Battle of the Housing Bubbles

Includes: ENZL, EWA, EWU, IYR, TAO
by: Leith van Onselen

A few months back I came across the below chart from HSBC's global research team, which compares the housing markets of Japan, the United States, Hong Kong and China, and shows total residential housing value relative to GDP.

The ratio of the total residential housing value to GDP is a useful measure of potential overvaluation of the housing market. It is also a useful indicator of potential malinvestment of a country's financial resources, since over-spending on houses, which is unproductive to the extent that prices for pre-existing houses are inflated, often comes at the expense of investment in productive infrastructure and/or enterprises.

First, there was the mother of all housing bubbles - Japan in the 1980s - where total residential housing values reached a stratospheric 3.8 times GDP. It burst shortly after the Japanese stock market bubble and both markets have since fallen by around 80%. The Japanese economy has been in the doldrums ever since.

Second, came the Hong Kong housing bubble, where total residential housing value peaked at 3.1 times GDP. It burst shortly before the Asian financial crisis began in 1997 and the housing and stock markets lost over 50% of their value before recovering. However, due to the rapid ascent of China, the economic fallout in Hong Kong was short-lived.

Third, came the United States housing bubble which, compared to its Asian peers, was relatively small peaking at only 1.8 times GDP, due largely to fact that its second largest state, Texas, as well as the Mid-West never experienced a bubble. Regardless, the United States housing market is still deflating, having fallen more than 30%.

Finally, there is the current China housing bubble which, at 3.5 times GDP, has surpassed Hong Kong's bubble and is approaching Japanese levels. This has prompted the Chinese Government to lift interest rates, tighten real estate lending, and clamp down on speculation.

Bubble Watch:

History tells us that asset bubbles are unsustainable and it is only a matter of time before they burst. And the larger the bubble, the bigger the fallout. Based on the above case studies, a country's housing market is clearly in bubble territory when its housing stock is valued at more than three times its GDP.

In what I hope will become a regular feature, I have begun tracking housing stock to GDP ratios for several housing bubble countries. My initial list, which comprises Australia, New Zealand and the United Kingdom, is provided below. I am hoping to add Canada to this list, however, I have so far been unable to find time-series data on its residential housing stock [if any readers know where to find this data, please contact me].

Australia's ratio of housing assets to GDP was 3.3 as at June 2010, surpassing both the United States and Hong Kong housing bubbles, but still below both the peak of the Japanese and Chinese bubbles.

New Zealand's ratio sits at just under 3.2 times GDP as at June 2010 after reaching a peak of around 3.5 times GDP in 2007.

The United Kingdom's ratio, where data is currently only available to end-2009, is showing a ratio of around 3.1 times GDP, which is equal to its peak level first reached in 2007.

Clearly, all three countries housing markets are in bubble territory, although they appear to be at different stages of the cycle.

With house prices flat in the September quarter, positive GDP growth, and rising interest rates, Australia's ratio of 3.3 reached in June is likely to represent the peak, particularly given the significant headwinds facing the market over the coming decade (see my Australian Housing Bubble post for a detailed examination of these issues).

New Zealand's housing market has been slowly deflating since 2007. And with high household debt levels, adverse tax changes, tightening credit, and aging demographics, housing values relative to GDP are likely to continue falling (see my New Zealand housing bubble post for a detailed examination of these issues).

Finally, the United Kingdom's housing market, which rebounded between 2008 and 2009, appears to be entering a double-dip, which should lead to a falling ratio going forward.

Please let me know if you would like any countries added to this list and, if possible, where I can find data on total residential housing value. I will post an update when new data is available.

Disclosure: No positions