The Wrong Type of Boom

[keithj]

Most of the advice relating to investing in residential properties at the moment is to buy in the inner and bayside areas. This opinion is expessed because these are the areas that are most in demand with many OO's, and therefore, in the opinion of the experts, will continue to see long term sustained capital growth.

Hi Jason,

I agree it's excellent advice - always has been always will be. It's what OOs want. But right now it's relatively poor value - 5 yrs ago it was better value and maybe it will be again in 5 yrs time. The excellent advice above will still be equally valid - it's a constant.

At this point in time, won't you as a value investor be competing against all the other value investors + buy whenevers + OO's + 'mums & dads' + random speculators + interstate/overseas investors - trying to get a prime blue chip property, most likely at auction?

Hi GSJ,

Yes, value investors will be competing against the usual buyers. However, the market has a high proportion of emotional participants - irrational might be a better term. Currently 'everyone' is saying IP is unaffordable & will never be affordable again - 7 yrs ago 'everyone' was saying IP is a crap investment & will never grow again. The sentiment driven buyers weren't buying back in 2000 when value was good, but sentiment poor. Now in some localities, value is poor, but sentiment high.

My concern is waiting for this time and not being able to get the best properties in the best locations in the best suburbs at 'below market value' due to the significantly increased demand and competition at this time.

That's why I am buying in these suburbs now, though granted the holding costs may be higher and I may be waiting longer for more significant CG.

You've probably read by now that patience is one of the traits of a successful investor. Would you expect that these premium IPs will be in some type of boom forever? You're currently competing with irrational (from a value investors POV) OOs. I'd expect these irrationally exhuberant buyers to become irrationally pessimistic in 5 yrs time.

[Bearishness=Extreme]These sentiment driven booms may even be the catalyst for the real bust. At some point even OOs will realise they've become irrational, affordability is extreme, yields will become historically low, headlines will use terms like bubbles, and then sentiment will change.[/Bearishness]

Regardless of where you are in the cycle, won't the best located properties in the best suburbs always be in demand?

If I was investing in middle/outer suburbs I would be more inclined to wait until these 'fundamentals' improve, but in inner/bayside areas where the so called 'ripple effect' first commences I wouldn't.

Yes - premium IPs are always in relatively high demand & therefore yield less relative to outer suburb IPs. However, relative to their own suburbs historical yield, they are currently expensive.

If this turns out to be a genuine boom (like 2001) & the ripple effect occurs, then I'm v. happy for all the investors that did act. And I'll also be happy that I missed on that boom.

It comes back to how risky is this boom - quality IP in the 2001 boom cost v. little servicability. Buying even low quality IP ATM would cost $$$ to service & be sensitive to financial stress.

Cheers Keith

 

[leicachamp]

With the information age, i dont think you will ever get the stage again when yields in metro areas go that high again. We all have access to the internet and would jump on areas which are experiencing increase in yields. Just look at the past few months. it has gone so hot because people like us on this forum are doers and wont sit on the fence. we are the first flock because we got our fingers on our keyboards. we are the ones that push prices up and will continue to do so.

Dont think real estate is ever going to get yields of 7-10% in any decent suburb in australia with the information age. I know that if suburbs in Metro Sydney hits 5%, half of the people on this forum and others will pump money and yields will drop.

thats my 2 cents worth.

 

[leicachamp]

The market in 2007 is vastly different from the market of 2000. we now have forums, magazines, seminars etc... We subscribe to these because we are property investors per say. That means we are buyers ready to buy. If we weren't in the market then this forum would be closed down and Property investors Mag would not be in the newsstands. People do not read or buy products they are not willing to use.

Back in 2000 i pretty sure there was not a mass audience waiting for the next boom to buy. It was normal supply and demand. Whether booms are artificial or natural makes no difference. It is still a boom.

I know myself i did not buy a lot until 2 years into the last boom, but this time i have been waiting to pounce, just like a lot of you guys. We wont wait for 2 years growth and confirmation before we jump. We are in like Fynn!!!!!
We even jump before the market starts to move.

 

[JIT]

Property first, THEN Shares VS. Shares first, THEN Property...

