Residential Commentary Sydney Apartment Market

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1 Residential Commentary Sydney Apartment Market April 2017 Executive Summary Sydney Apartment Market: Key Indicators 14,200 units are currently under construction in Inner Sydney with completion expected between 2Q17 and 4Q21. A further 6,900 units are currently marketing. Despite ongoing concerns over construction funding, we have seen a steady flow of projects move from the marketing phase to under construction in 1Q17. The Greater Sydney median apartment price increased by 3.9% y-y to $691,000 in 4Q16. This is faster than the other East Coast capitals, with Brisbane growing 2.4% and Melbourne 0.2%. Sales volumes are falling and are well below the long-term average of 42,700 per year. 37,300 units settled in 2016, down -13.5% y-y from Inner Sydney rents across 1 and 2 bedroom apartments recorded robust growth of 3.8% and 6.2% y-y respectively. Despite the rise in rents and slowing capital growth, yields remained flat at 3.9%. Investors remain focused on capital value growth. Inner Sydney Apartment approvals 12 months to: Supply ( ): Completed Under construction Currently marketing Plans approved Plans submitted Sales volumes* 12 months to: % change Y-Y Feb 17 12, % 1Q ,192 6,867 9,917 13,609 4Q16 37, % Median unit price* 4Q16 $691, % Median rental value 1-Bedroom 2-Bedroom 4Q16 $540 $ % 6.2% Gross rental yield* 4Q16 3.9% 0.0 pps Source: JLL Research, CoreLogic, Housing NSW, ABS *Greater Sydney Sydney Apartment Market Commentary April

2 Economic Overview Growth in the NSW economy is moderating with State Final Demand (SFD) growing by 0.8% over 4Q161. This was the second slowest growth nationally exceeding only Western Australia. While growth was moderate in the most recent quarter, over the year growth was robust at 4.1% y-y. The household sector contributed to much of this growth, accounting for 60.6% of SFD in 4Q16. Strong household consumption has helped boost retail trade, with annual turnover up 4.0% y-y in February 2017, compared to the national average of 3.3%. Unemployment remains low in NSW at 5.2% in February 2017 compared to 5.9% nationally. NSW population growth has continued at 1.4% y-y2 although net interstate migration is becoming increasingly negative under the impact of falling housing affordability. While Sydney s population growth is strong, it is slower than Melbourne, which recorded growth of 2.1% y-y. The RBA official cash rate has remained at a historic low of 1.50% since August JLL believes that the RBA has reached the end of its monetary policy stimulus program. Despite a modest rise in headline inflation to 1.5% y-y in December 2016, the Australian economy has continued to underperform and therefore we do not expect a rate rise in the near term. The Australian Prudential Regulatory Authority (APRA) has put in place new banking regulations that limit interest-only loans to a maximum of 30% of new residential loans. The aim of the regulation is to limit higher risk loans available to investors in an effort to improve financial stability. Affordability is increasingly a concern for the Sydney residential market. In NSW we calculate that servicing a mortgage on a median apartment would consume 51.6% of the average person s income. To provide context, traditional benchmarks indicate that mortgage payments should only absorb 30% of income. Given strong fundamentals still persist, the NSW economy will continue to grow. However a slow-down in residential market activity will be a drag on growth. Deloitte Access Economics forecasts NSW SFD growth to slow to 3.0% y-y in Supply 14,200 units are currently under construction in Inner Sydney (within 10km radius of the city center) with completion expected between 2Q17 and 4Q21. An additional 2,400 units have gone under construction since February 2017 when JLL last conducted its construction count. In addition to those under construction, a further 7,300 units are currently marketing. To provide context, Inner Brisbane has almost as many units under construction (11,000) within their inner 5 kms. Although the overall volume of supply in Inner Sydney is above the historical average, robust population growth and increasing demand for units should ensure that oversupply risks are isolated to specific areas. Figure 1: Inner Sydney Supply Pipeline by Status 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 Source: JLL Research Projects with fifty units or more Despite ongoing concerns over bank funding, we have seen a steady flow of projects move from the marketing phase to under construction in 1Q17. This trend is more pronounced in key markets with high amenity such as the CBD, while pre-sale rates are slower in areas with less amenity and further from transport routes. This implies some developers are still able to meet their pre-sale targets and obtain construction finance, although this profile is subject to change as more projects come to market and the competition for buyers increases. Given almost a third of the pipeline (29.9%) has a development application submitted but not yet approved, there is still a substantial amount of stock expected to complete at the back-end of the cycle in However if market conditions moderate it is likely many of these projects will be delayed. Geographically, Sydney City Council (6,500 units) and Canada Bay Council (1,400 units) account for half of all the units awaiting approval in Inner Sydney with expected completion Looking beyond the off-the-plan segment, ABS building approvals figures show 12,892 units were approved in the year to February 2017 in Inner Sydney, up 11.1% from the year prior. Demand No. of units Expected completion year Completed Currently Marketing Plans Submitted Under Construction Plans Approved Sales volumes are falling and are well below the long-term average of 42,700 per year. 37,300 units settled in 2016, down -13.5% y-y from Despite a slowdown in completed sales, borrowers are still active, with housing finance levels in NSW up 0.8% y-y in February Despite high volumes of lending, investor appetite is waning. The split between investors and owner-occupiers nationally in February 2017 was 62/38 compared to 65/35 a year prior. 1 ABS. 2 ABS. As of September RBA. 4 Corelogic. Sydney Apartment Market Commentary- April

