SA property expensive? You ain't seen nothin' yet!

"If you thought you should be concerned about the small role that foreign buyers of South African property play in driving up prices, you should be far more concerned about Government's 6% per annum real economic growth target," says property strategist for FNB Commercial Banking, John Loos, speaking at the launch of FNB Private Clients in Cape Town today (Wednesday, 29 March).

The mathematics of property demand in the residential market in recent years is astounding, and there is little evidence to suggest that the residential side of the property boom was driven by much other than strong domestic economic growth and sharply lower interest rates.

In the final quarter of 1998, Loos estimates that around 1.027 million households in South Africa could afford the "average priced house" at the time, with the prime rate in the final quarter of that year averaging 16.9%. Should the average house price not have changed from 1998 until the end of 2004, 2.79 million households would have been able to afford such a residence.

The drivers were solid household income growth, sharply lower interest rates benefiting a highly credit-driven market, and a decline in the average size of household. There was not a way that the building industry could keep up with the demand for new units, and there was only one way for prices and that was sharply upwards.

He states that the structural switch from high to low interest rates is not quite over yet, and further mild reduction in interest rates is expected, on top of real economic growth moving between 4% and 5% per annum for the rest of the decade.

"Expect the number of households coming into the formal housing market to continue to rise steadily, and don't be too surprised if house price inflation turns upward once more by late-2007 after moving lower since late-2004," says Loos.

"Even scarier for the bubble theorists," he adds, "is that we may have yet to see the commercial property sector boom. Industrial and warehouse property rentals are rising steadily on the back of decreasing vacant space, while the office sector should also begin to see better performance as its vacancies also diminish."

This is typically what happens when a country goes into a prolonged period of accelerated economic growth - you run out of spare capacity in property, on the roads, and in electricity generation. Contrary to the belief of many South Africans, however, the lack of spare capacity, along with the capacity in the construction to rectify the constraint does not bring economic growth to a grinding halt.

Loos comments: "Does London have the capacity to host the 2012 Olympics right now? Probably not. Did the world possess a significant amount of IT skills before the start of the IT boom? No. Demand booms are what ultimately drive supply - of materials, skills and extra floor space. The supply only comes with a lag of course, and in the meantime prices of an increasingly scarce commodity such as property space are driven skywards. This is a normal boom. It happens in all countries of the world from time to time."

With regard to regional property performance, Loos believes that for the foreseeable future the Western Cape would remain the "most expensive residential property market of the nine provinces". This is not necessarily due to superior economic growth performance, but moreover a relative scarcity of land compared with the other major residential property market - Gauteng, as well as greater interest from people outside of the province for holiday purposes.

The Western Cape has had a good run over the years, taking a sizeable lead in terms of residential property values. However, KwaZulu-Natal residential property values have been closing the gap in recent years, and Loos expects this major holiday property province to give the Western Cape a good run for its money.

On commercial property, Loos adds: "With regard to commercial property, for some years now the Gauteng economy has been experiencing economic growth well above the national average, having shaken off much of the negative image from the early-1990s and cementing its place in the New South Africa as the economic hub of Sub-Saharan Africa.

"Going forward, I believe that the global move into a commodity super-cycle upswing, driven by East Asian commodity demand, will support the economy of the former Transvaal, with Gauteng being the hub of this strong mining region."

He forecasts that of the three major metropoles, Gauteng will have the strongest economic growth, followed by KZN whose economy will benefit from its location as a manufacturing centre well placed to service both the Gauteng and export markets.

In the area of industrial property performance, Loos says he expects KZN to come out tops, boosted by its reported shortage of industrial space, and a new land shortage that constrains new property developments: "I also believe that, while the Cape Town CBD is streets ahead of the other major CBDs in terms of rejuvenation, the development of Durban's waterfront project is the catalyst for a major rejuvenation drive in the CBD, which will begin to catch up with Cape Town."

In terms of office space, he believes that superior returns will be found in the more illustrious parts of Northern Johannesburg and Pretoria on the back of strong economic growth in the region.

While KZN will see the strongest growth in new industrial space in the next few years, Loos anticipates boom times in office space and retail developments in Gauteng: "In terms of up-and-coming property areas, I believe that we should begin to turn our heads towards certain townships, with Soweto as a possible star performer."

All-in-all, Loos paints a rosy picture for potential FNB Private Clients investors in both the residential and commercial property markets, despite a temporary slowdown in residential property price inflation. He reiterated that this performance was not due to large-scale "bubble conditions" a few foreigners, but rather thanks to strong economic fundamentals for the rest of the decade.