Hi Keith,

It comes back to how risky is this boom - quality IP in the 2001 boom cost v. little servicability. Buying even low quality IP ATM would cost $$$ to service & be sensitive to financial stress.

Cheers Keith

A high quality IP (but NOT 'prestige property') ATM would cost a lot to service and would be sensitive to financial stress.

Say in 2 years time though if rents have increased further and interest rates have plateaued or the next move is expected to be downwards, then yes, your serviceability would be better, but, woudn't this same high quality IP have still increased in value over this time period due to ongoing demand, meaning you know need an even bigger deposit just to enter the market - which you might no longer be able to afford as your savings capacity may not have increased to match?

I think most people who are just starting out in building wealth/equity, don't really have this 'luxury' of waiting for the best time to get into property.

Keith, say when you first started investing you had no equity to begin with, a small amount of savings and the property cycle had already boomed and was at the flat phase, so for a 'value investor' it's not the best time to invest in property. But, at this time say shares were much better value so you started investing your savings into the sharemarket.

So in this case your savings would be used to invest in good value shares. But, you are significantly limited in your leveraging ability as compared to property investment and the level of difficulty and skill required to consistently grow your investment here I would say is much greater.

Would you have been able to get 1 MM of equity as a beginning investor investing through the share cycle in this situation?

Maybe, but I think most people have very little chance of doing this! You have mentioned your unsuccessful experiments with trading/TA/options etc...which I suspect in a booming sharemarket many other beginners would have also got caught up in too, and learnt some very expensive lessons.

In your case, when you started property was good value and with the assistance of leverage you got your first 1 MM of equity in a fairly uncomplicated manner, that many ordinary investors here could quite realistically replicate.

There's a lot of 'ifs' and 'buts' in this post! - but it is just for discussion. Reading this post again, it might sound like another 'shares vs property' post though!

I guess my view is that for most people the easiest and quicket way to build a foundation of wealth/equity is firstly in residential property. Playing with shares and becoming a 'market timer' can come later. For most on this forum, except those more established investors, I think the timing discussions aren't very relevant in the overall wealth/equity building picture.

Thanks,

GSJ

 

[keithj]

Dont think real estate is ever going to get yields of 7-10% in any decent suburb in australia with the information age.

Hi leicachamp,

Can you imagine a scenario when IRs go to 12%+, mums & dads and 1st time investors feeling pain, fire sales, buyers market, followed by quality property yields increasing to 5%+? I can. For those that can foresee a fall in IRs from those relatively high levels, there will be a huge choice of quality, relatively (based on same suburb history) high yielding IP available.

I know that if suburbs in Metro Sydney hits 5%, half of the people on this forum and others will pump money and yields will drop.

'Half the people on this forum' is a drop in the ocean compared to the general house buying population.

Cheers Keith

 

[alexlee]

With the information age, i dont think you will ever get the stage again when yields in metro areas go that high again. We all have access to the internet and would jump on areas which are experiencing increase in yields. Just look at the past few months. it has gone so hot because people like us on this forum are doers and wont sit on the fence. we are the first flock because we got our fingers on our keyboards. we are the ones that push prices up and will continue to do so.

Can you imagine a scenario when IRs go to 12%+, mums & dads and 1st time investors feeling pain, fire sales, buyers market, followed by quality property yields increasing to 5%+? I can. For those that can foresee a fall in IRs from those relatively high levels, there will be a huge choice of quality, relatively (based on same suburb history) high yielding IP available.

Yields are this low partly (if not mainly) because of low interest rates. as Keith said, if interest rates go back up above 10%, say, who would buy even at 5% yields?

Dont think real estate is ever going to get yields of 7-10% in any decent suburb in australia with the information age. I know that if suburbs in Metro Sydney hits 5%, half of the people on this forum and others will pump money and yields will drop.

'Half the people on this forum' is a drop in the ocean
compared to the general house buying population.

If Sydney yields hit 5% but rates go up another 2%, I still wouldn't buy. How many of us would? I thought Sydney was crazy when yields were 3% (and interest rates around 7%). If rates went to 10% I would want a higher yield than 5%. Low interest rates are NOT a normal state of affairs. If we ever have a liquidity crisis........
Alex

 

[Dazz]

With the information age, i dont think you will ever get the stage again when yields in metro areas go that high again.