3 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 Dec-15 Dec-16 How many people will be housed by Sydney s upcoming supply? There are 14,200 units under construction in Inner Sydney, an area covering over 1 million people. Geographically the supply is evenly distributed, although there are some areas of concentration. 6,000 of the 14,200 units under construction in Inner Sydney will be built in the Inner South, which is a precinct of 86,500 people living in suburbs such as Green Square, Waterloo and Zetland. Given there are on average 2.6 people per dwelling in the Inner South, almost 20% of the Inner South population could be housed by the units under construction in the area. This is significantly more than any other Inner Sydney precinct and represents risks around take-up and pricing over the short-term for developers with projects already underway. Over the long-term however, the growth potential surrounding the Green Square Town Centre and the continuing gentrification of surrounding suburbs will be supportive of demand, particularly if prices moderate. Figure 3: Percentage of Local Population That Could Be Housed By Upcoming Supply 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% Sydney City Inner West Inner South Inner North Inner East Source: JLL Research, ABS, Dept. of Planning NSW One area to watch is the foreign buyer segment, particularly with new capital controls introduced in China on January 1, In addition to the existing cap on foreign currency exchange at USD 50,000 per year per person, the new controls require5: A signed pledge to state that you will not invest in overseas property with the exchange funds. That you must disclose the type and timing of the use of your funds being exchanged. That any violations will result in the offender being added to the currency regulator s watch list. Foreign buyers were already subject to a 4% purchase duty in NSW and as of July 1, 2017 will be charged a foreign owner land tax of 0.75% of the land price per year in addition to the general land tax of 1.6%. Pricing Prices continue to increase in the Sydney apartment market despite the negatives. The median Greater Sydney apartment price increased by 3.9% y-y to $691,000 in 4Q16. This is above the other East Coast capitals, with Brisbane growing 2.4% y-y and Melbourne 0.2% y-y6. Price growth is slowing along the East Coast, although Sydney is lagging this trend by a number of quarters (Figure 2). Future supply and lending restrictions have both been discussed as possible drags on price growth. APRA hopes that by regulating the quality of borrowers through lending restrictions, it will be able to restrict the quantity. Supply can also limit price growth. However, given a tight Inner Sydney vacancy rate of 1.7%, we expect price growth to remain positive-to-stable over the coming year as supply is absorbed. Figure 2: Apartment Price Growth by City 20.0% 15.0% 10.0% 5.0% 0.0% -5.0% Rental Rates % growth p.a. Source: JLL Research, Corelogic There has been a pick-up in Inner Sydney rents across both 1 and 2 bedrooms with robust growth of 3.8% and 6.2% respectively7. This is a surprising result given that rents increased despite almost 5,000 new units completing in 2016, with a substantial proportion placed on the rental market. Rent growth will be tested in 2017 with a possible 14,192 units to complete, assuming all projects reach completion. Gross Rental Yields Brisbane Sydney Melbourne Despite the pick-up in rents and slowing price growth, yields remained flat at 3.9%. By comparison Brisbane is the high yield 5 Bloomberg. 6 Corelogic. 7 Housing NSW. Sydney Apartment Market Commentary- April

4 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 Dec-15 Dec-16 market at 4.88%, while Melbourne is closer to Sydney at 4.07% as of 4Q16. Figure 3: Yields by Capital City 6.00% 5.50% 5.00% 4.50% 4.00% 3.50% 3.00% Site Sales Source: JLL Research, Corelogic JLL have identified that site sale prices peaked over , with volumes peaking in 2014 when a large number of smaller sales transacted. On both measures in 2017 we are past the peak in the site sales market. To provide context, 71 sites yielding more than 50 units sold in Greater Sydney in 2016, down from 335 in Over the course of the cycle the cost of a site almost doubled across Greater Sydney from $160k/unit in 2012 to $290k/unit in Transaction volumes declined over as prices reached their peak and the availability of suitable sites diminished. Given site costs have peaked we expect developers to approach 2017 with more conservative mandates, with a focus on core locations or income-yielding assets. Figure 6: Greater Sydney Site Sale Volumes and Prices Brisbane Sydney Melbourne Number of sales Rate per unit $300,000 $250,000 $200,000 Outlook The risk factors for the Sydney market still exist in the form of select supply hotspots, tighter investor lending and construction finance regulations, plus new capital controls in China. Yet in 1Q17 we saw some positive signs with prices continuing to increase, strong rent growth and a high number of projects move from marketing to construction. While there is a substantial mooted supply pipeline, the quantum reaching construction will be self-regulated by the market, particularly in the context of ongoing council amalgamations which can lead to delays in the approval process. Although we expect price growth and demand to continue to moderate, many positive factors support the Sydney apartment market. Population growth, a robust economy and a shift toward apartment living (which tends to more affordable) should facilitate a gradual slowdown in the market. A tight rental market is supportive of growth, particularly as population growth continues. Therefore there is still sufficient capacity in the market for the stock expected to complete in 2017 to be absorbed. The supply/demand balance is more likely to be tested in the back end of the cycle towards $150,000 $100,000 $50,000 $- Sites Sold Rate Per Unit Source: JLL Research *Sites yielding > 50 units Sydney Apartment Market Commentary- April

5 Map of Inner Sydney Apartment Market For further information, please contact Andrew Ballantyne National Director Head of Research Tel: andrew.ballantyne@ap.jll.com Inner West Inner North Sydney City Vince De Zoysa Analyst Strategic Research Tel: vince.dezoysa@ap.jll.com Inner East Inner South JLL Sydney Level 25, 420 George Street Sydney NSW 2000 Australia This document is confidential to the recipient of the document. No reference to the document or any part thereof may be published, stated or circulated in any communication with third parties without prior written approval from Jones Lang LaSalle. This document has been produced solely as a general guide and does not constitute advice. Whilst the document has been prepared in good faith and with due care, no representation is made for the accuracy of the whole or any part of the document. Jones Lang LaSalle accepts no liability for damages suffered by any party resulting from their use of this document. Sydney Apartment Market Commentary February