Last month the NSW government’s development agency Urban Growth held a Western Sydney industry briefing to present the strategies they have in place to optimise the public value of urban renewal and new infrastructure sites.
At the same time, they admitted the organisation had no politically mandated affordable housing policy or supply strategy. Urban Growth on the face of it has a worthy pipeline of sites that will parcelled up and sold off to developers at the highest price. It’s an obvious strategy to enable important new infrastructure investment and to help NSW turn around the parlous state of the NSW economy left by the Labor government.
The elephant in the room was the dwindling supply of more ‘achievable and affordable’ housing needed to underpin the transformation of the state’s economy over the next 20 to 40 years. It’s been a long time since a government had such a cohesive focus on what economic future can be shaped for the state, how to grow the economic pie, and how to create a platform for new enterprises and jobs to improve NSW business and households’ prospects into the future. Geoff Roberts, the Economic Commissioner for the Greater Sydney Commission, gave the best presentation I have seen to explain the challenges, outline what the commission had in mind to explore solutions, and then to seek government endorsement to implement them. It was plain, interesting and instructive speak, but it offered no housing solutions.
The time for debating affordability must have passed. It’s time for action.
Over the last 15 years, Australia’s housing supplies have failed to meet the needs of an increasing number of households caught in a widening gap between traditional providers.
This gap is growing despite attempts to stimulate increased supplies from every source.
Social housing supplies have not met the demands of the neediest, while mainstream supplies have not resolved the achievability and affordability realities which confront those on average incomes or governed by circumstances that disenfranchise them in the market.
While the densification of our cities is inevitable, this is accompanied by an increase in households living in multi-unit buildings. I believe reliance on old supply models is unsustainable. The HIA’s table comparing traditional detached housing supplies with ‘other’ for the March 2016 shows how this is all tracking. ‘Other’ in HIA speak has historically been used to describe multi-unit dwellings. HIA’s traditional ‘stick build or project home’ market is driven by more greenfield land, publicly funded infrastructure, low interest rates and the trade skill limitations of most of its membership base.
Multi-unit has been a relatively dirty word for traditional stick builders, as it requires a different business model to project housing. The multi-unit agenda has been left to the development advocacy of the Urban Taskforce Australia in NSW. It’s a label that seems worthy, but in essence, it's about more density, taller buildings and a frenzy that feeds larger, influential and opportunistic property developers.
On the other side of the equation are the justly shrinking remnants of public housing and a modestly expanding social housing platform driven by not-for-profit Community Housing Providers. Despite the supercharging of both of these providers by the previous commonwealth government through various housing stimulus programs and the failed National Rental Housing Affordability Scheme (NRAS), this sector struggles to meet the needs of the most disadvantaged households. They are at least making an effort to create new housing stock of the right size, in the right location and with the prospect of stable rental tenures for qualified households who could not survive the churn in the private rental market.
Despite attempts by both sides of politics to play to the advocacy interests of both the for-profit, and not-for-profit sectors, more households are being disenfranchised from accessible, affordable housing choices as independently evidenced in the recent Hilda report. The reality is that there is a widening gap in housing solutions that specifically target households who should not be forced to give up and accept dependence on long-term publicly subscribed housing.
Not resolving the housing gap for households caught between social housing and the commencement of a home ownership journey that now involves more multi-unit than detached housing is head in the sand stuff. These households increase competition for the most affordable housing and exacerbate the pressure on those least able to engage. Targeting the ‘gap’ in housing achievability and affordability seems obvious.
There are plenty of opinions on how to answer Australia’s future housing dilemma. Governments are looking to the private sector to step in and take charge. The most recent is revisiting the role superfunds may play in creating a new pool of rental housing, much like the US Rental Housing Investment Trusts (R-REITS) and the UK’s Housing Finance Corporation. Over 20 years, those bodies have been able to create large pools of new rental stock. But one should not be prematurely swayed by these models without looking at the housing supply crisis that has become even more acute in major US and UK cities as a result of hyper-apartment development pushing the most affordable stock further and further away.
When the superfunds last looked at R-REITS in Australia, it was at a time when such an asset class required certain, total investor returns over the hold period exceeding 11 to 12 per cent. Total returns are driven by a combination of rental return growth and asset value appreciation. Nominal estimates of four per cent for rent, and 2.5 per cent for appreciation came up short. The case now being made is that institutional investment may now be happy to consider total returns closer to six per cent in a low interest environment where the dependence on high public subscription to rental subsidies may be reduced by a new blend of debt and equity. R-REIT business models are contingent on much more than this.
