Which mean ? The 10 yr mean ? The 30yr mean ? The 100 yr mean ? Or the mean since the Domesday book ?
Stuff changes all the time ? Means change for good reasons.
UBS: Aust Residential Affordability
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Which mean ? The 10 yr mean ? The 30yr mean ? The 100 yr mean ? Or the mean since the Domesday book ?
Stuff changes all the time ? Means change for good reasons.
how does this relate to the topic though....? are you saying the economists who work for UBS are just as bad as the Directors and CEO and have no credibility thus?
Yes the directors and the CEO are the ones who stand up it take the flack. The high paid economists that advise/consultants are certainly part of the financial cancer. UBS is only one of many thousands of insolvent banks world wide. As we have seen today with AIG insurance losses ; our entire financial system is imploding.
Only a sicko would take satisfaction in what has evolved.
call me a sick fk then, because it's making me a ton of money.
I would pick the mean from 1930, the last GFC. I assume credit expands and contracts in multidecade cycles. This may or may not be correct.
The price:income ratio is always going to be relevant. It is ultimately what people will be paying back their loans with if there is no capital appreciation.
Means do change over time (by definition, every new value adds to the mean). Interestingly things revert to the mean (not by definition, but this is an empirical fact based on the behaviour of most markets). However you measure mean price:income it has gone through the roof in the last decade. Is this a paradigm shift or a bubble ? To me it looks like a bubble, smellls like a bubble. We will have to wait for it to pop before we can say, "oh, it was just a bubble".
You can lose a lot of money in a bubble and it pays to be bubbleologist.
My investing is based on 3 main things :
1. markets are mean reverting
2. medium term volatility is underpriced by most participants, which results them to blow out their equity. They underestimate the probability of extreme events which occur every 2 or 3 decades rather than 1:10,000 years as most models predict. A 1:1000 year event seems to occur every cycle.
3. long term volatility is overpredicted by most participants, particularly in downturns.
1. means I am very sceptical of this time it's different or new paradigm ideas. If it is a new paradigm, I'd rather stay away from it because 99 times out of a hundred it isn't.
2. means I prepare for bigger variations in the down and upside to interest rates and other variables (such as rent) than I can currently comfortably imagine
3. means I discount (try to forget about) recent historical volatility in deciding what I think long term volatility is or more importantly what the long term probability distribution of returns is likely to be.
Thinking about investing in an all or nothing manner, basing future returns on the recent past, and assuming that as x has not occurred since 1935, it will never occur or cannot occur is I think an error. It is not a matter of "can real estate fall 30% nominally across the board in the next 10 years". Of course it can. Anything can happen. But what is the basis for your subjective probability of this occurring. Obviously most on this site assume the probability is zero. I think it is about 30%. I think there is a 20% chance it will fall 50%. Everyone has a different subjective probability and they base their investment decisions on it and this determines their blowout probaility.
Buffet wrote about 3. in a very interesting way in his letter recently. Basically, he thinks the market overestimates implied volatility in the long run so he has chosen to write ultra long dated contracts. Time will tell whether he correct in this. He also said the US housing market was a bubble.
I think if prices decline for property significantly, people will overemphasise the recent past and there will come a time when the market factors in negative expected 20 year capital returns, just as they have overoptimistically assumed very positive 20 year returns in the recent past. That is when I want to be buying.
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Very good post contrary.
Your point is one that i have constantly tried to raise on this board.
Did you know that Warren Buffett in Idaho in July 1999 stated
the next 17yrs might not look much better than that long stretch from 1964 to 1981 when the Dow had gone exactly nowhere, that is unless the market plummeted.
And what do we see now: the DOW at 12 year lows
People wonder how Warren Buffett can consistently out perform the market over long periods of time (and he has been doing it since 1964odd), but one of his 'secrets' is exactly your point, gravitational pull of the mean (the other is correct stock or business selection).
Its so easy to do, but most people cant do it because they let emotion (either fear or gread) get in the way.
Your point is one that i have constantly tried to raise on this board.
Did you know that Warren Buffett in Idaho in July 1999 stated
the next 17yrs might not look much better than that long stretch from 1964 to 1981 when the Dow had gone exactly nowhere, that is unless the market plummeted.
And what do we see now: the DOW at 12 year lows
People wonder how Warren Buffett can consistently out perform the market over long periods of time (and he has been doing it since 1964odd), but one of his 'secrets' is exactly your point, gravitational pull of the mean (the other is correct stock or business selection).
Its so easy to do, but most people cant do it because they let emotion (either fear or gread) get in the way.
