declining property prices?

[alexlee]

Yes, it's sustainable, and it'll go on forever. You know why, HG? Because humans can believe in the flimsiest of fantasies when they want to. Never underestimate a mob's ability to kid itself.

It's in everyone's best interests to maintain the illusion that money has real value. You don't see that because you, strangely, think most humans are idiots, yet you expect them to act rationally.

I believe people will pay more and more (actually worthless) dollars to buy my assets. I'll be ahead because the property price in said worthless dollars is increasing at a faster rate than shop-keepers, etc realise that the dollar is losing value. So I can use MY ever increasing (worthless) dollars to buy more and more (real) stuff. And since the value of my 'stuff' in worthless dollars is growing faster than the value of the stuff I want in worthless dollars, I'll get richer and richer.

It may all be fantasy but you know what? If you're inside it and so is everyone else, reality doesn't matter. You can only see the Matrix for what it is when you are outside of it. Generations have lived and died within the fantasy, blissfully unaware of 'reality'. But what is reality? Is it reality if you always live in the fantasy?

Even if periodically reality rears its ugly head (i.e. crashes, panic) the system will reassert itself. You know why? Because people WANT to believe. They don't like the cold reality that those pieces of plastic (or cotton) really are just pieces of plastic or cotton, and that value is all in the mind. They want to believe a $10 note actually means something tangible even though it's all BS.

Economics is a humanities subject. Not a science. Ever wonder why? Because you need humans for it to function, and humans aren't always rational.

Cypher: You know, I know this steak doesn't exist. I know that when I put it in my mouth, the Matrix is telling my brain that it is juicy and delicious. After nine years, you know what I realize?
[Takes a bite of steak]
Cypher: Ignorance is bliss.
Alex

 

[BayView]

I've analysed the situation, made my choice and taken action.

If I think prices are too high, my action is to not buy. And I haven't.

Of course, some of you think that isn't a valid option and everyone should just always buy, at whatever price. I've even been told that I can't judge whether prices are too high because I don't own property.

So if I thought prices were too high, just buy anyway... but what happens if I find out I was right? Wow I find out I was right all along but now I'm stuffed!

I'm worked out what I think is going to happen:

-Reduction in international liquidity (credit crunch)
-Flee to safety away from high yielding currencies and unwinding of carry trade (Au shares & currency fall)
-Interest rates rise as dollar no longer hides inflation by reducing imports
-RBA raises interest rates again
-Reduced international appetite for western mortgages
-Lenders finding it harder to find buyers for debt, must raise interest rates to compensate (first low-doc lenders like Rams, then the dodgy riskier banks (ANZ and Adelaide bank))
-So those with the least ability to handle it are going to see at least 1/2 percentage point interest rate rise within 6-12 months.
-Capital gains fizzles out. It takes 12 months for this to not be able to be hidden in statistics and be widely agreed upon that median prices have peaked in retrospect.
-With increased holding costs and no more capital gains landlords realise that their business model is fundamentally broken.
-Those with debt struggle to pay it back. Forclosures up. People suffer greatly to pay back debt on assets which are losing value.
-Consumer spending decreases as "wealth effect" of ever rising house prices and equity withdrawal becomes reduced as people start paying off debt again instead of taking it out.

I think it will take at least 1 year to see the effects of the credit crunch and a minimum of 5 years for prices to bottom out.

What would make me realise I've gotten it wrong and have to change my plans? By mid 2008 (when subprime resets peak - they're only STARTING now the worse is yet to come)

-ASX > 6500 (ie we're not in a bear market)
-Australia starts to reduce foreign borrowing & debt but house prices remain strong. Maybe we even run a trade surplus!
-Foreclosure rates are not growing quickly.
-Prices in countries similar to us - Ireland, USA, UK, NZ continue to go up.
-There is no further credit contraction and tightening of lending standards.
-There are no low-doc lending company collapses

I have 11 months left on my lease so come mid 2008 we'll see what's happening. In the meantime I will work hard on increasing my savings and investments so that I have the most money to pick the right path then.