Superfunds are required to consider the ‘way-in’, the ‘stay-in’ and the ‘way-out’ nature of all their prospective investments in addition to projected returns. To establish a viable investment asset class in rental housing, superfunds will require scale. They will need to have a line of sight to multiple portfolios where tradeable assets have a viable market.
For Australia to achieve this situation, I believe the asset class would need at least 10 investor syndicates with portfolios each exceeding 25,000 dwellings under management. This would enable a sub-market of smaller owners across the for-profit and not-for-profit sectors to deal in 500 to 3,000 dwelling holdings that could participate in aggregation and disaggregation of portfolio ownership and management as investors chose. In the US this is called ‘up-REIT’ and ‘down-REIT’ and drives the market vibrancy necessary to underpin a value focus based on published benchmarked asset manager and owner performances.
R-REITs also require a line of sight to well-located development parcels which enable the building of portfolios. In the US, it is normal that parcels yielding 150 to 250 dwellings are core to the mix. However, it is fundamental that these portfolios are able to be assembled at wholesale prices absent the traditional developer profit margins of 15 to 20 per cent. The portfolios can then comprise stock that is perhaps less ambitious than traditional developer created dwellings as they can be without the ‘glitz’ needed to support pre-sale campaigns.
R-REIT portfolios work on two to three per cent rental vacancy rates which mitigates the ‘take’ risk. This allows for portfolio wide design and procurement influences that help to make for manageable and easy to maintain portfolios. Because R-REITs hold assets on average for 10 or more years, their interest in defect free construction and warranty minimisation changes.
And if the ‘way-in’ and ‘stay-in’ features of these portfolios is important, don’t forget the ‘way-out’. That is how to ensure there is a range of highest and best value realisation paths. All institutional investors need to have a clear way to cash even if that is not their medium term objective.
Most R-REITs in the US set a through-the-cycle policy of maintaining an average portfolio age of seven to 10 years. This allows older and less efficient properties to be sold down and replaced with newer and better located ones over time. It also allows the realisation of nominally booked portfolio value appreciation to be tested. An impediment to a social rental housing R-REIT is the question of vacant possession at point of disposal. Institutions do not want to be confronted with the prospect of being seen to be turning the most venerable out of their dwellings. This is the main reason Labor’s NRAS didn’t work.
The only real example of a quality rental portfolio I know of in Australia that ticks all these boxes is Harry Triguboff’s Meriton Apartments. It is reported that Triguboff holds a rental portfolio approaching 3,000 apartments in addition to his expanding serviced apartment business. This is a savvy move as it allows apartments to be accumulated during the market downturns and enables a steady construction pipeline over the cycles.
Meriton self builds, and Triguboff is in my view the most efficient builder in Australia. He now builds quality apartments that are conscious of the possibility they may sit in a held portfolio for some years. He does not have to over ‘glitz’ his product as it is sound and mainstream. Meriton can take its development margin at the time of its choosing. Mostly developers have to take their profit margins at the point of sale. They do not normally hold stock.
This creates another barrier to market entry for potential investment institutions: those institutions do not want to take portfolio assembly and construction risk. They are unprepared to deal with the development consent process that Meriton have mastered. Thus, they are consigned to consider stock created by developers and builders who do not enjoy the economy of scale of Meriton, either as an asset creator or manager.
Ad-hoc portfolio assembly is inefficient and expensive. It lacks the considered ‘hold’ criteria that Meriton now builds in. I estimate that Triguboff’s rental apartments go into his portfolio at least 20 per cent below any alternate and as a result, have been delivering upwards of 12 per cent total returns for the last decade. Meriton could not find a better risk-free investment.
If any government thinks it can get into this game and not have a plan to facilitate institutional portfolio assembly without these characteristics, they are dreaming. And this is not a challenge that can be met out of a social housing or a planning portfolio. The government will need to reappraise its market intervention strategy.
In my view, this will require an intervention which targets a substantial addition to housing choices for households caught in the housing gap. I believe it will require a medium term disruptive strategy that plays in a space not currently occupied by any existing for-profit or not-for-profit supplier - a strategy that is less homogenous than those of the existing players. Such a strategy should signal an intervention period of up to 15 years, with a clear exit plan that can be understood by the housing industry – ‘adapt or be displaced by new disruptors.’
There is a clear case of market failure to meet the home ownership aspirations of the growing number of households now caught in the housing gap. We live in very different times to the ones that gave Australians entry into detached owned homes. We live differently and in different building typologies, but that’s not a political excuse.
If governments are now minded to step away from facilitating new owner housing supply alternates, then they should be honest with the electorate. They should then be seeking a mandate for giving up on a goal that they have until now been expected to facilitate. Failure, however, is not an option if the NSW government is to house the population now envisioned as essential for a modern economy.