Australia's profit rebound has a housing problem

AUSTRALIA'S corporate profit outlook looks rosy on the surface. Consensus forecasts for the S&P/ASX 200 point to 12% earnings-per-share growth this financial year, the strongest in four years, well above the long-run average of 4.5%. Brokers have long expected 2026 to end three years of profit declines. The trouble is that the headline conceals a fault line running through the Australian economy. The gain comes almost entirely from commodity exporters riding a strong resources cycle. The rest of the economy - banks, retailers, homebuilders and the millions of households who depend on all of them - is caught in a housing slump whose duration nobody can predict with confidence.

To understand why, it helps to separate the three forces now colliding.

The first is monetary policy. The Reserve Bank of Australia has raised its cash rate three times in 2026, to 4.35%, reversing the easing cycle of the previous year. The driver is inflation, which the RBA itself now expects to peak at 4.2% on headline measures and 3.7% on underlying ones in the middle of this year. That is a late and unwelcome peak. It reflects, in part, the spillover from the renewed conflict between the United States and Iran, which has sent oil prices surging and pushed Australian petrol towards 260 cents a litre. The RBA's February Statement on Monetary Policy already judged the economy "further from balance" than it assessed six months earlier. Governor Michele Bullock recently described the housing market as a "litmus test" for whether financial conditions are tight enough to bring inflation under control. If the housing market keeps softening, the central bank may feel it can stop. If it does not, she has hinted that "difficult decisions" lie ahead.

The second force is fiscal. The May 2026 federal budget delivered the most significant overhaul of property taxation in nearly three decades. From July 2027, negative gearing on established residential properties will be restricted, meaning rental losses can no longer be offset against a taxpayer's salary. The longstanding 50% capital gains tax discount will be replaced by cost-base indexation with a 30% minimum tax. Investors who purchased before Budget night are grandfathered; new-builds remain exempt. The government's objective - to channel investment into new supply rather than bidding up existing stock - is coherent in principle. In practice, the timing collides with tighter monetary policy, and the shock to investor sentiment has been immediate. Mortgage-inquiry levels fell 14% year on year in June, according to Equifax, a credit-analytics firm, reversing the growth that characterised the start of the year.

The third force is the one the profit forecast depends on, and the one that is least likely to survive. Sydney and Melbourne house prices are down roughly 5% so far in 2026. Auction clearance rates have been stuck below 50% since late May. New property listings are falling even as total housing stock rises, a sign that homes are sitting unsold. Cotality, a property-data provider, recorded its sharpest monthly national price decline since December 2022. Domain, another vendor, now forecasts Sydney values to fall between 3% and 7% over the coming year, with Melbourne following. Morgan Stanley at one point expected national prices to drop by as much as 10%.

The consequence for corporate Australia has not been gradual. The broad index of bank shares has tumbled 12% since February, wiping more than A$60 billion from market capitalisation. Banks are the obvious first casualties: the housing slowdown curtails new lending, and the longer prices fall the greater the risk of weaker loan-quality metrics. But the transmission extends further. Department store Myer saw its shares plunge 10% after warning that a "weaker housing market" was weighing on consumer spending in June and July. Morgan Stanley downgraded the entire ASX consumer sector from "in-line" to "cautious", noting the direct link between fewer property transactions and less spending on furniture, appliances and renovation. CommBank's household-spending index shows the deceleration: monthly growth slowed to 0.3% in June, well below the 0.5% monthly average through 2025. Year-to-date, the pace of spending growth has fallen by about two-fifths.

Two economies

The reason the profit forecast and the housing chill can coexist is that Australia runs on two balance-sheets. One belongs to the mining and resources sector, which benefits from strong commodity prices, geopolitical disruption and robust Chinese demand. UBS attributes much of the ASX's 12% earnings upside to the recovery in mining. The other balance-sheet belongs to the domestic-facing economy: financials, retailers, property developers, construction services, and state governments that rely on stamp duty. The New South Wales government, Australia's largest, cut its stamp-duty revenue forecast by A$5.3 billion over the next four years in June. State budgets will tighten.

The market's broad earnings optimism is not necessarily wrong, but it is misleadingly homogeneous. An investor reading the consensus headline would be forgiven for assuming that the profit recovery is broad-based. It is not.

To be sure, there is a case that a housing downturn can be good news for the stockmarket more generally. Morningstar found that in the five periods since 1980 when Australian dwelling prices fell by at least 5% (excluding the global financial crisis), the S&P/ASX 200 rose on average by about 7.5%. The mechanism is familiar: falling property prices relieve household cost pressures over time, which eventually frees spending elsewhere and pushes capital out of real estate into other assets. The problem with that historical comfort is that it assumes the downturn is modest, the labour market stays intact and the RBA can ease once inflation is under control. None of those conditions is guaranteed now.

The danger is not immediate collapse. It is slower: weaker investment, higher costs and the politics of permanent subsidy. The RBA is trapped between Iran-driven energy inflation and a domestic economy whose most vulnerable sector - housing - is already showing strain. A fourth rate hike in August, which markets now price at a non-trivial probability, would deepen the housing chill further. A hold would give the central bank time to assess whether the last three hikes have done the job. But with Brent crude near US$85 a barrel and the federal government's fuel excise relief expiring on August 2nd, there is little room for error.

The better answer is not to pretend the two-speed economy will merge on its own. The government's property-tax reforms are aimed at the right structural problem - chronic undersupply - but they need to be accompanied by measures to speed up construction, not just to discourage buying. As even Commonwealth Bank economists note, without faster approval processes, lower building costs and fewer regulatory bottlenecks, the tax changes will simply reduce investor demand without meaningfully increasing supply. Meanwhile, state governments facing large revenue write-downs should resist the temptation to offset them by raising other taxes. That would worsen the very demand weakness the system needs to avoid.

For the investor, the lesson is simpler. The consensus profit forecast deserves scrutiny, not dismissal. The miners may deliver the headline growth. But the domestic-facing half of the ASX - banks, retailers, property developers, homebuilders - faces a headwind that is widening, not narrowing. Whether that headwind becomes a longer-term structural drag depends on three things: how long the Iran conflict persists, how many more times the RBA raises rates and whether the government's property reforms eventually translate into more homes or merely more caution. Until those questions settle, the profit outlook's optimism is concentrated in the wrong half of the economy.

The bargain is breaking.