How do you spot the top of a cycle - analyzing the state of the WA market

[alexlee]

man what a nice lifestyle these builders must lead..to say you have 400 homes to build..thats my dream come true..they would easily make $50k clear for each house..times that by 400..thats a nice lil nest egg.. plus if they are developers as well..they would be making money out of the land as well...ugh..tuff life for some!!

Yes, but all booms must bust and developers (and most humans) never quit while the going is good. I'm sure materials costs, labour, etc are skyrocketing out there too. Most will pour their profits back into more developments, and will get caught in the inevitable oversupply and downturn.

A lot of the people who made lots of money during the internet boom, for example, lost most of it when the NASDAQ crashed. I remember a friend who bought an Australian IT company (Spike, I think?), watched it multiply to $5, didn't sell, and watched it fall right back down again to his purchase price.

But on Perth, I agree with KPH. Perth doesn't have the population nor the space constraints to support that sort of median price. Right now it's just supply not catching up with the sudden massive increase in demand. People are going there because that's where the jobs and mines are: many of those jobs are in construction which by nature have end dates. What happens when those construction jobs are finished? It doesn't take as many people to operate a mine as to build it.

As supply catches up, prices will peak, and when the mining boom ends (as it inevitably will, at least temporarily) prices will fall. I don't think Perth has enough of a non-mining economy to support prices if commodities fall, which is exactly why it's booming so much now.
Alex

 

[muney]

Yes, but all booms must bust and developers (and most humans) never quit while the going is good. I'm sure materials costs, labour, etc are skyrocketing out there too. Most will pour their profits back into more developments, and will get caught in the inevitable oversupply and downturn.

A lot of the people who made lots of money during the internet boom, for example, lost most of it when the NASDAQ crashed. I remember a friend who bought an Australian IT company (Spike, I think?), watched it multiply to $5, didn't sell, and watched it fall right back down again to his purchase price.

But on Perth, I agree with KPH. Perth doesn't have the population nor the space constraints to support that sort of median price. Right now it's just supply not catching up with the sudden massive increase in demand. People are going there because that's where the jobs and mines are: many of those jobs are in construction which by nature have end dates. What happens when those construction jobs are finished? It doesn't take as many people to operate a mine as to build it.

As supply catches up, prices will peak, and when the mining boom ends (as it inevitably will, at least temporarily) prices will fall. I don't think Perth has enough of a non-mining economy to support prices if commodities fall, which is exactly why it's booming so much now.
Alex

alex i think your just seeing one extreme..yeah sure some big developers might go under but the key idea is to see where the market is heading and then take a course of action..for example..if i was to develop a 60 block subdivision..it would be very unwise to release all 60 in one hit..especially if there is uncertainty in the market..what i would do is to release them in stages..call them stage 1,2,3 for example..then sell one stage..move to next stage and so on..that way you have money in your pocket to complete the next stage..rather than just flood the market and hope for the best..simple logic really..

 

[kph]

On The Other Hand ...

Agreed, agreed, and agreed again.
Lots of valid points from Alex and Muney...
However, I think Alex, gets a bit technical with the argument.
A bit too logical on the progression...from boom to bust, to commodity price collapse/correction. Its too globalised an argument.

I believe it needs to be segmented into the various different commodity types.
For example, energy is not going to behave the same way as a base metal or a rock ore product.
So if the base metal commodities collapse, then the other categories will not necessarily suffer.
Energy for example...there are contracts to be met starting in 2011 for Japanese and Korean buyers ( not even talking about chinese buyers here...yet) which require two production trains to be constructed on a greenfields site, starting 2008.
This is Pluto which has got the green light to commence.
The problem is not a concern of a downturn in demand, or prices. Its one of not being able to meet a construction/production deadline.
So regardless of whether its takes less people to operate a plant or not, you will find that the construction crew simply moves across from one project to the next in the same location. They don't all do the 'mass exodus' thing and head back over east ( or wherever they came from)
So the prognosis is that there are many years worth of construction to go before things start to slow down.