So, HG, in a nutshell this means you are going to wait until the prices bottom out and then buy?
Thank God for that. I thought you were just going to waffle on forever about how bad it all is and never do anything.

To comment on you analysis here; if it all goes as you say; credit disappears, buyers disappear, rates rise accordingly, then the end result will be no investors for property as the cost of finance will be prohibitive and the cap growth will be dismal. This will result in fewer rental properties available for renters, demand pushes up rents.

BUT, then the rental yields will be better, purchase prices will be low and the whole thing will go around again. Great! For those of us already with both feet in the door we will enjoy more rent increases. More excess cashflow to fund some more purchases of those cheaper properties you predict.

The thing you've missed is you seem to think that house prices will severely contract. Some will; this always happens after a boom because there are a lot of financially uneducated people with access to serious money who will make a dumb purchase somewhere; usually inner-city trendville, or, in-the-middle-of-nowhere trendville. They pay too much for a joint because it is in a cool suburb near a few celebs or, some sports star once bought a house there, thus impressing their friends (actually; it doesn't, so how sad are they?). These are the sorts of purchases that really crash as they should.

The rest of Mr&Mrs Averagetown where people buy because that's all they can afford and will always need to live there will just keep plodding along, going up in increments (or more)and will just go up again when we get to your window of opportunity.

 

[lizzie]

But what is reality?

there is no reality - only perception. there never has been "reality".

take, for example, three people watching a car accident. generally you will end up with three completely different versions of what happened because people are unlogical and bring into their perception all sorts of internal factors - such as emotions, memories and viewpoint.

quite liberating when you realise that reality doesn't exist.

 

[Sunfish]

Total purchasing costs (not including deposit) = $58,262.48

Wow! With $88k cash I could buy a lot of BHP.

Have you calculated what annual cap gain you would need to achieve to pocket $30k in 5 years allowing for entry, exit, exs and cash flow shortfall? And could you achieve the same result by lodging the $88k in a conservative investment and topping it up monthly with your expected -ve cash flow? I'll allow the tax effect to be included.

I've never done this calculation because I'm in a low tax bracket and have never contemplated it for myself but you must have.

 

[VYBerlinaV8]

But that's a circular argument! You have a loss making business and someone else comes along and buys it off you, paying even more money to lose even more money! Do you think it will go on forever?

It only makes a paper loss - my IPs don't cost me more to hold than they generate, cash-wise (ie EXCLUDING the effects of capital gain). One IP I have only had for 18 months and it is already cashflow neutral before tax!! Over time, the effect is that I get to own a large asset for which I have contributed NONE of my own money. I pay principle and interest, funded by rent returns and tax deductions (many of which are paper only, and don't require me to actually pay any money eg depreciation).

I know you're struggling to get your head around this, but truly it works. You have to look at the factors that effect each specific investment - not just the market as a whole.

As I've said previously, well located properties with desirable features and characteristics will continue to rise in price as population grows (mine all have). Individual properties don't automatically move with giant market averages.

Of course, there are parts of the market that overheat - these are typically bought buy the shortsighted and/or unsophisticated. Savvy investors understand risk, including how to identify it, describe it, rate it, AND MANAGE IT.

 

[alexlee]

there is no reality - only perception. there never has been "reality".

take, for example, three people watching a car accident. generally you will end up with three completely different versions of what happened because people are unlogical and bring into their perception all sorts of internal factors - such as emotions, memories and viewpoint.

quite liberating when you realise that reality doesn't exist.

Exactly. There is no reality. Only different perceptions and opinions.

What is a property worth? There is no REAL price. If I do an open house this week, I might get $300k. If I do an open house next month, I might find a buyer who will pay $320k. What is the reality? There isn't one. Prices are constantly in flux.

To put it another way, reality is what you convince other people to believe. How else can you put in $10,000 in renovations and the value of your property goes up by $20, $30k?
Alex

 

[DavidMc]

there is no reality - only perception. there never has been "reality".
...
quite liberating when you realise that reality doesn't exist.

