How long will the residential property down cycle last?

After the general elections, I guess it is time to reflect on Singaporeans’ second-most favourite topic — the local private residential property market. Over the past 20 years, Singapore’s private residential property market has gone through three down cycles and is in the middle of a fourth. The official non-landed Private Residential Property Price Index (PRPPI) registered its seventh consecutive quarter of decline as at 2Q2015. The PRPPI fell 42% from peak to trough in the first downturn, 21% in the second and 26% in the third (see Chart 1).

In October 2014, a report by a major bank forecast that property prices would fall 20% in 2015. Other analysts have forecast a 20% to 30% decline in prices in the next year or next few years. NUS forecast that home prices could fall 30% by 2040 owing to an ageing population. They may be correct if you read the basis of making the forecast. However, I gather the consensus view is that the PRPPI will continue to decline. So, while forecasts of big drops make good headlines for news stories and research reports, such forecasts are something even seasoned statisticians with complex mathematical models will struggle with. Perhaps a more meaningful exercise for potential investors is to find leading indicators that point to a trough in the prices, rather than trying to estimate the magnitude of the price falls.

Based on historical trends, the down cycle lasted 10 quarters post-Asian financial crisis, 16 quarters post-SARS and, surprisingly, just four quarters post global financial crisis. Presently, the PRPPI has contracted for seven consecutive quarters (see Chart 1). Thus, we could either be near the bottom of the cycle or just halfway through. We believe the overall eco-system of factors that affect wealth creation/ destruction holds the answer. To this end, we monitor a portfolio of indicators such as stock market performance, unemployment rate, number of bankruptcies, changes in prime lending rates, occupancy rates, number of rental contracts and unsold inventory. In this article, we are sharing our observation of the relation between the PRPPI and the performance of the stock market (indicated by the Straits Times Index) as well as the relationship between the PRPPI and the total number of transactions.

The performance of the financial markets can be a good indicator of wealth creation or the destruction cycle. If we analyse the quarter-on-quarter change in the STI versus the PRPPI, we note that the PRPPI tends to reach a bottom between one and five quarters after the STI reaches a bottom (see Chart 2). It can be logically inferred that when the stock market falters, in general, companies are not profitable and/or business prospects look poor. Investors in the stock market may also be losing wealth. The destruction of wealth creates the preconditions for people to sell their properties quickly and with a sharper discount. Thus, based on historical trends, the property market appears unlikely to reach a bottom before the stock market reaches a trough. While the STI has faltered recently on the wake of China’s economic slowdown, most analysts are of the opinion that the stock market has not yet reached a trough.

In past cycles, whenever the total number of transactions reached a trough, the PRPPI tended to reach a bottom between two and five quarters following that (see Chart 3). However, predicting when transaction volume has reached a bottom might prove more challenging. Generally, the trough of transaction volume is preceded by two to three quarters of below-average transaction volume, though this relation is weak.

Taking the above indicators (plus others that we have not shared in this article) into consideration, we can conclude that the PRPPI is still some way off from reaching a trough. Many market participants are clamouring for the removal of the Additional Buyer’s Stamp Duty as a catalyst to revive the market. The removal of any of the cooling measures could provide a short-term boost to transaction activity and even provide a small uptick in prices. However, while the removal of the ABSD is necessary, it is an insufficient condition for a sustained upswing in market activity when the fundamental drivers of housing demand remain weak. While there is understandable caution among investors, there are still some who would seek to buy for owner-occupation. There could also be others who are currently renting apartments who may contemplate buying a property to take advantage of the low interest rate environment and decreasing prices. For these potential purchasers, we suggest they look for areas where prices have fared relatively better in a down cycle, where there are relatively fewer units under construction and where there are structural changes in the infrastructure or government initiatives that could make the location more attractive for households to stay in. Look out for other research reports from us that will highlight some of these locations.

Tan Kok Keong is CEO of real estate consultancy REMS Advisors, and co-founder of Fund places, a real estate-dedicated crowdfunding platform. He can be reached at kk.tan@rems.asia.