Regarding the builders and having a full order book, its a double edged sword.
Nice on paper, but must be a nightmare trying to get and keep trades, let alone quality trades. The only way around this would be to either employ them full time, or provide enough incentives to build up a loyal following, otherwise they just get poached by a rival builder who offers extra money.

The quality control is the biggest headache from what I have seen, let alone dealing with angry customers who have to wait 18 months for their house to be completed.

But I agree more with muney, that if you stage a development, you can effectively recover you initial costs in the 1st or 2nd stage, and if the market goes quiet, you simply land bank or release the balance more slowly.
You are effectively carrying the balance at zero cost by that stage, so its not like you can go under...
Also more chance of getting a better return by the staged development, as the prices tend to be higher for the later releases, especially in the current market. Pretty safe strategy in reality.

So for me the real question is, how long and how high ?
I believe it will go another 3 to 4 yrs, with more moderate growth, but there will not be a correction after that...it will just flatten out with little or no growth thereafter ( till the next run) as this is what Perth has done traditionally.
You need a reducing population and high vacancies for property prices ( and rents) to go backwards.
Don't see that predicted anywhere or anytime soon.
kp

 

[stretchy]

You need a reducing population and high vacancies for property prices ( and rents) to go backwards.
Don't see that predicted anywhere or anytime soon.
kp

The vacancy situation is the only obstacle between being me becoming a Perth Property Bear (PPB?). Going by supply and demand prices simply cant go down if so many people are chasing accomodation.

However (and isnt there always one ) Sydney has a vacancy rate almost as low as Perth yet shows negative growth - probably due to the affordability factor.

Just shows how damn hard it is to predict the market..

 

[alexlee]

I'm really interested in finding out about what happened in previous mining booms and busts. I can't find anything on the net.

Surely they didn't just build tiny little mines that only had a year or two's worth of supply last time. Did they build big mines in the last boom and what happened to them?

Kph, if Perth continues at even 15%, 20% growth, it'll be on par with Sydney in 4 years. Can that happen?
Alex

 

[kph]

No, I doub't it.
I seriously doubt the growth will continue at that rate.
Supposedly its on track for another 10% for 2006, but it is unlikely that it will be 10% or more in the following years.

Previous booms/busts relating to commodity prices were in respect to gold, nickel, etc.
Base metals.
There was no gas/oil at that stage.
The NW shelf gas only commenced in 1985, and there has not been a bust in that category of commodity ( not yet anyway!)

Those old mines got mothballed, till the prices came good again, or the technology caught up so they could be mined/processed cheaper.

Maybe it really IS different this time. ( I think so !!)

kp

 

[Peter Parker]

I'm really interested in finding out about what happened in previous mining booms and busts. I can't find anything on the net.

Kph, if Perth continues at even 15%, 20% growth, it'll be on par with Sydney in 4 years. Can that happen?

There was a brief period in the 1970s when Perth prices were very close if not higher than Sydney's. I know it has been discussed here but the search function failed to find anything.

WA's annual population growth has exceeded the national average for all but a couple of years in the last 40. The only other state with a comparable (if not better) long-term record is Queensland. For a while the ACT was also an outperformer and some may also say that the NT is currently.

Despite what the books say, a high population growth is no guarantee of exceptional capital growth. However growth might be more consistent, with 'flat spots' lasting only 5 to 7 years rather than 10 - 15.

The suburb of Toorak has negligible population growth but is highly valued. If population growth was everything then the Gold Coast would be vastly dearer than Sydney while laggards such as Adelaide and Hobart would have median property prices nearer to $100k than $300k.

Peter

 

[stretchy]

Maybe it really IS different this time. ( I think so !!)

kp

[SIZE=-1]The four most expensive words in the English language are 'this time it's different' - [/SIZE][SIZE=-1]Sir John Templeton.

kp, print that out and stick it on your fridge
[/SIZE]

 

[kph]

Mental note to self....
PRINT
STICK
FRIDGE

OK,, I think I got it..

 

[AUSPROP.]

