Residential market weakens

by John Loos

With the economy currently in a recessionary, or close to recessionary, state, the third quarter 2018 FNB Estate Agent Survey continued to point to residential market weakening. The third quarter FNB Residential Activity Rating declined further, to reach a low level similar to those last seen almost a decade ago in 2009.

Certain of our residential indicators are “leading” ones not only regarding the housing market’s future performance, but also with regard to the broader economy and business cycle?

The third quarter FNB Estate Agent Survey points to a further weakening in the housing market – and perhaps economy too – in the near term.

In the survey, the sample of agents questioned is asked to rate activity levels in their areas on a scale of 1 to 10, with 10 being a very strong level of activity and 1 being very weak.

From this, we have compiled the FNB Residential Market Activity Rating for South Africa, and more recently for Namibia too, and this activity rating has shown itself to be a useful leading economic direction indicator much of the time.

A broad declining trend in the residential activity rating started in 2015, and has continued in the most recent quarterly survey.

From a multi-year low of 5.28 (5.35 on a seasonally-adjusted basis) in the second quarter of 2018, the activity rating declined further to 4.92 in the third quarter survey (and to 5.12 on a seasonally-adjusted basis).

The second successive quarterly decline suggests that the once-off first quarter jump, which was largely driven by a jump in sentiment driven by major changes in the country’s political leadership, most notably Cyril Ramaphosa taking over as the country’s new president, is now a thing of the past.

This renewed quarter on quarter decline meant that, on a year on year basis, the indicator went deeper into negative rate of change territory, form -7.21% in the second quarter to -9.2% in the third quarter.

The direction in the rate of change in the residential activity rating correlates reasonably, though not perfectly, with the direction in the rate of change of the OECD and SARB leading business cycle indicators for South Africa, sometimes even leading the leading indicators with directional changes.

And once again the relationship appears to hold, the rate of decline getting more severe in the Activity rating through late-2017 and 2018 to date, and the OECD leading indicator’s recently positive year on year growth rate slowing and then turning negative with a mild lag.

Both indicators thus point to an economy still in the doldrums, with weakening  in the near term a possibility.

Agents point to further deterioration in market sentiment post ‘Ramaphoria’. Sentiment is key to improved economic growth performance, driving businesses to invest more and consumers to spend more. Weak sentiment in both groups has been a major drag on investment and economic performance in recent years.

In the survey, we ask agents for their near-term expectations of RESIDENTIAL ACTIVITY. This answer is of limited use due to seasonal factors in the sector. However, as a follow up we ask them to cite reasons for why they expect what they expect with regard to activity levels.

They are free to provide any influencing factors that they wish, which we then group under broader categories. Back in the first quarter of 2018, we experienced the ‘Ramaphoria Bounce’, a sentiment jump apparently as a result of the political leadership change and the emerging of new President Ramaphosa. A relatively low 19% of respondents in that quarter cited “economic stress/pessimism” as a perceived factor.

By comparison, those that cited “positive consumer sentiment” in the first quarter of 2018 were a far greater 56.7% of survey respondents.

In the past two quarters, however, the response has deteriorated markedly. By the third quarter 2018 survey, those respondents pointing to “positive consumer sentiment” had dropped back to 9% of total respondents, while those pointing to “economic stress/general pessimism” have increased noticeably to a very high 77%.

The economic weakness thus appears to be increasingly taking its toll on sentiment in the market. Within this response category, agents include “recessionary conditions”, “cost of living increases” which include petrol price and tax hikes, and “policy uncertainty”, as factors.

For new mortgage lending, this can all have implications with a considerable lag. Residential activity starts to change when households begin to plan the home buying decision, viewing homes first for a considerable length of time, in many cases, before starting the home purchasing process.

Therefore, trend changes in growth in value of household mortgage loans granted (SARB Data) can often lag trend changes in the activity rating by as much as four quarters.

This could mean that in the near term, the still mildly positive year-on-year growth rate in the value of new mortgage loans granted could come under pressure once more. As at the second quarter, however, growth in the value of new home loans granted still defied gravity, remaining positive at 7.4% year on year.

While also having weakened of late, Gauteng appears to be the region where Residential Activity has held up best in the weakening national market.

When examining regions, we smooth the data with a two-quarter moving average, because the sample sizes in certain regions become quite small. For the two winter quarters of 2018, Tshwane has had the highest Activity Rating average of 5.62, followed by Greater Johannesburg with 5.31.

Of the three Major Coastal Metros, it has been Cape Town that has returned the lowest activity rating, to the tune of 4.47 for the two quarters. This should not be too surprising, however, because after recent years of far stronger house price growth than the rest of the country, Cape Town has run into home affordability challenges that have dampened demand and general activity, all part of the cycle.

Segmenting by income area – the lower end outperforms, but the gap has diminished. Viewing the four different income areas – as self-defined by the agents, we see both South Africa and Namibia having their strongest activity ratings at the lower income area end of the area spectrum.

This has come to be expected in recent years, given a weak economic growth rate constraining household income growth, rising personal tax rates biased against the higher income groups, and with sharp increases in municipal rates and tariff bills which also work more against the higher end. All of these factors have caused a search for relative home affordability, resulting in a stronger performance at the lower end of the market.

However, the gap in the activity rating between the high net worth end and the lower income end has narrowed significantly, the high end having weakened earlier, but the low income area segment more recently also having begun to feel the pressure from a weak economy.

The two-quarter average activity rating of the lower income area segment was 5.39 for the two winter quarters, still the highest by a narrowing margin, and the high net worth area rating remained the lowest at 4.67.

In short, given the generally good correlation between the FNB Residential Activity Rating and the leading business cycle indicators for South Africa, the accelerating year on year rate of decline in the FNB Residential Activity Rating points not only towards further weakening in the housing market’s performance to come in the near term, but is also likely reflective of an economy remaining under pressure.

Of the estate agents surveyed, there has been a major decline in the percentage of them experiencing positive consumer sentiment, and a significant increase in those perceiving economic stress/general pessimism in the market. It appears that much of this turnaround, after a brief first quarter improvement in agent perceptions, is merely due to the brief excitement of a political leadership change wearing off, while the country’s household sector continues to grapple with a weak economic environment, and a rising cost of living.

There have been some positives emerging from the new political leadership of the country in the form of a seemingly tougher stance on corruption and mismanagement in Government entities.

But the economic impact from any such measures is likely only to be felt in the much longer term.

John Loos is the property sector strategist at FNB Commercial Property Finance.