A saying in NLP is 'The map is not the territory'.

 

[DavidMc]

Wow! With $88k cash I could buy a lot of BHP.

Probably. But I'm trying to control the most amount of gross asset I can comfortably service as early as I can, so I'm after high LVR (hence higher entry costs with LMI).

Have you calculated what annual cap gain you would need to achieve to pocket $30k in 5 years allowing for entry, exit, exs and cash flow shortfall? And could you achieve the same result by lodging the $88k in a conservative investment and topping it up monthly with your expected -ve cash flow? I'll allow the tax effect to be included.

I don't understand what you mean by 'pocketing $30k in 5 years'? Can you please expand on the question?

To be honest I didn't do a thorough comparison with investing the equivalent amount in shares (as it so happened, lucky I didn't put money into shares after the recent drop!). But if I put $88k into shares and margined at 60% (allowing for 10% for a margin call buffer) I'd be controlling a much smaller gross asset base and this is inconsistent with my goal.

I'm not going to exit, so I'm not too worried about exit costs. As you pointed out the entry costs for property (esp in Victoria!) suck... What I have calculated is that I need a average CG of 3% to be in the black, and that's on 106% effective lend and using debt to service the negative cashflow. Given the prime area the property is located I'm comfortable with this. In the meantime I'm saving into my offset account to reduce my portfolio LVR.

I'm feel the property to date has seen a small increase in value. It's in inner Melbourne which has been going crazy - perhaps a conservative 5% ($30k) already in about 5 months but I'm not really interested in doing a revalue until I finish a value add I'm doing.

 

[HiredGoon]

Yes, it's sustainable, and it'll go on forever.

Why did it fail in Japan 15 year ago?

Why is it failing in the USA right now?

They don't like the cold reality that those pieces of plastic (or cotton) really are just pieces of plastic or cotton, and that value is all in the mind. They want to believe a $10 note actually means something tangible even though it's all BS.

It's not BS - if you don't use those pieces of paper to pay your taxes, you can get in trouble with the government.

If you don't use those pieces of paper to pay off loans, then the bank will take away your assets.

Those pieces of paper are a promise someone made to repay debt with interest, they NEED them and will work for them to not default on their contract.

If someone came up to you and asked if you'd be willing to bet $100 that by the end of this financial year YoY house price rises Australia wide will be greater than the cost of interest from one of the big banks, would you take it? If not, do you realise you're making close to that bet it with hundreds of THOUSANDS of dollars?

 

[Twitch]

If someone came up to you and asked if you'd be willing to bet $100 that by the end of this financial year YoY house price rises Australia wide will be greater than the cost of interest from one of the big banks, would you take it? If not, do you realise you're making close to that bet it with hundreds of THOUSANDS of dollars?

HG, I think you need to educate yourself on what it costs to hold a property versus what the prevailing interest rates may be at any point in time.

 

[VYBerlinaV8]

Why did it fail in Japan 15 year ago?

Why is it failing in the USA right now?



It's not BS - if you don't use those pieces of paper to pay your taxes, you can get in trouble with the government.

If you don't use those pieces of paper to pay off loans, then the bank will take away your assets.

Those pieces of paper are a promise someone made to repay debt with interest, they NEED them and will work for them to not default on their contract.

If someone came up to you and asked if you'd be willing to bet $100 that by the end of this financial year YoY house price rises Australia wide will be greater than the cost of interest from one of the big banks, would you take it? If not, do you realise you're making close to that bet it with hundreds of THOUSANDS of dollars?

All this post demonstrates is that you haven't read the posts above, and that you don't have any real understanding of how it really works.

 

[Arkay]

Why did it fail in Japan 15 year ago?

Why is it failing in the USA right now?

I think this just demonstrates the negative mindset of someone living in the past and present. Any study on the mindset of the successful tells you that they are forward thinkers, thinking in future terms.