[SIZE=-1]The four most expensive words in the English language are 'this time it's different' - [/SIZE][SIZE=-1]Sir John Templeton.

kp, print that out and stick it on your fridge
[/SIZE]

the reality is times do change and every day is different. the impact of the motor car on the economy and the environment has been huge. Energy is indeed facing increasing demand and reducing supply, a very different scenario to the 1700s. major events such as dropping the atomic bomb, the formation of the euro, the invention of motor cars, the light globe etc are proof that "this time it's different" happens regularly and in many different ways. so stick it up on the fridge with pride kph... or is it a coolgardie safe??

 

[Dazz]

I think the disparity lies in the difference in timings between what you are talking about (future Perth RE market) and what is driving it (resources etc).

The former has typically had rather shortish cycles, and the former has rather long contracts being written which underpin the former.

Woodside's original 25 year contract to supply LNG to the japanese, signed back in 1983 is still in force.

Their 30 year deal signed with the Chinese in 2002 is going to be around and influencing things for a while yet.

The big iron ore projects like BHP's Hamersley and the others at Mt Tom Price, not to mention what Gina Rheinehart has in her pipeline....all work on very very different timeframes to any real estate cycles.

How are all these 20 / 25 / 30 year contracts going to influence the RE market in Perth ?? I'm not sure we do have experience of such lengthy productive contracts and how they influence the Perth dirt.

 

[stretchy]

I should have explained my position a little better, so hear goes:

Being a contrarian by nature, I am instantly suspicious when I hear those words. Sometimes it is different, but the vast majority of the time it's not, because underneath the current situation in Perth are two simple factors - fear and greed. Fear of missing out, and greed when extrapolating current trends. Those two emotions drive every boom (and every bust) and I for one dont think humans will get any better at managing them.

I have spent quite some time reading up on the history of booms and its incredible how similar they all are - going right back to the 1700's. Hence my belief that its never different. Anyone who wants to bet the farm on the belief that it is different this time - well, good luck.

 

[alexlee]

Even the supercycle bulls (Jim Rogers, for one) say that there will be short term volatility. Which doesn't mean a lot, really. It just means that over the long term, commodities demand will continue to increase. It's about as meaningless as saying property will increase because the world's population is growing.

Buy when the numbers make sense. Avoid when they don't. Sure you'll miss out on some opportunities, but I always take heart in the fact that Warren Buffett avoids a lot of industries (including very hot ones like tech: you'd think he could have gotten as many IPOs as he wanted during the 90s) but still has great returns.

You don't have to hit every hot market to succeed. Be nice if you did, but even if you miss a few opportunities to play it safe, that's not the end of the world.
Alex

 

[topcropper]

the reality is times do change and every day is different. the impact of the motor car on the economy and the environment has been huge. Energy is indeed facing increasing demand and reducing supply, a very different scenario to the 1700s. major events such as dropping the atomic bomb, the formation of the euro, the invention of motor cars, the light globe etc are proof that "this time it's different" happens regularly and in many different ways. so stick it up on the fridge with pride kph... or is it a coolgardie safe??

I agree Ausprop.

It does annoy me a little when someone does suggest that 'this time it's different' and people jump down your neck and say 'Orr ya not saying that this time it's different are ya'


There are plenty of examples of how things are different and will never be the same again.

Sept 11 2001 was a point in time when everything for centuries will be said to be before or after that date. The world before Sept 11 will never be the same as after.

Oil prices through history got steadily cheaper and cheaper until they bottomed about 6 or so years ago at $10 barrel. I think this time it's different with oil prices. At least untill Nuclear fusion is commercially viable and hydrogen takes over the small transport fuel.

There are very basic and simple reasons why metal/coal/iron ore prices kept getting cheaper and ever more cheaper over the centuries. Mechanisation. From pick and shovel, to now huge caterpillar mining machinery worth $10 million per machine. Plus the fact that the shallow easy to get deposits were got at first. The size of machinery is now at a limit. It's not possible to move buckets down the roads any bigger. It takes huge amounts of energy to mine. Mining efficiency won't have the big improvments of before.

