The renovation ripple effect: How this under-reported driver moves the property market

15 March, 2024: Fundamentally, what drives the property market in the long term?

I would argue it is a function of these core drivers:

  1. 1. Wage growth
  2. 2. Changes in the availability of leverage
  3. 3. Population growth vs. growth in supply
  4. 4. Changes in the unemployment rate
  5. 5. Property renovation
  6. 6. Changes in taxation
  7. 7. Changes in foreign investment into the asset class

In the labyrinth that is Australia’s property market, it’s a challenging task to pin down how these factors individually influence the market. One of the most challenging is isolating the impact to the property market from renovations.

Renovations are split into two camps: those that require local council permission, and those that don’t. The former leaves a paper trail via public DA applications, while the latter is typically chronicled on handwritten invoices from the tens of thousands of builders nationwide. Traditional data sources like the ABS Building Approvals attempt to collect a sample of these builders’ revenues, but it is highly aggregated and likely under-reported.

At FrontYa, we’ve done a lot of work to unearth this data at the individual property level. We’ve developed a bespoke AI model that analyses the listing images when a property was purchased and subsequently sold years later. Our AI model can infer the difference between these two sets of listing images to determine the probability that a room was renovated.

Australian New Households vs. New Dwellings Chart

Example of FrontYa’s AI model that detects renovations

The model means FrontYa can control for renovations when we perform our risk-based pricing on each property we co-invest. But for this article, the model is also useful to help attribute the effect of renovations on the property market as a whole.

So what is the impact on the property market from renovations?

We found that across Australia, 20% of property listings feature noticeable renovations, showing off their new kitchen, bathroom, backyard etc.

Australian New Households vs. New Dwellings Chart

Source: PropTrack data, FrontYa AI models

Interestingly, during the pandemic, when we were all cashed up and able to give our homes a facelift, the percentage lifted above 22%.

And these renovations aren’t just for show, they’re adding a hefty 8% to sale prices on average.

Australian New Households vs. New Dwellings Chart

Source: PropTrack data, FrontYa AI models

This 8% has varied recently. During the pandemic the average buyer only placed a 5-6% premium on a recent renovation, while today the premium sits at 11%. The change in behaviour is likely due to reducing household cash reserves, input cost inflation and the challenges with construction delays and completions.

Adding these two insights together and it reveals that of the ~500k residential properties that change hands each year, 100k (or 20%) are experiencing an ~8% uplift from a recent renovation. If everything else was equal, this would add an extra 1.6% growth to the reported property sale prices across the country.

How do these reported sales influence reported property market growth?

PropTrack and Corelogic publish national and city indices to track the residential property market. Their indices typically sit behind those news headlines you read each week on the property market.

These companies both use variations of a 'Hedonic Index' methodology to calculate these residential property indices. The methodology is great at removing the compositional bias of properties being sold vs. those off market to ensure "apples for apples" comparison when calculating the property market growth.

What is compositional bias? An example of it is when a large apartment complex is completed and all the units are sold in a given week. The mass sale would skew the composition of that week’s property sale results for the city towards smaller, and lower valued, apartments.

Yet, the hedonic index can only remove skews in property attributes that are documented. Corelogic reports that their model captures data on whether a property was renovated in the last 10 years. Let’s assume Corelogic has built tech similar to FrontYa to identify renovations from listing images and can therefore tag every renovated property that was listed. The remaining problem, however, is every off-market property cannot be tagged since they obviously have no recent pictures available publicly. This lack of data means the Corelogic hedonic index would be implicitly assuming the rate of renovations is similar with listed properties vs. off-market properties, which is highly unlikely.

This means the hedonic methodology is likely over-inflating the effect of renovations on the indices that report property market growth.

How can over-inflating the impact of renovations influence the sales price of a given property?

When selling a home, people often consider property market growth when establishing their price expectations.

For example, you might take a comparable property, adjust it by how much the market has grown in that area, adjust for any key differences and estimate a price. Or perhaps you might look at how much was paid previously for the property, how much the market has grown subsequently, adjust for renovations done and then determine a reasonable price.

To the extent sellers, or buyers, use these approaches, then they are likely using an inflated growth figure to influence their price expectations.

Using this logic, renovations are not only growing the property market from the money injection but also from (incorrectly) influencing how others perceive price.

Our above analysis shows this effect could be as high as 1.6% each year. On the other hand, ABS Building Approvals shows only $12bn is spent on residential renovations annually, equating to an injection of 0.12% on the $10 trillion residential property market. The real answer probably lies somewhere in that spectrum.

Yet, given the likely under-reporting of residential construction work and the logic demonstrated in this article for renovations to influence price perceptions, there is no doubt renovations are having a material impact on the long term growth of the Australian property market.

Note: The input data used for this analysis was sourced from PropTrack Pty Ltd (ABN 43 127 386 298). Copyright and Property Data Disclaimers.

FrontYa is launching its Home Equity Investment Trust (HEIT), which provides investors with exposure to 2x the Australian residential property market growth. Click below to read more.