested in buying it, this will tend for put upward pressure on the price. This is particularly so in an auction situation, but can also happen in private treaty sales. This is notably so in recent times, with ongoing strong demand for properties (inspired in part by strong population growth, boosted by high migration levels) at a time when supply is historically low.  We are not building enough new dwellings and there is a shortage of listings of properties for sale, relative to buyer demand. So, prices are rising. Competing buyers at an auction don’t spend any time thinking about rental levels, keeping in mind that the vast majority of buyers in the market are home buyers, not investors. Now, here’s the broad definition of fair market value used by the people whose job it is to estimate such things, property valuers:  “The estimated amount for which a property should exchange on the date of valuation between a willing buyer and willing seller in an arm's-length transaction after proper marketing wherein the parties had each acted knowledgeably, prudently, and without compulsion.” You will note that there’s nothing in there about connections with residential rentals or current wage levels.  It’s simply about the price arrived at in a competitive market. But, despite being so spectacularly wrong about what would happen to property values in the decade following 2005, not to mention his forecasts for price outcomes in Australia in the past several years, has Oliver discarded his theory and sought something more credible? Sadly, no. Oliver burst into print again in early March to declare, again, that house prices have outstripped what he terms “fair value” in many parts of Australia. He published an analysis, for want of a better word, that found that house prices across Australia were over-valued by “more than 29%”. In Sydney, he said, houses are over-valued by “almost 33%”, which means the median house price needs to fall by $458,000 to be considered fair value, according to his beloved theory. Brisbane was over-valued even more, by 33.5%, and Canberra by 31%, while in Melbourne it’s 26%, according to Oliver. What he is saying, effectively, is that everyone involved in the housing market – buyers, sellers, valuers, buyers agents and selling agents – are all idiots behaving foolishly. How has he arrived at this stunning conclusion? By comparing price levels with rents, in the same way as a price-earnings ratio for shares – the same method he used back in 2005 when he was so utterly wrong with his forecast for house prices for the next 10 years. Here’s the big difference: everyone who buys shares is an investor; most of the people who buy houses and apartments are not investors, they’re home buyers, and they don’t spend a single moment considering how the price they are paying relates to how much rent they could get for the property – because they plan to live in it themselves. Oliver’s belief is that property markets should work the same way as equity markets in determining value.  But the key point is that they DON’T. He may think they should, but they DO NOT. Never have – and, I dare say, never will. I note that the head of Australian economics for Commonwealth Bank, Gareth Aird, strongly disagreed with Oliver’s assessment in the same articles that published it. Aird said that “over-valued” was a strong term and commented: “Unless you think house prices are going to fall, you can’t call them over-valued.” Well, exactly. Current price levels have been determined by the free and open market, as they have always been – and, far from being over-valued and therefore set to fall, dwelling prices are set to rise in 2024 in most parts of Australia. Meanwhile, Oliver clings to a theory that was spectacularly wrong almost 20 years ago and has contributed to his extraordinary track record of failed forecasts about property prices since then.