Dont think real estate is ever going to get yields of 7-10% in any decent suburb in australia with the information age.

thats my 2 cents worth.

....hmmm, not sure those comments are worth 2c.

We just settled something last week in Perth, not some scrubber suburb 20 or 25km from the CBD, but Perth CBD itself for a yield of 6.9%, destined to go to 7.25% in Feb next year. That's nett yield, not the normally inflated gross yield. Plenty out there if you have the capacity and inclination to do something. If you don't, then I suppose broad dismissive statements will have to suffice.

I reckon we are mid-way through a boom with our little micro-market that we invest in. At least a couple of years to go before things become a bit hazy. We seem to be far too busy studying our micro-market to have the luxury of pontificating over generalised market conditions, 'cos we figured out a while back you cannot buy anything that represents the broader market....and hence can't make any money from it....so what's the point of studying it ???

 

[keithj]

Say in 2 years time though if rents have increased further and interest rates have plateaued or the next move is expected to be downwards, then yes, your serviceability would be better, but, woudn't this same high quality IP have still increased in value over this time period due to ongoing demand, meaning you know need an even bigger deposit just to enter the market - which you might no longer be able to afford as your savings capacity may not have increased to match?

I think most people who are just starting out in building wealth/equity, don't really have this 'luxury' of waiting for the best time to get into property.

Hi GSJ,

Who knows? The 3 yrs till 2007 didn't seen much increase in prices in most quality suburbs.

I think they DO have that luxury. I believe that quality IP yields will improve before they get worse. This is not saying that prices will fall. It is saying the effect of inflation and rent increases will outweigh price changes, and hence yields will improve.

Keith, say when you first started investing you had no equity to begin with, a small amount of savings and the property cycle had already boomed and was at the flat phase, so for a 'value investor' it's not the best time to invest in property. But, at this time say shares were much better value so you started investing your savings into the sharemarket.

I guess my view is that for most people the easiest and quicket way to build a foundation of wealth/equity is firstly in residential property. Playing with shares and becoming a 'market timer' can come later. For most on this forum, except those more established investors, I think the timing discussions aren't very relevant in the overall wealth/equity building picture.

I agree IP is definitely an easier, safer way to build equity than shares.

I believe now is a relatively risky time in the cycle to be investing in IP, even those localities that appear to be booming. Consider returns - say there's 5% CG, IR rates stay steady (@7.75%), with nett yields at 2.5%. That adds up to -0.25% total return before inflation & v -ve c/f.

I'd suggest that now is a good time to be preparing for the good value times.

Cheers Keith

 

[keithj]

If Sydney yields hit 5% but rates go up another 2%, I still wouldn't buy. How many of us would? I thought Sydney was crazy when yields were 3% (and interest rates around 7%). If rates went to 10% I would want a higher yield than 5%. Low interest rates are NOT a normal state of affairs.

I'd seriously consider it IF I though IRs looked likely to fall significantly in the short term. This is what Spann (I think) referred to as IP nirvanna - high yields, high but falling IRs, poor sentiment,....

 

[alexlee]

With the information age, i dont think you will ever get the stage again when yields in metro areas go that high again. We all have access to the internet and would jump on areas which are experiencing increase in yields. Just look at the past few months. it has gone so hot because people like us on this forum are doers and wont sit on the fence. we are the first flock because we got our fingers on our keyboards. we are the ones that push prices up and will continue to do so.

Dont think real estate is ever going to get yields of 7-10% in any decent suburb in australia with the information age. I know that if suburbs in Metro Sydney hits 5%, half of the people on this forum and others will pump money and yields will drop.

Leicachamp, in your opinion, would you say that interest rates or the internet has a bigger impact on property prices? Are you saying that the previous high yields we experienced in the 90s was due to lack of information by investors? i.e. if we had had the internet back in the 90s, more of us would have jumped at Brisbane property, say, and driven the yields down more quickly?

