Housing Affordability - the cost of ownership

Some older clients will remember the heady days of the 1980’s and how tough it was when mortgage rates were as high as 20%! Today, a floating mortgage rate of 8.50%pa sounds relatively easy to service when compared to 20%pa, but maybe we’re not comparing apples to apples.

The above graph runs to 2010. As you can see, interest rates fall dramatically into the GFC (Global Financial Crisis). A decade or so on and the world suffered an even bigger crisis, as Covid-19 interrupted global trade, creating extreme supply shortages and demand peaks. As a result, interest rates would reach all-time lows by 2021. By early 2022, it was clear that Central Banks had gravely miscalculated and interest rates started to rise - faster and steeper than any other time in history.

Interest rates feel today as though they may have peaked and there is an implication that they may be pressing lower. At the time of writing, the NZ Reserve Bank cash rate (OCR) has pushed up to 5.50%pa (from the extreme low of 0.25% in 2020). The cash rate is now the same as it was in June 2008.

Since June 2008, floating mortgage rates have averaged 6.90%pa, while a two-year fixed rate mortgage has averaged 6.50%pa. So, today’s floating rate (8.50%pa) is only 1.6% higher and today’s two-year “special” fixed rate (7.05%pa) just 0.55% higher. It doesn’t sound a lot different for those who borrowed in 2008… or is it?

If we look to the graph above, we can see by the mid 1980’s, the pain point of a P&I mortgage was the “I”. In the 1980’s, interest rates were unsustainably elevated. Good economic management and globalisation would see rates fall between 1988 and 2021, while wages continued to rise, making it the perfect one-way bet for property owners. Today the “I” (in a P&I loan), from a historical point of view at least, is not all that elevated – but the “P” (Price or Principal) finds us in ‘crazy territory’.

In June 2008, the average NZ house value was $515,250 (source: St Louis Fed). By late 2021, prices peaked at $1,068,765 (source: REINZ). June 2023, prices drifted back to $852,000. The most recent REINZ data suggests prices may have pushed back to $900,000 (October 2023). Bottomline, for largely the same house in 2008, we now pay twice the price. Unfortunately though, we’re borrowing twice the money and some.

Let’s look at “normal people” buying an “average home”. Let’s assume they have a 20% deposit, and they borrow 80%. They repay this debt over a 25-year term (this could be you, your kids or, it could be your grandchildren).

In June 2008, buying an average house cost $515,000. Using our assumptions, we’d borrow $412,000. Interest would cost 6.50%pa. Base P&I repayments are $33,384pa (rates and insurances still to pay).

In late 2021, $1,068,000 is now the average NZ house price. Our deposit is $213,600 and we borrow $854,400. Low interest rates mean we’re able to pay more for the same house (and we fix our interest for two years at 3%pa). Our repayments are $48,624pa (plus rates, insurances etc).

Two years on and our debt has reduced to $807,077, but by 2023 our low 3% interest rate rolls off and we must now pay 7.05% (fixed for two more years). The new repayment over 23 years is $70,992pa (essentially the cost of debt servicing just went up $430pw). Salaries may have gone up with CPI adjustments but, that likely won’t cover the $430pw extra to service this debt.

Today (Nov 2023), the average house price is: $900,000. Borrowing $720,000. Our 25-year mortgage service, calculated on today’s two-year fixed rate, implies an annual cost of $61,344. We are in much better shape than the person who bought at the peak. It’s all luck.

  • Oct 2023: Annual debt servicing cost $61,344pa (plus rates, insurances, R&M, etc)
  • Jun 2021 (today): Annual debt servicing cost $70,928pa (plus rates, insurances, R&M, etc)
  • Jun 2021 (at 3%pa): Annual debt servicing cost $48,624pa (plus rates, insurances, R&M, etc)
  • Jun 2008: Annual debt servicing cost $33,384pa (plus rates, insurances, R&M, etc)

2008

2021

2023

NZ average gross annual wage

$43,000

$70,000

(median)

$37,908

$61,700

House debt servicing

(as a % of gross taxable income)

78%

(even in 2008, we needed two incomes)

101%

(madness)

88%

(still too high)

Sources: Trademe, Newshub, StatsNZ, ReINZ, St Louis Fed

2008’s owner has an asset that has doubled in value (though this ignores all the money we as owners inevitably put into our property – interest cost, renovations, repairs etc). The 2021 owner likely has negative equity, and this still ignores the holding cost (interest, rates, insurance etc).

In Summary

We all have a vested interest in housing and it’s hard to imagine prices falling. Indeed, no one wants to lose money on falling asset values and it causes banks to reassess lending and consumers to reconsider consumption - when the value of the housing asset that backs the revolving credit facility starts to diminish, people are less inclined to book up that new EV on the mortgage.

The reality is, in this country, house values have risen on average around 7%pa in recent decades and if that trajectory continues, then the average house value in NZ will be $1.8M in year 2034… $3.6M in 2044! We’re not talking high end housing - this is an “average” house and in that context, it really is difficult to see those numbers by those dates. Real estate is by no means a safe bet and most certainly not at today’s prices.

Our message: be diversified. Be wary of taking on too much debt. Housing is a good asset, but it’s not always a great investment. Leverage (borrowing) has been the primary driver behind the wonderful returns many property owners have enjoyed but for some, it may already be priced out of their reach. Please check out another article we referenced late last year that discusses the topic of renting vs. owning. It’s worth the read. https://fortitudefinancial.co.nz/news-and-views/are-you-financially-better-off-renting-or-buying-a-house

The views and opinions expressed in this article are intended to be of a general nature and do not constitute personalised advice for an individual client.

Share article
Let's talk about your life and financial aspirations. Get in touch