Will resi really continue to double every 10 years?

Hi all,

I've traditionally been very bullish with my property growth expectations. We've just finished a dual occupancy development and in the process of refinancing so that we've got equity to re-invest again, and I've been doing a lot of thinking.

I'm not sure that I'm convinced that residential property can continue to double every 10 years anymore (i.e. 8% growth pa). Looking at history, I can see that since the 1970's a combination of the following contributed to the doubling every 10 years effect:

a. significantly increased availability of credit (i.e. I think you needed at 30-40% deposit in the 70's which is 60-70% LVR, whereas by about the year 2000 you could get 95-100% LVR.
b. Much greater proportion of woman full time in the workforce i.e. effectively doubling family capacity to service debt.

I can't see any opportunity for such dramatic increases in capacity to bid up the price of residential property occuring again. Of course, the drop in interest rates has increased borrowing capacity by some margin, but I don't see this being enough to achieve a doubling effect.

I also know that people use the 'substantial population growth and limited supply' as an argument, but its the average Joe and his/her wage, combined with the available LVR from the banks which determines their capacity to bid up property prices, so I don't believe that population growth alone can achieve a doubling.

In summary, I beleive that there are factors which will no doubt result in increases in residential property values (such as the first home buyers grant in 09), I just can't see them doubling every 10 years anymore (i.e Sydney last peaked in 2003, which would mean prices in 2013 being double what they were in 2003).

On the hand I can the sharemarket offering opportunity for doubling in this timeframe because business provides a needed service or product on the basis of fair exchange, and I beleive has the capacity and the right to growth because it contributes to the real economy, rather than rising just as a result of inflation, as property does.

Any thoughts? Am I losing the faith? I am very interested in others opinion concerning the 10 doubling effect going forward.

yep in my opinion its pretty much impossible for resi to double over the next 10 years for the reasons you mentioned combined with the fact that house price to income multiples are around double what they were back in the 90's.

Credit conditions will generally worsen before they improve as well - bigger deposits are already making an appearance and they will be a part of our landscape until around 2012 or so.

A bigger proportion of returns will come from yield rather than capital growth... as long as prices keep ticking up leverage should keep property returns at a decent level.

as for general share prices I doubt we will see much movement for the next 5 years... especially financial stocks. my gut feel is that there will be volatility in the index with tradable rallies

commodities and energy resources are likely to be better prospects

leverage is probably going to be the deciding factor between asset classes I reckon

it should move up in line with inflation at least, if you accept the argument that house prices are a multiple of wages and wages go up by x% a year. (if you believe official inflation figures that is. The reason hosue growth outstrips CPI is probably because CPI is not accurate)

Stagnation for 5 years say, could be the sign of a healthy market, people paying down debt, allowing some to earn more money to buy prices asked, and allowing room for another large 10 year boom after it.

Ausprop - this is something I've had trouble getting my head around:

Assume inflation is 3%. If a wage of ay $50,000 grows at 3% and a property valued at $500,000 also grows at 3%, over time the multiple/gap between the wage and the property value will grow and grow.

So if wages and property only grow at the inflation level, doesn't property gradually become less and less affordable (removing interest rate variations from the equation)?

Land said:

Ausprop - this is something I've had trouble getting my head around:

Assume inflation is 3%. If a wage of ay $50,000 grows at 3% and a property valued at $500,000 also grows at 3%, over time the multiple/gap between the wage and the property value will grow and grow.

So if wages and property only grow at the inflation level, doesn't property gradually become less and less affordable (removing interest rate variations from the equation)?

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ok so $50,000 becomes $51,500

at a multiple of 10 times earnings, the house becomes $515k, or 3%.

and so on.

the multiple isn't changing. except in reality inflation is closer to 10%. so wage earners are duped. I know accountants in Perth back in 2002 use to earn around $70k, now that's about $90k. real salaries have gone backwards. the change in the multiple for purchase of property has deteriorated massively. so the same individual would now have to buy way furhter out, but this is what happens tomedian priced property. median property use to be 1km from the CBD. every year it tracks out. It's now probably 30kms out!

the multiple isn't changing. except in reality inflation is closer to 10%. so wage earners are duped. I know accountants in Perth back in 2002 use to earn around $70k, now that's about $90k. real salaries have gone backwards.

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not only are your salaries going backwards, your savings in the bank are too!

even if the interest rate in your savings account matches inflation, you're getting taxed on that interest. so you're getting taxed on money you haven't really made

the good news is the ral value of the debt on your property is losing value at the same rate...

Sorry -you're right, the multiple doesn't change. That's embarrasing, I should have used the calculator before posting that.....

You think inflation is really 10%? Care to explain? That would mean property doubling every 7 years!

Also, I think yieldmatters is starting to rub off because if what you say is correct, that wages don't generally move in line with inflation (I think long term that they do), well, shouldn't property growth be related to credit availability and wage growth (which are of course linked).

