Property & Debt (The Bugle)

Property and Debt are so closely linked that it is useful for us to know and understand the extent and trend of credit growth in our economy.  Easy credit increases the demand for property and therefore drives prices upwards, while tougher credit availability tends to temper the demand and results in limited price growth and even price deflation. So where are we currently in terms of credit growth and availability and which way are we heading? The South African Reserve Bank measure and release this data and the latest figures for February 2014 indicate a further slowing of credit growth to 5,25% down from 5,6% in January. So credit growth for South African households continues to slow. Why can this be considered both a bad thing as well as a good thing? Slower credit growth means less demand for consumer durables – such as cars, which are typically financed and for property, which is also typically financed. If we look at the growth in residential mortgages we see that the growth in total residential mortgages outstanding in South African is only growing at a very mediocre 1,44% and that the real value of mortgages (adjusted for CPI inflation) has been declining at a rate of -4,1% per annum. 

This tells us that the new mortgages provided are to a large extent swopping debt between sellers and buyers and not actually providing any significant growth in net new mortgages. This is a bad thing for near term property demand. However for a medium to longer-term outlook for the overall property market it can be seen as positive. Why? As long as overall credit or debt grows at a rate less than disposable income, that key ratio we love to watch, the “Household Debt to Disposable Income Ratio” keeps on coming down. This is exactly what has been happening since early 2009 when this figure peaked at 83% and we are now down to 74,3% with this expected to reach 72,5% by the end of 2014. This is positive as it means that households are strengthening their balance sheets and as we now enter into an interest rate hiking cycle, South African home-owners are less vulnerable and can withstand economic shocks such as changes in income and a higher cost of money. This translates into a healthier property market characterised by normal buying and selling. 

The Reserve Bank’s monetary policy committee met at the end of March and decided to keep the policy repo interest rate unchanged at 5,5% for now, meaning that our prime interest rate remains unchanged at 9% after the surprise increase in January from 8,5%. The governor of the Reserve Bank has however warned that future increases can be expected during the next twelve months and that households should prepare for it. So what would be a reasonable response? If historical interest rate cycles can be used as a gauge then a 4% variation in interest rates can be considered. However, given that the peaks and troughs have been flattened and that the average long-term trend for interest rates has been downwards, most economists are forecasting a peak of only 11% in 2015 from the current 9%. In Rand terms, on your typical 20 year mortgage bond of R1m, this means an extra R1,325 per month. If interest rates were to shoot up by 4% points to 13% from the current 9%, this would imply an additional R2,719 per month. This starts to be more substantial and on top of this the additional costs of owning a property such as Municipal rates, electricity, water, Body Corporate and Estate levies, can be expected to increase. The best strategy is therefore to be a little more conservative in terms of the level of debt adopted and build in a comfort buffer. Shift debt away from consumer durables such as vehicle finance, which is based on a rapidly depreciating asset, to property, which is a steadily appreciating asset over time.

Published in The Bugle, 9 April 2014, Author: Andreas Wassenaar