Value & Worth By Elvin Fernandez

IN 2012, Malaysia’s economy continued its steady growth in the order of 5% to 6% a year, a range that it has settled into since the Asian financial crisis of the mid 1990s.

The property market is correlated to economic growth. The residential subsector is also driven by high household formation that stems from Malaysia’s relatively young population with rising income.

Residential prices, as measured against household income, is a key fundamental in this subsector. This is due to the fact that residential properties are mainly owner-occupied that mainly drives demand for residential properties.

To a lesser extent residential properties are also purchased for investment purposes, and thus rents, yields and capital appreciation are also important factors that drive the subsector.

Looking at historical trends, the subsector has shown an average relationship of four to 4.5 times of gross annual household income to residential price. But since five or six years ago, before and after the global financial crisis, residential prices have run up to higher multiples in many of the hotspots within Kuala Lumpur and other major urban centres in Malaysia first in very selected high interest areas and then in a horizontal spread.

The reasons for this run-up are many but can be narrowed to namely the prevailing low interest rate regime locally and globally, and a perception that property is a good hedge against inflation, more so after prolonged periods of low interest rates. There is also the fact that many investors are searching for higher yields to better protect their savings.

Net residential yields have also been falling to levels below 2% a year in many of the hotspots. Fearing a bubble in the sector, Bank Negara, like other central banks in the region, has introduced macro prudential measures, such as tweaking the loan-to-value ratio to defuse it.

This has had some effect but, as it has turned out, it has affected the secondary market (usually 80% to 85% of the residential market) more, than the primary market (where one buys from a developer).

A study of transactions in each of the first nine months of 2009 to 2012, as obtained from the National Property Information Centre or Napic, suggests that growth in transactions is slowing and may soon contract. Transaction numbers for the fourth quarter 2012 are still not out at the time of writing.

It also shows that while the compounded annual growth rate of transactions in the secondary residential market was 4.65% during those years, it was 28.5% in the primary market. While normally the primary market makes up around 10% to 20% of the market, for the first nine months of 2011, it reached an overall 21.76% and for the first nine months of 2012 it has gone on further to touch 24.05%.

The reason for this shift towards the primary market is not hard to rationalise. While Bank Negara has rightly introduced cooling measures in the market, developers, needing to continue to be participants at the same previous levels in the market, have introduced a variety of incentives to secure sales.

The incentives range from the initially introduced 5/95 scheme in January 2009, in the aftermath of the global financial crisis, to moves such as absorption of stamp duty and legal fees by developers, guaranteed rents and in some instances even cash-back payments. All this makes buying from the primary market a better proposition compared with the secondary market.

The allure of the primary market is further strengthened by the fact that in many instances loans can be secured without the purchase price being reduced by the incentives, as it should.

Market values are indeed the basis on which loans are approved but if a large part of the market is, and increasingly, priced at prices which includes the incentives, then the true market value can become hidden, which in turn can result in loans being higher than what they ought to be, and consequently, in a downturn, and or in the event of loan default, the carrying value can be higher than what it ought to be.

These issues need further study so that even better policy can be crafted for the residential property market so that it is sustainable.

In the big scheme of things, a main issue in 2013 for the residential subsector will be the inflow of funds that leave the low interest rate regimes of the developed economies in search for higher yields in emerging markets and in this part of the region.

This include flows into real estate investment.

A number of countries in the region have taken pre-emptive measures to strengthen their residential property sector from any possible repeat of the Asian financial crisis, like situations where cheap money flood in and exit in a hurry when there is an external shock.

While the residential market in Malaysia may not be a direct recipient of such funds unlike in other economies in the region, the fact that Bank Negara is watchful for such factors is evident in our macro prudential measures targeted at the residential subsector.

This indicates that if the market were surge to higher levels than what is seen as fundamentally reasonable, further cooling measures may be the order of the day. Perhaps policy measures then can also focus on maintaining a better balance between the primary and secondary markets.

> Elvin Fernandez believes in the free market and timely nudging by policymakers and key market participants to iron out any, and only where needed, imperfections in the system. To do this, and over time, they need a steady stream of in-depth market knowledge and insight.

Source: The Star