A 20% house price fall would leave only 5% of mortgages underwater
Australian dwelling values are already 5.2% below their peak. Yet the RBA estimates that even a further 20% fall would leave only around 5% of mortgages underwater. The reason lies in Australia's unusually large housing-equity buffers.
Australian house prices are falling, but the Reserve Bank's latest stress testing suggests it would take an extraordinarily large correction before negative equity became widespread.
National dwelling values fell another 1.1% in September and are now 5.2% below their March peak, according to Cotality. Yet the RBA estimates that even if housing prices were to fall a further 20% uniformly from current levels, only around 5% of Australian mortgages would move into negative equity.
Negative equity occurs when the outstanding mortgage exceeds the value of the property securing it. Currently, the RBA estimates that less than 1% of borrowers are in that position.
The reason is straightforward: Australian house prices rose substantially before the current correction, while lending standards have remained relatively conservative. Borrowers have therefore accumulated significant equity cushions.
The RBA stresses that its 20% fall is a stress scenario, not a house-price forecast. Current forecasts are considerably less severe, although they have been revised down rapidly.
Westpac expects national dwelling values to decline 7.3% peak-to-trough. Commonwealth Bank expects around 9%, while UBS forecasts approximately 10%. AMP is more pessimistic, forecasting a 10–15% peak-to-trough decline.
Those forecasts nevertheless represent substantial corrections. Sydney and Melbourne are particularly exposed: Westpac forecasts peak-to-trough falls of 10.4% and 8.6% respectively, while Cotality data already show some higher-value housing segments down more than 10%.
Importantly, negative equity does not mean default.
Mortgage default normally requires a second problem: the borrower must also become unable to service the loan. The RBA estimates only around 2% of variable-rate owner-occupier borrowers currently have insufficient income to meet mortgage payments and essential expenditure. Many of these borrowers also hold savings or mortgage prepayment buffers.
Recent borrowers with high loan-to-value ratios are more vulnerable, including some participants in the Government's 5% Deposit Scheme. But even there, borrowers were assessed using APRA's three-percentage-point serviceability buffer and the Government guarantees part of the lender's exposure.
The result highlights an important distinction. Falling house prices can damage household wealth, consumption and housing activity well before they threaten banking stability.
Australia could therefore experience a historically large housing correction without experiencing a mortgage crisis.
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