When I said 'means change', I wasn't referring to the simplistic adding a new value to the end. I was referring to the reasons behind the mean changing. The mean has been different in all those periods for good reasons. You've chosen the mean since 1930s.... why ? Has anything changed that could cause the mean to change in that period ? I think it has......
In the subsistence days everyone was working the fields producing food to survive the winter.... absolutely no discretionary income to buy a house. Then some smart guy invented the plough, productivity increased and he was able to produce more than he could eat, sell a bit of it & had enough to buy some glass for the windows of his shack...... then steam.... then oil (a biggie) - a barrel of oil (costs $40 today) contains enough energy to replace 2 labourers working for a year, productivity skyrockets.... consequently he has lots of excess income, his food needs are met (he can't eat any more), so he has to spend it elsewhere, the chooses to afford a slightly better house.... over the decades he has more & more excess income.....you can see where this is going....
He started with a house worth virtually nothing (he built it himself), the mean for 100s of years was flat, nothing changed for a looong time. Then with a little discretionary income he improved the house with windows (and the mean changed permanently), and then steam & oil increased discretionary income significantly, so the mean changed to a permanently higher plateau.
The price:income ratio worked for long periods of time because discretionary income increased v. slowly - at roughly the same rate as income.
Recent changes (since 1930s) have increased our discretionary income - dual incomes, cheap energy, more efficient farming, low imported inflation, concentration of population in cities. The mean moved permanently higher.
Is the paradigm shift permanent - price:income worked for a long time, however price:discretionary income is a better measure today.
Another paradigm shift we've had recently is the increase of easy debt for all asset classes.
Looking at it from the other angle..... we have significantly more discretionary income than we've ever had. 200 years ago we'd have spent it on more/better food, 100yrs ago on better health, 50yrs ago on better house,..... we're moving up Maslows hierarchy of needs.....
...and today we have significantly more than we had 15 years ago.... what are we spending it on ? A new iPhone every year, a new ute every 3, and a bigger house than the Jones. If our discretionary income stagnates or we choose to spend it on something other than satisfying our need to be better than the Jones then we'll probably see house prices stagnate or fall.
And looking to the future I see our dependence on oil as a limiting factor in increasing our discretionary income. Renewable/free energy will increase it significantly, and cause the mean to change permanently again.
Am I right in simplifying this to say house prices have (long-term) trended with GDP on a per household basis, rather than per capita basis? If so, I'd agree with that.
One of the reasons that improved productivity works is that it encourages economies of scale, which in turn this leads to increased specialisation. But with that increased specialisation comes a greater reliance on the (financial) outcomes of others to maintain the value of your service.
In your subsistance farmer example, when the roof leaks he fixes it. By the time of steam and oil, he's paying a local roofer to repair it. Nowadays he might email photos to a range of roofers across the city and effectively conduct an auction (of sorts) to drive the cheapest price. But if a hail storm has gone thru the other side of town and roofers are inundated with work, the cost of his repair goes through the roof. There is an expected financial benefit (ie to the leaky roof guy, the mean has increased), but the volatility has increased significantly (since the roof repair market is wider, more efficient and more integrated).
This drives an increased correlation of financial results amongst the population, which in turn increases the volatility of the returns for an investor investing in the market.
My view is not that the 'appropriate' mean to revert to hasn't changed. I suspect it probably has. Rather that it is perceived to be a 'free lunch' by many investors, when in fact, the cost is increased volatility. IMO, this has led to a fundamental underpricing of risk.
As an example, dual incomes as the norm has tended to increase household income levels. But they also increase the volatility of the household P&L (since they are now reliant on the stability of two incomes, not one).
I disagree that this is a paradigm shift. Rather, I believe it to be a consequence of the fundamental underpricing of risk and it will correct itself over time, not necessarily from the perspective of access, but more in terms of fair pricing (which may be perceived to be from an access perspective). Time will tell which of us is right.
kudos for the post. very well written.
my issue is the SPEED of return to mean. it's all well and good to say "it'll correct" - but how fast will dictate if there will be an overshoot to the wrong side which prime buying (or selling) opportunities arise.
for example, i'm hoping for a plummet in house prices temporarily. that way - i can watch as the RBA unfold more cra pola onto the joe average and causes sentiment to dive and house prices along with it.
great - prime buying opportunity as it becomes an overshoot to the downside.
imagine all those folk out there buying "4 + family sites " in the US right now. they rent for more than the mortgage is worth, and as long as you're in a fundamentally strong city then you should be set to ride out the very real D&G for a return to mean.
if prices return to mean slowly, then it provides confidence within the investing community that it really is just a return to mean / following historical averages / easy to read pattern. you can purchase a month or two before it looks llike returning to mean to ensure you're in for the eventual ride up.
i'm a glass half full person. watching and waiting is a game best played with cash ready to go, or studying for when you CAN afford it.
game on.
