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UBS points to 7 signs that housing slowdown could be worse than expected

The warm fuzzy feeling investors are getting from our rallying market is being tampered by growing worries about the slowdown in property prices. Investors should be concerned given the link between Australian house prices and the economy.

If you are one of the few with a niggling feeling that the housing market slowdown could be more painful than expected, you may be on the money as two reports today are pointing in that direction.

This hasn’t stopped the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index from jumping 0.5% ahead in afternoon trade as equity bulls cheered rising optimism about the US and European economies.

But a sentiment survey on property by Morgan Stanley and a separate report by UBS on the increasing risk of a credit crunch are sombre reminders why equity investors cannot afford to let their guard down.

If our housing market slows by more than expected, a wide range of sectors will be hit. Home builders like Mirvac Group (ASX: MGR) and Stockland Corporation Ltd (ASX: SGP) are the obvious ones, but our retailers like Harvey Norman Holdings Limited (ASX: HVN) and JB Hi-Fi Limited (ASX: JBH) won’t be far behind as household spending is closely correlated to home prices.

Banks like the Commonwealth Bank of Australia (ASX: CBA) and Westpac Banking Corp (ASX: WBC) will also feel the pinch due to their large exposure to the mortgage market.

This is why investors should be alarmed by Morgan Stanley’s claim that Australian housing sentiment and expectations have plunged to near record lows, according to an Australian Financial Review article.

Melbourne has replaced Sydney as the nation’s worst performing capital city housing market after prices in the southern state fell 5% in the past three months said the broker.

Cash seems to be regaining popularity among investors even if you’d struggle to find a bank deposit rate above 3%!

Adding to the gloom is UBS, which has pointed to seven signs that the risks of a disorderly housing market correction and credit crunch (where banks become unwilling or unable to lend to house buyers) are looming.

The first is the Banking Royal Commission, which has taken a much stricter interpretation of the Responsible Lending code. This means lenders have to more closely scrutinise loan applicants to ensure they are not over-extended – a move that will restrict the amount of credit available for our housing market.

The second is growing risk aversion by the boards of our listed banks due to the reputational damage from the Royal Commission and the federal treasurer’s comments about jailing bankers gone wild.

Pressure on mortgage brokers’ commission structure and the adoption of mandatory Comprehensive Credit Reporting from 1 July are also expected to limit available credit.

This comes at a time when foreign buyers are withdrawing from the market (this group can’t really borrow from our local banks anymore, so the limited credit is a double whammy), according to the latest stats from the Foreign Investment Review Board and cited by UBS.

What is perhaps more alarming is that around $120 billion worth of Interest Only (IO) mortgages will start reverting to Principal and Interest (P&I) every year until 2021. Those moving from IO to P&I will experience a 30% to 50% jump in repayments.

The last sign that UBS is highlighting is the upcoming federal election in early 2019 with the Labor Party promising to clamp down on negative gearing for existing properties.

Property investors who have been largely blamed for pushing up property prices might be sitting on the sidelines for several months until the nation decides on the next Prime Minister.

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