Land said:

Sorry -you're right, the multiple doesn't change. That's embarrasing, I should have used the calculator before posting that.....

You think inflation is really 10%? Care to explain? That would mean property doubling every 7 years!

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yeh well, lots of goods and services double in noimnal terms every 7 or so years. the key point of confusion, I believe, is this dam "median home". It's not a static product. A median home of 1900 is probably a grand inner city mansion today. It's not apples for apples.

Land said:

Also, I think yieldmatters is starting to rub off because if what you say is correct, that wages don't generally move in line with inflation (I think long term that they do), well, shouldn't property growth be related to credit availability and wage growth (which are of course linked).

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dunno, getting a headache! I guess if a median home is moving further out, it can be argued that a median home could be static in noimnal $ terms but falling in intrinsic value (if youvalue being close to the city). of course there other considerations. the median home I grew up in a was a 3x1 with 5 peope in it. these days a median home in sticksville is a 5x3 with a below ground pool and double lockup gagrage and ducted air con.

Perhaps to really test this we need to track a specific home that has never been renovated. chart it's value over 100 years and compare that to median incomes and allow for the entry of women into the workforce. I think it could be done relatively easily.

at the end of all this my gut feel is still that well located property over the long term will exceed inflation. but that's part of the equation. you then have cost of financing, yield, risk e.g. ability to ride out down periods etc.

Ausprop said:

at the end of all this my gut feel is still that well located property over the long term will exceed inflation. but that's part of the equation. you then have cost of financing, yield, risk e.g. ability to ride out down periods etc.

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Agreed. You may buy in a desirable location today but due to time and expansion of the city/town it becomes really really desirable in ten years. This would warrant a greater than CPI rise.If you buy an outer uraban area today and compare it to a similar outer urban area in ten/twenty years then the rise in value may be less.

Personally I think people hoping for 100% are just being greedy! Not that that's a bad thing.

I'm more than happy with 50% over the ten years, and if this is all from inflation, that doesn't really worry me either.

Have $2M in property now, goes up by $1M over 10 years, and of course the rent goes up by 50% in the same time. Draw the $1m down as LOC, live on that, make it last 10 years. Then your $3M in property is now worth $4.5M draw that extra $1.5M down, live on that for 10 years...*

* Refer to Rixter for more comprehensive analysis of the plan...

This is quite simplistic, but very straightforward...

Noel

Perth Investor said:

Have $2M in property now, goes up by $1M over 10 years, and of course the rent goes up by 50% in the same time. Draw the $1m down as LOC, live on that, make it last 10 years. Then your $3M in property is now worth $4.5M draw that extra $1.5M down, live on that for 10 years...*

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I like it.

And of course property will double every 10 years or so. The rich will get richer and the poor will continue to rent. And for those battlers wanting to realise their dream of owning their own homes, it may take 2 or 3 generations to do it.

No chance. Property prices have historically tracked around 4-5 times wages and that figure has now bubbled out to 7. With tightening credit and eventual higher interest rates I can only see property prices in Australia going in a downward direction for several years. Probably after 10 years would expect some increase again but to nowhere near double current prices.

Perth Investor said:

I'm more than happy with 50% over the ten years, and if this is all from inflation, that doesn't really worry me either.

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50% over 10 years represents 4.14% pa. If this really is all from inflation, you're not getting ahead at all, your real return is essentially 0%. Have I missed something?

auror said:

50% over 10 years represents 4.14% pa. If this really is all from inflation, you're not getting ahead at all, your real return is essentially 0%. Have I missed something?

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Leverage. If the asset only increases at 4% but you contributed none/little of your own money, then it's still a good return.

The properties may be worth the same in 2019 dollars as they were in 2009 dollars, but that's not the point.

My $2m in property and $1.6M in debt has now moved to $3M in property at $1.6M in debt. My $80K rental is now $120K rental. I'm happy as the proverbial pig in poo!

The point is that property growth at inflation is ample to achieve my goal, assuming I manage interest rate risk. Anything over this is a bonus and will be accepted with glee.

Sure my cost of living might have gone up from $60K per year to $90K per year, but with the extra million I have lying around, I should be able to pay for it, plus I have an extra $40K in rent coming in to also fund it...

Noel

p.s. and what Steve said!

But the cost of living also goes up by 4%.

Aah, I'm starting to get it, it's really to do with gearing and using other people's money I think, rather than just getting the same return as inflation (ie. 0% real return)

steveadl said:

Leverage. If the asset only increases at 4% but you contributed none/little of your own money, then it's still a good return.

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I concur. With leverage, your rate of return on funds invested will make the rate of increase on the asset base look like a rounding error.

just read Perth Investor's answer - nice exlanation Thanks steveadl too.