“They’re in park instead of fifth gear at the top end.”
Now, this is a sharp reversal of the usual pattern. Typically, when house prices fall, it’s the top end of the market that suffers the wildest falls.
Few can forget the fall in house prices seen in prestigious Sydney suburbs such as Mosman and Double Bay following the 2008 financial crisis.
Of course, there is a sound economic reason why the higher end of the market is more vulnerable.
At the lower end of the market, a growing population is fueling a growing demand for housing. But home value is based on the cost of bringing new homes to market: the cost of land, for example, and construction costs.
This effectively puts a floor below house prices at the lower end of the market because developers have very limited scope to reduce the cost of new housing. This is especially the case when construction costs are rising, such as now.
As a result, even as mortgage rates rise sharply, the decline in home prices at the lower end of the market tends to be more moderate.
But at the top end of the market, a very high proportion of the cost of a luxury home reflects the cost of land, rather than the cost of construction.
And the cost of land at the top end of the market is a function of demand. Typically, the combination of rising interest rates and a slowing economy causes demand to fall sharply.
And this results in a sharp fall in the value of the land. And because land values at the higher end of the market are not determined by, say, the cost of building roads or building sewers, land prices are much more responsive to overall economic conditions.
Also, as bankers know, many people at the top end are stretched to the limit to afford expensive housing.
But rising interest rates, combined with falling stock markets and the plunging value of digital currencies, mean that many new buyers are unlikely to want to pay the inflated prices at which properties were listed 12 months ago
So why are prestige property prices so robust these days?
The most likely explanation is that there is a relative scarcity of such properties on the market and a sizeable cohort of buyers, including international buyers and returning expats, with large checkbooks.
But if this is the case, we should expect property values at the top end of the market to fall sharply once this temporary imbalance between supply and demand is removed.
In fact, as the Financial Review’s Nila Sweeney reported this week, house prices in some of the most expensive suburbs are now falling four times faster than the national average.
For example, house prices in Sydney’s northern beaches suburbs of Pittwater and Manly saw falls of 8.8% and 7.4% respectively in the July quarter, compared to a fall of 2.2% of the average house price in the whole country.
Still, that could partly reflect a unwinding of the big gains these suburbs have made over the past two years.
In Pittwater, for example, house prices rose 53.3% from the COVID-19 lows to the peak, but since then values have fallen 10.1% overall.