Property stocks - Look out for time lags

Friday’s RBA Financial Stability Review highlights an interesting dynamic. The Review notes the risks of a marked over supply of new apartments in some areas. These warnings appear at odds with strong weekend auction clearances and a property market that continues to grow, especially in Sydney and Melbourne.

Friday’s RBA Financial Stability Review highlights an interesting dynamic.  The Review notes the risks of a marked over supply of new apartments in some areas. This usually means lower prices or, as a minimum, steady, soggy prices and slower sales.  

These warnings appear at odds with strong weekend auction clearances and a property market that continues to grow, especially in Sydney and Melbourne. However, in a dynamic similar to many commodity markets, supply changes take time to filter through the property market.

In recent years, supply has been slow to respond to an existing shortage and growing demand; fuelling stronger prices. Similarly, it takes time for building approvals and partly completed projects to have a negative impact on the market. Pre sales can also result in a lag in the impact a looming supply overshoot might have on developer profits.

Property stocks have seen this coming. Investors in shares like Stockland (SGP: ASX) have been taking profit now for a couple of months. Not only is there the possibility of a downturn in residential development profits but rising bond yields could also be negative for valuations in the property sector.

Stockland is already down 10% from its August peak. This might be enough for a relatively benign scenario where bond yields rise only to about where they were a year ago and property prices level out or soften a bit. Stockland is now down to a valuation of around 14.9 times forward earnings and a likely dividend yield of about 6.25% which provides some cushion.

However, the stock is beginning to test what looks like quite significant chart support. A well-established trend line and the 200 day moving average form the upper boundary of this support around $4.50. Last month’s low around $4.44 is the lower boundary. A clear break below this support could be see a deeper retreat. One possibility would be a move back to the levels of earlier this year around $4.13/$4.26. That’s a level that would provide a more compelling margin for safety against the twin threats of higher interest rates and weaker property prices.