I have a different view. I think in the 90s while the fundamentals were building up (population growth, economic growth) property had a VERY poor reputation. Mainly due to the crash in 1990, and the subsequent recession with rates in the high teens, and the resulting defaults, people losing their homes, etc. While interest rates were falling (and in hindsight we know that it would keep falling), how many people had the guts to punt on it? Also, during that time banks were less willing to lend: securitisation wasn't as popular and banks were just less willing to lend.

If interest rates went up 2% tomorrow, would you agree that yields WILL rise above 5% (largely because PRICES will tank) Will you be buying? Even though you're getting, say, 5% yield when your variable rate is about 9%?
Alex

 

[see_change]

IMHO

the market is imperfect as is the information superhighway so there will always be opportunities for people who are prepared to take a bit of time studying the market .

The reality is that 99 % ( probably 99.9 % ) of the population will never do their own research into what is happening in reality and act on it, but will rely on the media , realestart agents , various "gurus" to tell them what to do , or wait for the Laws of Attraction to deliver it to them ( go the Secret !!!! the more people who believe that all you need to do is believe and not take action , the happier I am ....).

Cliff

 

[JIT]

Who knows? The 3 yrs till 2007 didn't seen much increase in prices in most quality suburbs.

This depends on where and what sort of property you're investing in. In my little 'micro-market' in inner Melbourne there wasn't much happening in '05 and '06, but there is quite a noticeable increase in prices so far in '07. This growth may or may not be sustained, but it still costs more $ now in '07 to buy the same high quality properties.

I think they DO have that luxury. I believe that quality IP yields will improve before they get worse. This is not saying that prices will fall. It is saying the effect of inflation and rent increases will outweigh price changes, and hence yields will improve.

I think I follow what you're saying, but economics isn't my strong point! Where does wages growth fit into all this? For high quality properties, if you say they aren't going to fall in value but would continue to increase in value to some degree, will people's salaries and savings capacity continue to increase sufficiently to be able to afford the higher deposits on these properties in say 2-3 years time?

The other people value investors will be competing against in blue chip suburbs are buyers agents, who are now happily bidding against each other in these suburbs to buy 'quality property' at the highest price they can get away with, for their naive local and interstate investor clients. As the cycle progresses I can only seem them with bigger and bigger smiles on their faces.

Were these BA's around in the previous cycle, or are they a relatively new phenomena?!

GSJ

 

[leicachamp]

Hi leicachamp,

Can you imagine a scenario when IRs go to 12%+, mums & dads and 1st time investors feeling pain, fire sales, buyers market, followed by quality property yields increasing to 5%+? I can. For those that can foresee a fall in IRs from those relatively high levels, there will be a huge choice of quality, relatively (based on same suburb history) high yielding IP available.



'Half the people on this forum' is a drop in the ocean compared to the general house buying population.

Cheers Keith

No i cant see that in the future. Firstly since banking deregulation during the Keating area,interest rates should not go to that high. Also there is more money borrowed in the market, a .25% increase has the same effect as say 1-2% hike in the eighties.

Second of all yields would increase to around 10% for no-one would be buying houses and most would be renting from a small number of landlords.

Yields should always follow interest rates. If interest rates drop, more buyers, less demand on rents thus yields would drop.

Our forum a Small drop in the ocean? Well our forum combined with other forums can certainly quickly form big waves.

 

[handyandy]

No i cant see that in the future. Firstly since banking deregulation during the Keating area,interest rates should not go to that high. Also there is more money borrowed in the market, a .25% increase has the same effect as say 1-2% hike in the eighties.

After the deregulation the interest went to 18% If the reserve banks feels that the desired affect has not been achieved they will keep increasing the IR. Generally they do overshoot it so it gets worse before it gets better.

Second of all yields would increase to around 10% for no-one would be buying houses and most would be renting from a small number of landlords.

Yields should always follow interest rates. If interest rates drop, more buyers, less demand on rents thus yields would drop.

Whilst the interest rate went sky high the returns went from average of 7-8% to 4-5%

Our forum a Small drop in the ocean? Well our forum combined with other forums can certainly quickly form big waves.

