Special ECONOMIC UPDATE Edition...

Twice each year, in March and September, members of the Investment House team meet with senior economists from BIS Shrapnel to review recent happenings and gaze into the economic crystal ball.  BIS Shrapnel have long been regarded as one of the leading economic forecasting groups in Australia, particularly in the areas of construction and property investment and have quite an enviable record for calling trends accurately. 

This March, Investment House Managing Director Colin Ferguson spent a half day with Chief economist Dr Frank Gelber and Senior Economist Mr Matthew Hassan. 

Forecasting is not an exact science

Before exploring the forecast, let’s get one thing on the table up front.  It’s important to understand that economic forecasting is not an exact science.  Economic forecasters are a lot like weather forecasters – the further into the future we look, the more general the forecast becomes.  And in the same way that it sometimes rains in one suburb whilst another doesn’t get a drop, there will be different economic outcomes in one area compared to another.  We need to listen to their message and apply the trends and approximate timings to our investment decisions rather than pin our hopes on exact highs and lows occurring on exact dates and times.

Additionally, we need to be mindful that they represent just one professional opinion.  Much of the “professional opinion” is broadly in line with BIS Shrapnel, but that is not to say there aren’t some significant dissenters. 

A key reason for our working closely with BIS Shrapnel over other forecasting groups is their “medium term outlook”.  They look to forecast likely trends over the next two and three years.  This medium term outlook is unusual in economic circles.  Most commentators getting air-play in the media are employed by the banks and fund managers.  Their expertise is more inclined toward the short term money market, so for them forecasting 90 days in advance is “long term”.  From our perspective as property investors, a 90 day forecast is almost irrelevant, and the two to three year outlook is much more valuable. 

So what is it they are saying?

In a nutshell, on the national front, the economy is growing well and will accelerate over the next few years to a boom in 2007 before heading into a downturn in 2008.  In Queensland, the resources boom is fuelling growth coupled with a continuing strong population influx with commensurately high job creation.

Dissecting that further, they see

• The economy has been strengthening since 2001 driven principally by the residential housing boom and consumer spending.  The reserve bank stifled this activity with its very public rhetoric about worrying consumer debt levels and the threat of housing interest rate increases.  Residential activity has now softened and next phase of the growth cycle will be driven by Business Investment comprising expansion of production capacity (warehousing, racking and shelving, telephone systems etc) as business faces capacity constraints and expands to keep up with continued strong demand.

• Employment levels are very strong with unemployment holding at a low 5%.  Business is being confronted with skill shortages and this is expected to put upward pressure on wages which in turn will flow through to inflation.  The majority of workers are in the category of “individual contracts” and the forecast suggests they can anticipate increases to salaries in the order of 18% over the two financial years ending June 2007.  This substantial increase in family income at a time when house prices are forecast to stay relatively flat will have the effect of improving housing affordability, which in turn will help to underpin the next cycle of growth.

• The employment prospects / skills shortage is exacerbated in both Queensland and WA where the resources booms are having a significant impact.  Both states are currently experiencing previously uncharted highs in the ratio of job vacancies to unemployed where there are just three unemployed persons to every job vacancy.  This is good news for property investors as job creation underpins continued migration, which in turn generates further demand for housing.

• Headline Inflation (CPI) edged up to 3% toward the end of the year, but most of this was due to fuel prices. Baseline Inflation remained surprisingly benign finishing the year at 2.3% which remains well within the Reserve Bank’s target range of 2-3%.  The forecast to 2007 is for Headline Inflation to rise to 3.0% by mid 2006 and 3.3% by mid 2007 causing the Reserve Bank to raise rates.  It should be noted this forecast has softened marginally from the September 05 expectations.

• Interest Rates are forecast to increase as the Reserve Bank responds to inflationary pressures – variable housing rates are holding at 7.3% but are forecast to rise to 8.1% by mid 2007.  It’s noteworthy that this forecast has again been downgraded from earlier forecasts.

• Population migration to Queensland has softened but still very positive with net international migration of 22,000 and net interstate migration of 31,000.  The forecast is for it to remain strong (at about this rate) with strengthening overseas migration compensating for a softening interstate migration rate.  This reinforces the existing high demand for housing.

• Queensland dwelling approvals are currently around 37,000 pa which is 6,000 less than that required for demand flowing from population gains.  To meet demand, it is estimated supply would need to increase to 43,000 pa.  This stock deficiency has been growing for several years and has now amounted to an underlying stock shortage of 38,000 dwellings (representing 10 months demand).

• Residential Capital Growth for Brisbane Houses was 2% to mid 2005 which was much slower than the massive 31% for the year to mid 2004.  House prices are forecast to grow at 6% to mid 2006 followed by a flat to declining market to mid 2008, and then an upswing from 2009.

• Residential Vacancy for Brisbane is very low.  Effective December 2005, Inner Brisbane was 2.1% which was up from June; Remainder of Brisbane remained steady at 1.8% and Brisbane Surrounds was down slightly at 2.2%.  Vacancy for all of Queensland was down to 2.7%.  Rental prices for Brisbane have jumped from $310pw in March 05 to $340 pw in March this year representing a 9.7% increase. (Note – vacancy stats sourced from Qld Govt – OESR and Rental Prices from Residential Tenancy Auth.)

Getting a little closer to home

With the exception of the rental figures, that’s the picture as seen by BIS Shrapnel.  As property investors we are generally interested in very local areas in specific cities.  BIS Shrapnel’s perspective is much like looking at the market place from the moon – they see the big picture but they don’t see what’s happening at a street to street level.  The big picture is valuable for overall trends, but to get a feel for the real winners and losers you need to be on the ground.  In this regard, the Investment House team can offer valuable feedback.

So what is it like “on the ground” in Brisbane? 

Investors are primarily concerned with two things:

1. prices growth, and
2. the rental market. 

Let's address Price Growth first

For some 15 months we’ve been describing the retail sales market as being “confused”.  There have been mixed signals.  On one hand there have been some quite healthy sales prices, but these have been intermingled with other sales at lower than expected prices.  The sales environment has remained a buyers market despite the massive influx of people and some recent promising anecdotal evidence that a firmer price floor may be returning. 

January and February showed slower than expected local sales activity and auction clearances remained low.  March heralded an apparent turnaround with anecdotal evidence of more owner occupiers active in the market.  In our last newsletter the Research Team reported increasing difficulty in successfully negotiating the “wholesale” prices they’d been able to win for the last six to twelve months.  This was also attributed to increased owner occupiers in buying mode.

Median Prices and Sales Volumes represent good indicators of local activity.  The following charts show example suburbs ranging from 2km to 25km from the GPO.  It is interesting to note the local price growth pattern for each suburb in comparison to the median lines.  Although the suburbs were selected randomly and the sample is very limited, it would appear the further out from the GPO a suburb lies, the more volatile the cycle is likely to be.  The stagnation phase appears longer and flatter than suburbs closer in, and the boom and bust phase are markedly steeper.  It magnifies the importance of selecting quality areas during stagnation phases.

Disclaimer

All information in this report is general information only. Nothing in this report is meant to be specific investment advice, nor should you treat it as such. Everyone's individual circumstances will vary widely and you must seek advice from your own independent licensed investment adviser before investing into any form of investment. Investment House, its employees and representatives take no responsibility for the result of any actions taken by the readers of this report.

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