The last few months have seen a significant shift in housing market media attention with a surge in auction activity and signs of strong price rises in Sydney putting house price discussions – at a national level – back to the front pages. Economists at Commsec even prepared a slightly tongue-in-cheek ‘housing bubble index’ which showed that media mentions of ‘housing’ and ‘bubble’ hit a decade high in September. Whilst on one level this rhetoric about house price rises can influence and encourage exuberance and herding, Perth and regional Western Australian property markets have been largely running to their own tune.

Perth has been the standout market in the state, experiencing stronger sales volumes and moderate price growth for near on two years.

When the Reserve Bank was cutting interest rates in late 2011 and throughout 2012, Western Australia was still experiencing low unemployment (below 4 per cent in mid-2012) and strong population growth. Most of the population growth was in Perth, with more than 1,000 people migrating into the city each week. With rents rising strongly and dwelling prices stable for some years, first home buyers didn’t need much incentive; but they got one in the form of declining mortgage rates.

As sales picked up, stock levels declined and the pendulum swung in favour of vendors. All the key indicators were pointing to an improving established property market in Perth. Median prices lifted as second and third home buyers, whom had been sitting on their hands for several years, became more active in the market. This momentum continued into the first half of 2013 and indicators kept improving.

With a lot of the pent-up demand exhausted, and price expectations easing, there are, however, early indications of challenges that will test the sustainability of the upward momentum.

First home buyer volumes will eventually decline. There is not as much of an impetus to exit a Perth rental market that is much different to 12 months ago. The median rent of new leases signed in the September quarter declined on three months earlier and online listings have surged 167 per cent over the past 12 months (a product of renters becoming home owners and increased dwelling investment). There is also the prospect that the next rate change will be up, with lenders in recent weeks increasing fixed rates that fell briefly to less than 5 per cent per annum.

In recent months we’ve seen applications for FHOG decline (down 8 per cent over the September quarter), but it is too early to tell whether this was seasonal or the start of a decline in first home buyer levels.

Moreover, although existing home buyer activity has improved, the number of buyers upgrading their home is only back to the 20-year average. Over 2005/06, there were more than 59,000 loans to upgraders in WA and today that same figure is running at less than 40,000 loans per annum.

Investor finance is up 20 per cent on 12 months ago, but this figure is not as easy to track and make comparisons as it relates only to the total value of loans. And based on total value, investor finance is still below 05/06 highs.

Relatively low levels of investor and upgrader activity compared to seven years ago is not necessarily a concern. Over this period, established house prices in Perth jumped 74 per cent in just two years and vacant land prices in Perth increased 92 per cent. However, as first home buyer activity eases, sales volumes will only be maintained if existing and, to a less extent, investors take up the slack. To date, this seems unlikely and easing turnover in the established market will eventually translate into reduced new dwelling demand.

But this is some time off. The latest residential construction data is unambiguously strong.

Dwelling construction starts in WA increased 11 per cent over the June quarter and pushed dwelling commencements for the financial year up 35 per cent to more than 24,000 dwellings; surpassing revised forecasts prepared earlier this year.

Previous dwelling construction cycles have historically peaked between 23,000 and 27,000 so we are in the range where cycles begin to turn, but all indications suggest that the residential construction pipeline is doing anything but slowing down. The September quarter recorded the highest number of dwelling construction approvals in WA since 1988, with more than 7,500 dwellings given construction approval over the three months to September.

In Perth, dwelling construction has lifted much faster than regional markets, with particularly strong increases in detached house construction. House approvals in Greater Perth are up more than 50 per cent on levels 12 months ago and are running at the same pace as mid-2006 highs.

Although housing construction levels in Perth may not trend much higher – indeed, given labour and capital constraints, they may not be able to – current levels are expected to be maintained over the short-term. Land developers in Perth are bringing stages forward and selling blocks at 44 per cent above the ten-year average despite a decline in sales over the winter months. Many of these blocks selling now will translate into construction starts next year and build onto an already long pipeline of work.

The medium and high density pipeline is also strengthening, albeit less than the detached house sector. In Perth, approvals for multi-unit dwellings are up 23 per cent on 12 months ago and apartment projects are reaching pre-sales targets much quicker.

Overall, the picture from land sales, dwelling approvals and finance data suggest that dwelling construction workloads will continue to increase in 13/14. We are estimating a further 8 per cent increase on 12/13 levels (that is, 26,000 dwelling starts in 13/14), but this will put further pressure on building timeframes, costs and labour availability.

Research by MBA and HIA suggest that building trade availability is in undersupply. HIA said that the cost of residential construction labour increased 9 per cent over the past 12 months and MBA said there has been a 95 per cent increase in calls for subcontractors for major building trades over the last year.
There is also the question of land supply. Low levels of land on the market will also limit the number of dwellings under construction. Vacant land listings in Perth are down 45 per cent year-on-year and developer stock on the market levels have declined by a similar margin.

Developer stock levels are, however, in a better position than 2005/06 and this has helped keep price rises at a manageable level. After increasing throughout the first half of the year, vacant land price growth appears to have steadied at around 6 per cent per annum in Perth. On balance, if low stock levels don’t cause a spike in prices, land sales may only soften slightly in 2014 and this would translate to a peaking of construction around late 2014, early 2015.