After the boom, the bankrupts

http://www.smh.com.au/articles/2004/05/21/1085120120184.html?from=top5

Hi All

Above is an article from SMH on what can go very, very wrong when the boom stops. The question is:

How many others are out there like this couple and what will it do to IP market?

It is a long article but worth reading. I will insert sections of note in italics.

It talks about a high income couple, gearing into property who are about to lose everything including each other due to unfair loan practices with some brokers.

At one stage Moran was earning $250,000 a year and Leighton was on a $125,000 package. They were awash with cash, and like so many Australians "looking for some tax-effective way to invest our surplus for the future . . . negative gearing seemed the way to go".

The couple was naive, bought site unseen, and having big incomes didn’t bother to make every cent work. When things got tight they left the safety of regulated banking to a mortgage broker firm introduced by the developer called AAA and then the problems started.

When Moran went to King-Orsborn for a loan - it was all done by phone and fax, Moran never met him or went to the AAA office - he was offered $120,000 (which included more than $10,000 in expenses and commissions) at 6 per cent a month (72 per cent a year), rising to 8.5 per cent a month (102 per cent a year) if he defaulted on the loan, secured by unregistered second mortgages over the apartments at Neutral Bay, Surry Hills and Bondi Junction.

72%! This was meant to be a two month bridging loan but when the typical circumstances of risk (lost job, baby came along, and the end of the boom) finally caught up with them they got stuck there.

And because Moran was required to sign a declaration that it was a "business loan", he can't interest the Office of Fair Trading.

The article essentially uses this example to comment on the complete lack of regulation in the mortgage broking industry. This is very true and hence worth knowing especially the newbies out there who never experienced 1990 like property crashes.

Personally I had a similar (but much more minor) experience with a broker. They continually stuffed up in taking more money each month and made my life hell when I finally refinanced with the CBA. Tried to overcharge me $4k 3 times!

The problem was I found there was no one to complain to except the MIAA (members association) and even if successful here all they would do was chuck them out!

Phil Naylor (MIAA), while sympathising and conceding the AAA interest rate is "a rip-off", says that because the broker is not a member of the industry association, there is nothing he can do.

I now use a Bank knowing the Banking Ombudsman is there to "keep the bastards honest".

In closing this is where the couple is at now:

only hope is to fight the case in court - claiming that the transaction is "unconscionable". But his money is running out, and his attempt to sell the Bondi Junction property failed when the highest bid at auction was less than he paid for it.

Inviting comment for and against my post and especially from mortgage broker members on what problems they know of in the industry?

Lastly here is a statement on dodgy dealers that we all need to know!

Mike Barrett, Macquarie Bank's is on the MIAA's council and says in recent times the bank has detected more than 30 cases of fraud among brokers it dealt with - mostly mis-stating income or employment on loan applications from borrowers who do not fit the bank's lending criteria. He says he has taken three cases to the police - but they took no action "because the fraud wasn't big enough, or it didn't fit their criteria".

Barrett says he would be surprised if other lenders, particularly so-called low-doc lenders who require less evidence of repayment capacity, were not being harder hit - particularly as there is relentless pressure on lenders to offer "one-hour approvals", where the application may be processed electronically and not checked by a human being until later.

According to a report by the APRA, each Australian bank has stopped dealing with an average of 70 brokers in recent years because of malpractice. However, their names and the nature of their transgressions are not made public, and there is nothing to stop them continuing to do business


Regards Peter 147
 
Peter147
Hi, Fester has the same thread under Property Investment.

Defamation laws can prevent openness in naming suspect traders. But I think the media has a lot to answer for as well because investigative journalism is now rare and I imagine it would be a risky and poorly paid occupation in Oz.

I don't think self-regulation ever works.

Investors need to take responsibility for their own actions too and this couple from all accounts were well educated and had considerable income to hire professional advice. What prevented them from getting proper advice before commiting themselves? They were not naive when they were making a killing, only when they made a loss?
Lplate
 
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The thing that bugged me when I saw the headline and then read the article is that the couples experience in dealing with someone who obviously didn't have their clients interest first in mind implied that this is how a lot of the mortgage broking industry works.

There is also the unstated implication that , The Boom is over, now every one's going to go bankrupt. In the article two seemingly intelligent people have borrowed at 72 % interest with a default interest Rate of over 100%......and then defaulted on the loan . I don't think that is something that many people do.

For me it highlighted the dangers of Negative gearing ( one lost their job and the other got Pregnant ) and of not having a decent reserve available. They had the opportunity to sell the property that caused their down fall , but didn't because it was less than what they paid for it.

To me the article was a good example of how not to invest in property rather than a reason not to invest in Property.

With articles like this the tide of emotion against property investing will continue to slowly swing and in another 2-4 years only the diehards will be investing , picking up the good deals ahead of the next boom which will again have another hoard rushing in late again.

I've quoted this from Paul Zag before but articles like that remind me of it.
He has a wealthy friend who says words to the effect ,
with the First cycle he said " What happened " ,
the Second he said " Gee , I wish I'd been ready for that " .
The Third Cycle was when he made his fortune

See Change
 
See Change
I totally agree with you that the amount of interest and the penalty interest are ridiculous ... and any thinking person and any experienced investor would not get themselves in such a situation.

