What about Malaysian Home Market?

Interesting comments taken from NetResearch write-up on BCB 10 Nov 06

Outlook for property market remains challenging

· The outlook for the property market continues to remain challenging in our view, even for the residential sector.

On the positive side, the sector is still supported by plus factors such as still firm affordability, rising per capita income, ample liquidity in the system and favourable demographics. Long term demand for houses and properties as such are not going off the cliff any time soon and the local property market is not exactly in any “bubble” sort of scenario. However, it is also true that an increasing number of negative factors have been hurting sentiments and the pocket of property buyers in the last two years and these factors are seen getting stronger rather than weaker.

· As such, we will not be surprised to see the current softness in the property market be prolonged or get even worse. In short, property is a big ticket item and consumers could defer their purchasing decision especially for the higher-end units, which we believe are being sustained more by investors and speculators rather than genuine home owners. It does not help that oversupply still persists in almost all segments of the Malaysian property market, making it more susceptible to any prolonged demand weakness.

· Bearish factors include the rise in the prices of petrol and other consumer goods, low consumer sentiment and potentially lower economic growth for the 2H of 2006 and next year.

(i) No catalysts, no demand-led recovery seen

· Note that the sector saw a strong jump in 2004 (where volume and value of property transactions grew 20% and 38% respectively), which were fuelled by a combination of factors prevailing then, such as historically low interest rates, strong economic growth (gross domestic product or GDP of 7.1%), feel good sentiment from the 2004 general election, a stronger equity market and the added factor of a one-year property stimulus package.

Most of these factors are now either absent or have turned weaker. The volume and value of transactions have declined 6% and 5% respectively in 2005 and anecdotal evidence are suggesting an even bigger decline in 2006 and possibly in 2007 also if the current sluggishness in consumer sentiment persists. The major risk factors include a persistent volatile external environment, a collapse of the housing market and severe economic slowdown in the US, continued rising local interest rates, continued rising property supply and a slower rate of economic growth.

The important thing to note is that in our view, the negative factors are likely to stay for a while and as such, the sector is not likely to see any demand-led recovery any time soon. The majority of property players are likely to see continuous challenge to maintain their sales and earnings in the medium term.

(ii) Will interest rate remain persistently low?

· Consumers have long accepted the boon in the local low interest rates, which fell to historical low in the last several years, leading to a boom in property demand and banks’ lending to the housing market. However, it is clear that the good times have ended as the cycle turned as Bank Negara implemented three rounds of interest rate hike since November 2005 in response to rising inflation rate and to mitigate any outflow of the ringgit.

While the rate hike momentum has temporarily stopped and Bank Negara said that it will continue to adopt a low interest rate regime to spur balanced growth, it’s clear that consumer sentiment has nonetheless been dented and a change of mindset may have occurred that low interest rates are not necessarily a permanent fixture in the local economy.

A supporting factor nonetheless is that our affordability study shows that a marginal rise in interest rates from now on may still not affect housing affordability much. However, the risk is that there could be a domino effect in the consumption pattern and sentiment of house buyers, who may still defer their purchasing decision on fears of higher interest rates and the host of negative factors mentioned earlier, which in turn will eventually affect the purchase of new houses by potential house buyers.

(iii) Banks lending to property sector remains at peak

· It is also likely that bank lending to the property cycle have already peaked as total loans to the residential housing sector out of the total banking system housing loan at 27% is just a shade lower than the all-time of 28.6% reached in 2003. If we include the loan of the entire broad property market, which includes construction of properties, purchase of non-residential properties and other types of real estates to the total banking system loan, the ratio is actually still at an all-time high of 43% as at end-August 2006. This means that future property loan growth is likely to be low, which could affect housing transactions in the sector.

Rising non-performing loans of the property sector

· Note that the peaking of property loans in the sector means bad news for the sector if banks for some reasons pull back loans from the sector, for example in a slowing economy. This tightening would be severe given that house mortgage policies are now highly flexible and accommodating (a small change could then change sentiments) and the high exposure of banks loans to the sector.

· Further, as we have noted in the past, despite the favourable economic environment over the last three years with interest rate trending down, the property non-performing loans in the banking system have risen instead of going down. As at to date, the non-performing loans ratio for the purchase of residential properties as a percentage of total non-performing loans in the country (commercial banks) has continued to be at a high 23.8% in June 2006, compared with just 8.8% at end-2001.

iv) Supply continues to be on the high side

· While demand for residential properties could remain fairly stable due to the presence of still supportive factors of demographics, benign house prices, favourable mortgage environment and moderate economic growth, rising supply is likely to cap any surge in overall transacted volume and prices.

While there is no complete information available as far as we are aware of, the latest 2005 Property Market Report showed that there were 612,718 units of houses in various stages of construction and 636,142 houses planned for supply as at end-2005. Even assuming that the planned supply is averaged out over a four-year period, this could imply that around 159,000 units of houses (from the planned supply) will be put into the market each year, which is already 12% above the estimated average annual requirement based on the latest inth Malaysian Plan, which forecasts housing requirement of just 710,000 for five years to 2010 or an average annual requirement of 142,000 units. Consider also that the planned incoming supply above does not even include the 612,718 houses under construction, of which likely 10%-20% are probably still unsold.

Note that the planned supply above (which represents units that have been granted approval by the local and state authorities for development/construction) is equivalent to around 4.5 years demand of the 142,000 units of yearly housing requirement estimated by the government. In fact, given that the numbers shown above in the Property Market Report mainly relates to coverage in the urban areas only, the number of actual potential oversupply ahead could be greater than expected in our view.