Housing market conditions are likely to remain significantly dependent on interest rates.

It has arguably a challenging year for the housing market this year, with the aggressive upwards trajectory in the cash rate not seen since more than 10 years ago. What trends are likely to unfold as the market enters 2023?

Dwelling values across Australia fell 1% in November, putting them 7% below the recent peak recorded in April this year, according to CoreLogic.

Through the upswing, housing values surged 28.6% higher, which means that an average dwelling had a value appreciation of at least $170,000.

While it can be said, based on recent data, that the downturn is already easing, there are seven key trends to watch out for over the next year that could influence the conditions and sentiment in the market.

1. Interest rates remain the most important factor in market trajectory

CoreLogic’s research director Tim Lawless said the Reserve Bank of Australia has already settled into a more moderate cadence of rate hikes, as it moves from 50bps increases to 25bps upwards adjustments in recent months.

“Although the RBA could revert back to a more aggressive policy stance, there is a good chance Australian interest rates will peak in the first half of 2023, if not in the first quarter,” he said.

Mr Lawless said further increases in the cash rate would bring it to the limit of mortgage serviceability assessments borrowers are tested on.

“If interest rates move materially beyond 3.1%, it is reasonable to expect a more substantial rise in mortgage distress, especially when considering the high cost of living pressures,” he said.

2. The potential increase in fixed mortgage rate refinancing in Q2 next year adds downside risk of mortgage distress

The RBA recently estimated that around 35% of outstanding housing loans were on fixed terms, which is higher than the historical rate of 20%.

“Further, the RBA expects about two thirds of these loan terms will expire by the end of 2023, with borrowers facing a three to four percentage point rise in their mortgage rate,” Mr Lawless said.

3. The risk of a material lift in defaults remains low

Despite the likelihood of mortgage arrears progressively rising from record lows, the tight labour markets will play a big role in keeping a lid on defaults.

“The unemployment rate, recorded at a generational low of 3.4% in October, is set to rise into 2023, but not to above average levels," Mr Lawless said.

“Forecasts from Treasury and the RBA, along with the private sector, generally put unemployment around the mid-4% range in 2024, which is still well below the 10-year average of 5.5%.”

4. Household savings and higher repayments would provide buffer

According to the RBA, the median variable mortgage rate borrower in August had enough in their offset or redraw accounts to cover 20 months of mortgage repayments.

5. Low inventory level is balancing the slump in housing demand

Advertised stock levels are well below average across most markets, which means the is no evidence to suggest an oversupply of homes.

“A rise in advertised stock levels would be a warning sign for a reacceleration in the downturn, but this is looking unlikely, at least in the near term,” Mr Lawless said.

6. Housing affordability concerns are easing

As housing values trend lower and incomes increase, affordability seems to be improving across most markets.

In fact, the median dwelling values to income ratio reduced from 8.4 in the March quarter to 7.9 in in the third quarter of the year.

This means that the number of years estimated to save a 20% deposit also trended lower, from 11.1 in March to 10.6 in September.

“An improvement in these metrics implies lower barriers to entry for first home buyers,” Mr Lawless said.

7. The flipside to lower affordability barriers is worsening serviceability costs

Even before the successive rate hikes, the share of household income required to service a new mortgage was already rising.

“With interest rates trending higher, the portion of median household income required to service a variable rate mortgage is back to the highest level since Q3 2008 when the cash rate was 7.0%,” Mr Lawless said.

Also read: Revealed: Key housing trends to watch out for

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