However, your comment about "not having a decent reserve available" had a different impression on me. (Many times have I been there done that).

Yes, now, after 10 years of investing and maybe 1.5 booms in my markets of interest, I have a decent reserve and LVR of less than 50% (probably lazy dollars I have to fix). Howver, I know I only got here by pushing the LVR, once, twice or more beyond 80%, and often to the point when reaching 80% LVR (with the new property included) triggered the ability to do the next deal.

I don't think we experienced investors can by quite as ... (looking for a word here, almost taking the high moral ground) about those investors with less of a cash reserve (or cooperative family in reserve).

Simply, decent cash reserves are something we acquire, not something we begin with.
 
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Freedom said:
See Change

Yes, now, after 10 years of investing and maybe 1.5 booms in my markets of interest, I have a decent reserve and LVR of less than 50% (probably lazy dollars I have to fix). Howver, I know I only got here by pushing the LVR, once, twice or more beyond 80%, and often to the point when reaching 80% LVR (with the new property included) triggered the ability to do the next deal.

Agree with you on this Freedom. My thoughts on this are that you push you're LVR up during the early / mid part of the cycle, but then let it drop , and not get overly agressive toward the end of the cycle..

I wouldn't get too concerned about lazy dollars. If you know what you are doing , IMHO you don't necessarily need to squeeze every last bit of blood out of every cent to do very well in investing.

I'm always wonder about those who talk about Shares as a long term investment , but then suggest parking excess money into shares using margin loans. If for example there was a down turn in the economy , that is the sort of situation where you might need to draw on your reserves, but if those reserves are invested in shares using a margin loan , isn't the same sort of down turn likely to adversly affect your share values and because your money is levered then any lose will be accentuated. This is fine if you are indeed holding your shares for the long term ... but if you need to draw on them , you may find that you reserve is less than you thought.

I'm quite happy to park a fair amount of any reserves in offset accounts , where it is easily accessibly.

See Change
 
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The good old conservative strategies you get taught by the old folks who have seen more than a couple of booms and busts are to diversify across three asset classes - property, shares/business, cash.

Cash seems to be the forgotten asset - there are many ways to invest in cash, and none of them are sexy (although I know some people who get excited about things like cashbonds :p ).

Naturally while interest rates are low, cash is out of favour, but for the conservative amongst us (ie anyone with an LVR of less than 80%), cash is an important part of the strategy - even if it is just for insurance.

My property LVR may be hovering around 89.9%, but my overall portfolio LVR is quite a bit lower than that because of my other investments - I'd rather borrow the most I can while I can and park the money in an offset account.
 
Until recently, the wisdom seemed to be that property investors should make provision for eventualities. Sinking funds were recommended.

There was also the belief that in times of low inflation it was a good idea to reduce debt whenever possible to increase yield. Accordingly it was suggested that during low inflation periods it was better to have a P&I loan on an IP so that any lazy dollars could be used to reduce the principal.

But I guess in recent times the prevailing view has been that it is better to control more property through higher LVR and interest only. But this is a strategy with higher risk (and higher returns if all goes well).

In this forum there should be room to discuss options for diversification, while accepting that property investment is the first point of interest.
Lplate
 
Hi all

Hmmmmmmmmmmm, I believe something different.

A high LVR isnt going to cause you to fall over. What causes defaults is not being able to pay your bills, essentially you are insolvent. You can have an LVR of zero and still be insolvent.

Its having cash to hand as for eg SC has said parked against your existing debt that gives you space..........................................

Low LVrs and an immediate need for cash shows poor forward planning IMHO , and exposes you to the 4 % per month brigade.

Additionally P&I locks your cash away and tends not to help too much there either, in fact it increases the risk of a fall over.

Cant substiture having good cashflow reserves like any business.

Ta

Rolf
 
I already responded in the the thread with the same name and all I think is relevant here the lack of financial education and the understanding of the improtance of cash-flow. The high LVR is only an issue if there ever will be an issue with cash-flow and serviceability. Been there done that. Several properties with 90%+LVR. Yes while you make a motza you can service it. When they are not CP+ and your motza making job gone, yes, it is an issue, a big one. This is why

1) We should watch out for cash-flow not only cap gain

2) Should not rely blindly on a high paying job (mine has gone as well)

If I would have had Cap gain over evertything properties not CP+ ones, now I might be in a really serious strife.

Cheers,
 
Hi All

Lessons to be learnt . And many of us it seems (inc. myslef ) are pretty safe.

However what about the general IP investors new in the last boom?

I found the article amazing in that this couple didn't seem to ever think the boom would stop? Did they really understand what they were doing? or was it a gamble based on the boom (buying sight undeen, etc.)? There strategy was to buy anything and let the market fix the deal!

What do you think?

And what % of IP investors out there are in the same boat?


I know a few first timers with 1 IP now experiencing no CG, NG and having tenant problems.

Regards Peter 147
 
Rolf Latham said:
Hi all

Hmmmmmmmmmmm, I believe something different.

