Home affordability or the ability of an average first-time home buyer to handle an average mortgage, is only just off its 10-year low, indicating that house prices have risen too far.
House prices in Australia are unlikely to add to inflationary pressures in the near term; put differently, this means that they are not expected to rise any higher contributing to any cause of inflation in the near term.
It also appears very likely that prices at the lower end of the housing market will suffer the most as younger people increasingly struggle to afford a mortgage. This could be good news for those with investment properties as young people will no doubt be forced to rent for longer.

Please note that the "Home Affordability" story above was initially pasted on our website back in February 2008. This view remains relevant even today. We have purposely retained it as an indication that even though residential property prices have since retracted to some extent, they remain arguably inflated enough to keep house affordability high and home ownership out of reach for most Australians. Our view remains that house prices are not realistically reflective of current economic realities and remain subject to price devaluation.


Where to for Property now - a buying opportunity or a value trap?

Commercial property values have further to fall, with the strong Australian dollar masking poor returns to date, according to former Macquarie Group executive director Bill Moss.

Although Australian real estate is relatively in good shape and unlikely to collapse, it can be argued that in a world no longer fuelled by debt, the US dollar and US equity markets have become an even more dominant force.

The fact of the matter is that once you turn off debt, the property market begins to act like equities. Since the beginning of the debt-starved global financial crisis, the office property market in Australia began to track the US equity market for the first time in 20 years.

While more research into this correlation is warranted, it is quite probable that should the US equity markets suffer another downturn, the Australian property market is more likely to follow.

Analysts and commentators have hailed Australian commercial property as a bright spot with returns expected to improve further, however, if this new relationship with US equities holds true, then such improvement is at an end.

Structural changes over the past ten years, ranging from the adverse impact that the rise of online retail has had on shopping centres and retail property values to the effect of ageing populations on global economies, will ultimately translate into higher taxes.

Debt is necessary to inflate asset values - take it away and asset values fall. Imagine a world with no debt and there would be less development, smaller buildings, cheaper finishes and fewer home owners. There will also be fewer property developers driving around in Ferraris.

Without debt, most real estate would be cheaper. The average house would only be worth what a person could save during a lifetime without 90 per cent financing. Over the past forty years or so, wealth did not come from wages less living expenses, but from asset inflation.

Unlike the baby-boomers who reaped the benefits of asset value inflation, the younger generations have not been so lucky. The under-30s have missed the debt bubble and struggle to have a net worth.

At the other end of the spectrum is the impact of the ageing population, first seen in Japan where more people die each year than are born and where property prices are 60 per cent lower than 20 years ago. The lower income of an ageing population will lower property values, while funding healthcare systems worsens government debt.

When we all have to pay more for health, there will be less disposable income and the result is falling asset values.

International debate has so far revolved around solving the debt problem, where it should instead be focusing on costs such health care, social welfare and infrastructure.

Unfortunately, higher taxes will inevitably be needed to fund higher costs as the world comes to the realisation that we simply cannot afford to live the way we have lived.

Understanding future tax levels will be important in analysing the risk of investing in one country compared with another. Governments around the world are likely to introduce more property taxes to raise additional revenues, and this will simply reduce asset values.

The balance between spending on shelter, food, energy, health, education and retirement is changing, and this will affect all forms of real estate - how we own it, finance it and rent it.

In the meantime, greater volatility and uncertainty will continue to influence equities and currency markets over the coming years.

Are we heading for a property market bubble?

The question we are often asked is whether the residential property market is about to fall off a cliff, skyrocket again, or is it all part of the real estate cycle?

Well it depends who you put this question to: ask those who make their living from property (let's call them the optimists) and they will give you all the reasons why you should be grabbing the opportunity of a lifetime and buying now before prices take off again. However, ask those who realistically view property as simply another asset class that ultimately reflects the state of the economy at large, and do not consider it as that invincible investment that just keeps on increasing in value with time (let's call them the pessimists), and they will warn you that economic fundamentals, together with the risk of higher unemployment and unsustainable debt serviceability are by no means the catalysts to fuel inflation and spur growth in asset values over the medium term, with risk remaining on the downside.

The optimists continue to argue the points that:

1. Rental vacancy rates are historically low, allowing investors to maintain consistent tenancy and incomes

2. Australia's projected population growth is expected to continue to drive demand for housing, which makes the prospect of any downturn unlikely

3, The Government is initiating investment in regional infrastructure, helping to develop the regional residential market and easing affordability pressures which will drive up prices in regional areas

4. Household incomes are rising at almost double the rate of inflation. which will improve affordability and give people confidence to venture back into the property market

5. The strength of the underlying Australian economy is the biggest reason to be optimistic, and the mining boom should continue to drive the economic growth for the next 5 years at least, supporting continued growth in household income

The pessimists on the other hand argue that:

1. Levels of household debt, although growing at a slower rate than in the decade before the GFC, could force more people to sell their homes, thus increasing the supply of unsold properties and leading to lower prices.

2. Population growth does not necessarily mean pressure on property values

3. Unemployment may increase at a faster rate than expected, compounding household debt and affordability issues

4. Lower interest rates will not help affordability to the same extent that crippling household debts and unemployment will hinder it

5. Neither China nor Australia can be immune from the economic woes afflicting the world, and sooner rather than later the Chinese government will move decisively to slow its economy in order to control a runaway inflation and avoid economic meltdown, which will undoubtedly bring to an end the Australian mining boom that has helped Australia thus far avoid an inevitable recession.

So who will be proven right in their assumption and what does the future hold for property investment?

I guess only time will tell, but for now it will depend on your personal outlook and your beliefs:

if you are a factual person who bases their decision-making on economic fundamentals and on the knowledge that fiscal and monetary policies are the levers used to manipulate the economy and control supply and demand and ultimately shape inflation and asset values, then you are more likely to subscribe to the view of the pessimists. If on the other hand, you are a person of conviction who believes that brick and mortar are the only sure-proof investment that will guarantee you financial security in retirement, then your unshakeable faith in property should see you through eventually and you will be more likely to see logic with the view of the optimists.

Since acquisition of any real estate must and should always be considered with a longer term investment timeframe, the future outcome should prove similar irrespective of your approach now. It is more a matter of what short-term outcome may be achieved if you were to wade in now or wait.

Disclaimer: The information contained in this publication is of a general nature and is not intended to be nor should it be considered as professional advice. You should not act on the basis of anything contained in this publication without first obtaining specific professional advice. To the extent permitted by law, AUGEO Pty Ltd, its directors and authorised representatives accept no liability or responsibility to any persons for any loss which may be incurred or suffered as a result of acting on or refraining from acting as a result of anything contained in this publication.

Political shenanigan in an election year will ensure no enonomic recovery in the US until 2013 | Europe will unwillingly accept its economic reality, Eurozone will face structural change as peripheral countries finally default leaving bond markets in chaos | China will move to slow its economy to avert economic meltdown as export-led recovery fails to materialize. This will impact the resources boom in Australia, lead to higher unemployment and potential recession spurred by weak manufacturing and retail