We are legends in our own minds

 

[leicachamp]

Leicachamp, in your opinion, would you say that interest rates or the internet has a bigger impact on property prices? Are you saying that the previous high yields we experienced in the 90s was due to lack of information by investors? i.e. if we had had the internet back in the 90s, more of us would have jumped at Brisbane property, say, and driven the yields down more quickly?

I have a different view. I think in the 90s while the fundamentals were building up (population growth, economic growth) property had a VERY poor reputation. Mainly due to the crash in 1990, and the subsequent recession with rates in the high teens, and the resulting defaults, people losing their homes, etc. While interest rates were falling (and in hindsight we know that it would keep falling), how many people had the guts to punt on it? Also, during that time banks were less willing to lend: securitisation wasn't as popular and banks were just less willing to lend.

If interest rates went up 2% tomorrow, would you agree that yields WILL rise above 5% (largely because PRICES will tank) Will you be buying? Even though you're getting, say, 5% yield when your variable rate is about 9%?
Alex

Hi Alexlee.

Interest rates have no real bearing on whether to buy or not to buy from my point of view. Interest rates also have no real correlation to whether real estate prices go up or not. What does make prices go up is supply and demand. Even if interest rates go to 12 % as long as we have more demand than supply prices will go up.

If interest rates are low say 2% but there is no demand for property then prices would not go up and may even go down.

The main thing that i look for is that the rate of increase on a property is going to be higher than my interest payments and my shortfall in any cashflow shortfall.

The internet is a tool that we investors use to find out where the best buys are. That is the reason why we subscribe to forums and Magazine. I am sure you yourself have taken advantage of these tools.

 

[Andrew_A]

One thing I'm pretty sure of is that interest rates are indeed correlated with property prices leica!

Supply and demand doesn't exist in a vacuum to the cost of money.

 

[keithj]

Interest rates have no real bearing on whether to buy or not to buy from my point of view.

You're at odds with the RBA then. Whenever I ask my bank for a loan, they check my servicability against current interest rates. Can you introduce me to your bank?




To explain some earlier points a different way. There's 3 things to consider when IP investing -
What to buy - pick as many as you like

• Units
• Serviced Apartments
• Land
• House & Land
• OTP
• Dev Blocks
• Office blocks
• the list goes on...

Where to buy - pick as many as possible

• Growing population
• Improving Infrastructure
• Previous high CG
• OO dominated suburbs
• Close to station/shops/cafes
• Quality suburbs
• the list goes on....

When to buy - pick one and only one

• whenever you can afford it
• whenever there's a boom happening
• only when it's good value

I'm only addressing the When to Buy issue.......

 

[JIT]

When to buy - pick one and only one

• whenever you can afford it
• whenever there's a boom happening
• only when it's good value

......

Why???

Not quite sure what point you're trying to make here Keith?

My folks bought their PPOR when they could afford it, and it just so happened to be at a time when property was good value, and a year later (about 2001), the market took off. Six years after this, with some minor cosmetic renovations, their PPOR is worth 3 times purchase price.

They sure don't think they're great property investors, but I'm sure there are many other people out there for whom all the stars alligned at the right time (eg. 2000, 2001) and now think they're absolute geniuses!

Reminds me of someone's comment about people making money in a bull sharemarket, can't quite remember the exact words though...

GSJ

 

[keithj]

Not quite sure what point you're trying to make here Keith?

I was making 2 points -

• Earlier posters questioned if I was suggesting NOT to buy where there is OO driven demand. I'm suggesting that it's not the where, but the when that is why this may be the wrong type of boom.
  
• I think investors are fairly polarised regarding the when part of the strategy. They're either in the Somers camp (buy whenever you can afford to) or in the good value camp. Depending on an individuals when strategy is whether this thread is of any relevance to them.

 

[trendsta]

I agree with Keithj on this one. Property market fundamentals are not good at the moment. 1 or 2 rate rises should fix some of the market.

You can make more money with higher IRR using other investments.

Be wary of the blue-chip suburbs high growth atm. They are as suspetible to demand-supply as lower valued areas. Atm there is a lot of demand because of the likes of Alan Moss (CEO Macquarie Bank) making 33 million a year. This can change very quickly and has happened before - think global slowdown, US housing slump, lower commodity prices, no more mergers and acquisitons every day.