Not really. Inflation has been low for the last decade, wage growth has been higher, discretionary income increases have exceeded both.
Sounds like an interesting view.... I'm not sure I fully understand... can you elaborate ?
My point was that the mean changes for good reasons. By picking a mean from 1930 till today, implies that there are no reasons for the mean to change in that period. And further that all changes are just volatility being expressed. eg dual incomes are a passing fad of the 1990s, discretionary income will revert to increasing at inflation & we will never feel any richer, more efficient farming practices will go backwards.
I'd agree that there will be medium term volatility (for good reasons). But some paradigm shifts are here to stay... and hence the long term mean has less relevance that the shorter term mean.
Love it!GEE! today dwelling approval data for january are down 3.7% month on month!
Considering home sales are up 8.3% for january we might end up with building shortage
Noones building 'em and a whole bunch of people now want to buy 'em. What an ugly investing environment hey!
I love it when I read dwelling approvals are still falling. Particularly good for me sitting on my current DA approval and just giving it a few months for the dust to settle before I commence. Good to know there's not a whole swath of other developers lining up to do the same thing. Wouldn't want the market to be too crowded at completion...
Cheers,
Michael
A very good post keith - sorry but I must first spread some more kudos around... I agree this will happen but not by a lot. Retail household prices for electricity are around 13c/kWh at the moment. With 20% renewables on the grid this will probably increase to no more than around 14.5c/kWh (assuming 6c extra for this much renewable energy supplying 20% of the mix). More expensive yes but hardly going to break the bank. To get up to around 50% the next 30% renewables would now cost around 10c extra which implies a retail price of circa 18c/kWh. Not that simple but you get the idea... the real cost easily gets overblown in this discussion and we have to keep in mind Australia comes from the position of having the second cheapest electricity in the OECD.
Nuclear.
That is all
Have I taught you nothing yet Witzl?
Why would you go nuclear when:a) It is just as expensive as renewables (along with the necessary balancing plant) and
b) It needs govt backing to fund it, unlike its competition?
To get back to the thread, I am of the opinion that in the lower income suburbs, house prices are not over-inflated at all. How can a house getting 6-7% yield be overpriced? The marginal cost of replacement is usually higher than it's price! In this example, if anything we are at or below any reasonable mean IMO.
Of course, there are plenty of examples where yields are half this amount and these are the locations I don't plan to invest in... I really think we should be re-focussing this discussion on which investment opportunities allay these concerns rather than use these concerns to throw up our hands and say all residential property is overpriced when clearly it isn't!
Cheers mate. I was thinking of more than just cheap household electricity.... hopefully rechargeable cars/trucks/tractors too.... reduce our dependence on oil for transport. And in another 10 yrs work out how to split water into H & O cheaply & get planes running off it. Demand for oil will plummet, peak oil will be seen as one of those things that only the chicken likkens ever worried about (maybe).
The bottom line is that improved technology & increased productivity will in the long term give us more discretionary income .... and we'll spend it on stuff that makes us happy.
This was going on for centuries, technologies improving is not a new thing.
It could be that travelling will get so cheap that travelling to the city will be easy fast and cheap and no need to live near the city centre. It could also be that you can work from wherever you like and there will be a huge oversupply of offices in cities like MEL and SYD.
Productivity is a bit dodgy to predict because new technology like Facebook and internet in general have in many cases reduced working time.
That's the RBA argument. The bit I don't get about it is why would higher discretionary income go into bidding up the prices of existing housing stock? Big Macs weren't bid up in price as people's discretionary income rose.
Sure has... and consequently the most relevant mean keeps changing.
You're the economist YM.... surely you can think up sound reasons why the supply/demand of Big Macs isn't the same as that of houses ?
that is a good point.
The main discretionary item these days is a new car. Probably investor thought discretionary money will rise forever in a new plateu and got plans to boost car pruduction forever untill the GFC hit. Now GM hopes to have 50% reduction in sales compare to the pre-GFC.
About homes there will always be new homes and new renovations, but like gremlin said volatility have definetly increased. I think it doesn't necessary mean volatility will be higher in the future as well. For example in a society with no debt and none is borrowing and lending nothing (or nearly nothing) to anyone volatility will be very small, similar to century ago where volatility was dependent mainly on the number of people (with desease and food shortages etc.). May be our government leaders will lead the society to a lower level of debt. Could be also that Economy science will have big progress and a new economic model will make the world stable...
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