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Recent home owners are the new working poor

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By John Beveridge - 
New young home owners Australia working poor interest rates

Data shows up to 45% of homeowners in some areas are now in mortgage stress with RBA’s continued rate rises making it worse.

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Over the past few years, conservative savers have been hard hit, with ultra-low interest rates offering paltry returns and tempting even the most risk averse investor to work their way up the risk curve.

The latest group to have really copped it in the neck are the large number of households who jumped into the property market during the pandemic period using the massive number of fixed rate loans that were being written at the time.

This was a period in which FOMO (fear of missing out) had gripped the property market and very fancy prices were being paid to get a foot on the property ladder.

FOMO market seemed low risk

There didn’t seem to be too many risks in plunging into the property market – prices were rising sharply and on the loan side, many were getting fixed loans for a few years at less than 2%.

There was the issue of renegotiating the loan for either a new fixed loan or a floating rate loan but that didn’t seem too risky – after all, the Reserve Bank of Australia (RBA) had all but guaranteed that official rates wouldn’t budge from the 0.1% rate until 2024 at the earliest.

RBA backs out of its low rate promise

Of course, we all know what happened next but hindsight is wonderful – and in this case the ramifications will be felt for many years.

Property prices are now reversing quite quickly, the RBA cash rate is now 1.85% and still rising after four super-sized 0.5% increases in a row, and inflation is running at 6.1% and may not have peaked yet.

However, there will be some extreme economic pain felt by this group of new homeowners before this particular cycle has finished.

Mortgage stress widespread in some areas

By some measures, up to 45% of homeowners in some areas are now in mortgage stress, as defined by spending more than they are earning.

It is not hard to see why because as the ultra-low fixed loans mature, they will be facing a rise in dollar debt repayments of at least 45% and up to 60% – possibly even more.

Commonwealth Bank (ASX: CBA) has estimated about $500 billion of fixed rate mortgages are due to reset across the banks over the next two years.

Rising loan cost and cost of living a toxic combination

At the same time costs such as petrol, food and just about everything else is rising fast while wage growth, where it exists, comes nowhere near the rising costs.

It is a recipe for not just mortgage stress but some serious loan defaults down the track and some large impacts on consumer spending.

By some estimates, around $250 billion of mortgages taken out by households who borrowed near their maximum capacity could be at risk once cash rates reach 3%.

Banks will also face some tough decisions on refinancing some fixed loans, particularly in circumstances in which the property valuation has fallen significantly since the original loan was written and if repayments are swallowing up too great a percentage of salary to fit within normal lending standards.

Household sector could be hit harder than business

It appears this tightening cycle is one in which elements of the household sector will be the ones that carry the burden rather than businesses, and we could even see the discouraging sight of fully employed people defaulting or becoming delinquent on their housing loan.

The pain is likely to be fairly concentrated on these newer borrowers because RBA figures show the majority of borrowers are ahead in mortgage payments and many also built up savings buffers during the pandemic period.

That gives them a bit of a cushion against larger repayment rises that will be much more of an issue for relatively new borrowers who were sailing close to the wind even before the super-sized 0.5% rate rises started to arrive every month.

Rate rise cycle could be a fast and furious one

The one ray of sunshine in this otherwise gloomy scenario is that many of the banks are now tipping a short and sharp season of interest rate rises, followed by some falls as inflation finally begins falling.

Commonwealth Bank is picking a cut in the cash rate from a peak of 2.6% starting in late 2023 while Westpac (ASX: WBC) and ANZ (ASX: ANZ) expect the peak rate to hit just above 3% with cuts by the middle of 2024.

Some pundits think the RBA might now revert to 0.25% rate rises as it checks on the impact of the measures. So, if households can just hang in there long enough, the pincer movement on their personal finances might start to ease down the track.

Falling house prices could be the key

One of the keys to getting a faster turnaround could be measured in falling housing prices, which are now starting to accelerate.

While across the country median house prices are down about 2% from their peak early this year after they went on a 28.6% rise during the pandemic, the pace of price falls is starting to pick up. The more indebted cities of Sydney (down 2.2%) and Melbourne (down 1.5%) are beginning to see market weakness in the form of properties being withdrawn from auction and lower auction clearance rates.

Should those price falls accelerate – and there are plenty of experts predicting they will – then there is every chance that this rising interest rate cycle could be a short, sharp but for some people, very uncomfortable one.