A high LVR isnt going to cause you to fall over. What causes defaults is not being able to pay your bills, essentially you are insolvent. You can have an LVR of zero and still be insolvent.

Its having cash to hand as for eg SC has said parked against your existing debt that gives you space..........................................

Low LVrs and an immediate need for cash shows poor forward planning IMHO , and exposes you to the 4 % per month brigade.

Additionally P&I locks your cash away and tends not to help too much there either, in fact it increases the risk of a fall over.

Cant substiture having good cashflow reserves like any business.

Ta

Rolf
Rolf
I agree that cashflow is important. However I am talking about inherent risk and if all other factors are constant, why wouldn't a higher LVR represent higher risk?

I do not resile from my observations that the 'conventional wisdom' proferred by experts, including bankers, economists and accountants, has been a changing feast over the years. That's why I gave some examples.

Also, buying low yield is not a bad way of getting stretched when capital gains falter.
Lplate
 
Tibor said:
I already responded in the the thread with the same name and all I think is relevant here the lack of financial education and the understanding of the improtance of cash-flow. The high LVR is only an issue if there ever will be an issue with cash-flow and serviceability. Been there done that. Several properties with 90%+LVR. Yes while you make a motza you can service it. When they are not CP+ and your motza making job gone, yes, it is an issue, a big one. This is why

1) We should watch out for cash-flow not only cap gain

2) Should not rely blindly on a high paying job (mine has gone as well)

If I would have had Cap gain over evertything properties not CP+ ones, now I might be in a really serious strife.

Cheers,

Tibor
Many of the new investors I have encountered are 'oncers' who read headlines and watched the reno shows on TV. I believe they will tire, or get whacked by over-commitments and go out of the market in the next few years if they have to tighten their 'lifestyle' belts. I find it takes a lot of resilience and patience (and a bit of doing without) to remain in the property investment business. Unless you've got the resources of the Packers of course.
Lplate
 
Lplate said:
Rolf
I agree that cashflow is important. However I am talking about inherent risk and if all other factors are constant, why wouldn't a higher LVR represent higher risk?

If someone wants to buy a 200K property , they have 40k and can have two options

1) Put in 40 K borrow 160. They have a LVR of 80 %

2) Put in 20K , borrow 180, and put the 20 K into an offset Account. They have an LVR of 90 %.

Any way I look at it Option 2 with the higher LVR is the lower risk option.

See Change
 
I've got quite a large shares portfolio. It began life quite highly leveraged, but I concentrated on stocks with reasonably reliable dividend streams, and stayed neutrally geared. Now I'm way in front, with a very nice positive cashflow.

But a friend of mine, forever looking for a "quick buck", recently asked me if he should "park" some cash in shares for a year or so as he felt property would cool down.

I strongly urged him NOT to do that! Short term shares is like short term property - it's a whole different ball game to investing for the longer term.

Fortunately, my friend mainly dreams of those quick bucks he's "gonna make one day", and generally does little or nothing, so hopefully he should still have his cash in a year or so!

But I digress... what I actually meant to point out is that shares generally move contra to property, so a combination can even out some of the dips which threaten your cashflow.

I quite like shares as well as property, but hey, there's no substitute for doing your homework.

And that couple taking "loan shark" money at 6% a month - I couldn't believe it! Reminds me of the saying that "the first loss is the smallest" - I'd have recommended that they let one property go, even if at a loss, and stay afloat.
 
see_change said:
Option 2 has 20 K , easily accessible cash reserve..

See Change

See Change
In option 2 there is initial higher risk that is moderated by the use of offset.
It is a good example of risk identification and treatment.

I got into offset late and from reading about it in the forum. This option would have increased my flexibility had I woken to it sooner.

This is evidence of what I was saying earlier in this thread that, although some of the approaches/options/strategies discussed in the forum were always available, they were not included in the 'sage' advice proferred by the various advisers, incl CPAs, until recently. The lending institutions didn't help, they were 'conventional' to say the least.

I know that the single greatest obstacle faced by my parents was the difficulty in getting adequate professional advice. Maybe only a small proportion of professionals are above the herd. I know there are some on the forum who excel but the couple of accountant I have had over the years, professed knowledge of IPs, but were more than pedestrian in their advice. Their charging was much higher than the quality of their advice.

See Change, as shown by your quick reply some of the advice on this forum seems to be leading edge, whereas the advice I was paying for was not.
Lplate
 
Lplate said:
See Change
In option 2 there is initial higher risk that is moderated by the use of offset.
It is a good example of risk identification and treatment.

Sorry , I fail to see how option 2 has a initial higher risk that is then moderated by the use of the offset. You're keeping 20K in reserve at all times. You're then placing it into the offset account to decrease your payment to the same level as option 1. Fine, your paying for LMI , but your risk profile has to be lower .

This is the sort of advice that a good Broker should give you ( and was given to me )

See Change
 
Hi SC

Under new ASIC based rules and some lenders' interpretation Brokers may no longer be allowed to provide advice on "deposit taking" products. Most brokers would then have to flout the rules to advise their clients in risk management

Legislation gone mad...............................

Ta

rolf
 
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