Estimates in the incidence of house price deflation

| Article by John Loos - household and property sector strategist at FNB Home Loans |

The level of homes being resold at values below their previous purchase price has risen mildly in recent months, but still remains moderate by historic standards.

At any given time, there exists a certain amount of residential price deflation in the market, that is, a situation where homes are resold for less than the sellers bought them for. In a country such as South Africa, with its significant general economy-wide inflation levels – consumer price inflation, wage inflation – the percentage of homes experiencing price deflation over the period between purchase and resale is normally in the minority. However, it is not insignificant, and can fluctuate noticeably over the course of the property/economic cycle.

We use deeds data property transfers registered by individuals – natural persons – below the value of R10m to obtain a residential-dominated data sample.

Given that most homes are resold a good number of years following their original purchase, it stands to reason that most homes achieve at least some cumulative growth in value before resale. Therefore, the large majority – 87.7% of total properties as at January 2017 – were sold at above their previous purchase price, 73.6% at 110% or more than previous purchase price, 8.6% at 105% to 109% of previous purchase price, and 5.5% at 100% to 104% of previous purchase price.

By comparison, 12.3% of the properties were sold for prices below previous purchase price in January 2017, 2.9% at 0% to 5% below previous purchase price, and 9.4% at more than 5% below previous purchase price.

As a result of a reasonably solid period in the housing market in recent years, until at least early-2016, this 12.3% estimate for homes selling below prior purchase price is still a relatively moderate percentage by historic standards.

By comparison, shortly following the recession and interest rate peak of 2008/9, the estimated percentage of such resale price deflation peaked at 23.5% of homes sold in September 2009, with 20.6% selling at more than 5% below previous purchase price. Further back, shortly after that short sharp interest rate spike of mid-1998, where prime rate peaked at 25.5%, the percentage of homes resold at prices lower than prior purchase price also surged to peak at 26.8% of total sales – 20.1% being at more than 5% below purchase price.

On the other hand, in the extreme boom times in the few years before 2008, the percentage of properties resold at deflated prices dropped to as low as 2.3% of total sales by June 2006.

Therefore, the most recent January 2017 estimate of 12.3% of total homes being resold at deflated prices is somewhere almost midway between what is historically a strong level and what is a weak level.

But what are the recent trends?

The estimated percentage of homes sold at prices below previous purchase price has risen mildly in recent months, a development that should not come as any surprise given that our FNB average house price has recently shown slowing year-on-year inflation to as low as 0.9% in January and 0.8% in February. In such times of slowing average house price inflation, one should expect to see some increase in the percentage of homes whose resale prices have deflated, and indeed this has been the case.

From a low of 9.8% of properties selling below the original purchase price in August 2016, the percentage has risen mildly to 12.3% of total properties sold in January 2017. This is the lagged impact of those earlier 200 basis points’ worth of interest rate hikes from early-2014 to early-2016, along with a broad economic growth stagnation from 2012 to 2016.

Although not yet at high levels, a rising trend in the incidence of resale price deflation is important for mortgage lenders and home owners alike, because it reflects a market in which it has recently become mildly more difficult to trade out of properties without making a loss. This can in some cases be troublesome when there is outstanding mortgage debt to be settled, especially when the seller is experiencing financial stress.

But these figures also serve to dispel the myth that property values can only go up. At any given time, a portion of them don’t.

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