Last time I looked things in any cyclical market go up and down, it isn't a "failure", it's a natural course of events... That'd be the answer to both your questions above. Because of your mindset, even though hundreds of years of evidence exist, you are unable to consider that at some point in time the reverse will be true, that those markets will have recovered and flourished.

If you want a guarantee that your purchase will only ever increase in value forever then it's no wonder you believe so heavily in cash. You are risk averse.. So don't take any. I am not, so I do. I don't see why you can't just leave us negative gearing CG fiends to it and feel the need to constantly try to change thought processes that don't adhere to your ideals.

Cheers,

Arkay

 

[DavidMc]

If someone came up to you and asked if you'd be willing to bet $100 that by the end of this financial year YoY house price rises Australia wide will be greater than the cost of interest from one of the big banks, would you take it? If not, do you realise you're making close to that bet it with hundreds of THOUSANDS of dollars?

It's close, but it's not the same. Property investment has an investment time frame of around 7-10+ years. Not 1 year. The only investment I can think of with a 1 year time frame is cash, which as we all know is just treading water after tax and inflation.

We are not betting that property will increase within the next FY YTD. If they did, that would be good. In fact, I'm very much considering your bet for my latest purchase. In addition, we are not betting on properties 'Australia wide', we are better on specific properties with certain attributes in carefully selected locations. We are betting that they will go up over the long term. 7-30,40 years.

We are also making this bet with money that is slightly less than the average cost of interest from one of the big banks, because as big borrowers we receive higher interest rate discounts. Include negative gearing to tip the odds even more in our favour.

I've been making this same bet over the last 6 years and have done very well as a result. Sure, I know a few years along the journey there will be years of negative growth. But these aren't necessarily 'bad years', they're great years for buying.

I'm in my 20's and work in IT as well. What would you do in my situation?

 

[rastus2]

To comment on you analysis here; if it all goes as you say; credit disappears, buyers disappear, rates rise accordingly, then the end result will be no investors for property as the cost of finance will be prohibitive and the cap growth will be dismal. This will result in fewer rental properties available for renters, demand pushes up rents.

BUT, then the rental yields will be better, purchase prices will be low and the whole thing will go around again. Great! For those of us already with both feet in the door we will enjoy more rent increases. More excess cashflow to fund some more purchases of those cheaper properties you predict.

The other factors to consider is there is a limiting factor to rent rises... and that is capacity of renters to pay, and the fact that Rent is included in the CPI so raising rents increases the CPI which increases rates... etc. etc.

Even if rates go up by 1% over the next 6 months, I doubt landlords would be able to squeeze tenants for a rent rise to cover must of that impact. The need to keep the place tenanted would far outweigh the potential of increased returns on rent. There are no winners when rental houses sit empty because the tenants can not afford to live in them.

I basically agree with HG's assesment of one possible series of events that lead to pain for anyone 'over leveraged' in asset classes such as R/E and Shares. *if* it pans out that anything other than the boom contues, there will indeed be bargains for anyone who is cashed up, and pain for anyone that is deeply in debt (even if they have paper gains right now).

Watch what happens in the US, and you will probably see an example of how bad things could get here. Some argue that OZ RE is more overpriced than US, others argue that our debt scenario is less leveraged... the truth is somewhere in the middle... but overall, we are not in good shape economically *if* a protracted credit squeeze happens.

Is a credit squeeze happening ? Yes.

Of note is that National Australia Bank moved $6 billion worth of loans onto its balance sheet after a subsidiary was unable to refinance the loans in the short-term debt market. (Other Oz banks are making similar moves).. Why ? because their subsidiaries can not get money on the open market. Easy credit seems to have dried up, and while banks are absorbing the extra costs for now, it will not continue. (Non-Bank Lenders are already looking to pass on the costs).
(http://www.smh.com.au/news/business/credit-squeeze-hits-aussie-banks/2007/09/06/1188783393027.html)


Will the credit squeeze be protracted ? Unsure, but more likely than not.

I'm quite amazed that the 3 and 5 year FI loans are still reasonable low rates... *if* I owed much on my PPoR, I'd be locked into a rate ASAP.