Same with farming. Food prices have got cheaper and cheaper with mechanisation. In Australia today only 3% of the workforce is needed to feed the nation. The surplus is sent overseas and provides 20% of the nations export income. However farming efficiency has hit a wall. Machinery can't get any bigger. Harvester fronts are at 12 meters wide. They are flapping about too much already. Harvesters can't get much bigger, as they are already too heavy. Boom sprays are out to 40 meters wide. Any engineer knows that if you double the span of something the strength has to quadruple. Booms are now too heavy. They have reached the limit. Fertilizer prices are going up with oil prices. What ever comes out of the ground has to go back. Growing stuff in soil is not magic. What comes out, has to go back. Food is still getting cheaper, but the turning point is near. Ground water supplies all around the world are in decline. Wealthy westerners are demanding organic produce. Organic food is way less productive. Populations are growing faster than food production. Grain is getting converted to energy. At some point in time in the near future the world will wake one morning and this time it will be different. Food prices will start to get more expensive and continue that path.

Everytime I've said something has got cheaper, I'm talking about in real terms. Bread hasn't got cheaper over the years, but in real terms it has. Bread to wages, or bread to inflation. I bet an average family 50 years ago spent a much bigger percentage on food than they do today. 200 years ago nearly the entire wage went on food. 500 years ago famine was commonplace so no amount of money could buy food at certain times.

Some points to ponder on a wet morning. Yes it's raining here. You beauty.

See ya's.

 

[stretchy]

That all makes sense perfect topcropper, but it still doesnt tell me how to make money. When do prices become detached from the underlying fundamentals? When does emotion overtake common sense and force prices way higher than the economic conditions would support? I'm of the opinion that the resource boom has shifted perceptions in many West Australians that the good times will never end, and prices will keep going up. And every time that has happened in the world, bad things tend to happen. I'm not claiming a huge crash will happen - no one should even bother trying to predict what will happen. I am claiming that we are at the frothy peak of the market in Perth, and history tells us its a very bad time to buy at that point. Its also the time where people start saying 'its different this time'.

Was it different when tech stocks grew to insane valuations in the late 90's? What about the last resource boom in the 70's when Perth prices were higher than Melbourne (and then underperformed for the next 20 years)? What about the time railways became the next best thing in the late 1800's? All huge technological changes, and all painful corrections when prices became detached from fundamental values. It doesnt matter how great progres is and how much things have changed once greed gets its hand on it.

Progress always makes things different, I will definately agree with you there. But where we seem to disagree is the drivers of this boom. You say fundamentals, I say emotion. Emotion never changes, not unless someone invents a magic stability pill for the human race. And where would the fun be if that happened

I suspect the core of this argument is a disagreement in investing philosophy - some love to ride the wave and enjoy it for all its worth, others like to pick at the unloved (or up-and-coming) areas before anyone else is paying attention.

If your interested about reading a great book on the follies of emotion in investing, I can recommend this one:
Why Smart People Make Big Money Mistakes And How To Correct Them: Lessons From The New Science Of Behavioral Economics
http://www.amazon.com/gp/product/0684859386/ref=ed_oe_p/102-1609578-5713761?%5Fencoding=UTF8

 

[topcropper]

I too love reading about booms and busts. I have posted this article numerous times, but incase you've missed it here it is again,...


http://www.rba.gov.au/PublicationsAndResearch/Conferences/2003/Simon.pdf


I'm definately not saying this resource boom is different. I'm giving reasons why it could be, however we all know that a financial crisis in China or the US and everything will come crashing down like a house of cards. Nice reply by the way.

I also read a while ago an article that said that contrary to popular belief, resource booms don't end when supply catches up to demand. They traditionally end when recession ends the whole party and the cycle starts again. Thinking back the last 100 years, that could be the case. Alexlee thinks so too. Never saved the article though.

Events in financial and commodity markets of the recent weeks give a bit of concern, and if I was a betting man, Alexlee's [and Thommo's] long prediction of coming recession are now at slightly shorter odds. Any smart investor would know that this could be transplanted into property markets too. Increasing inflation and interest rates won't just effect financial markets.

See ya's.

 

[stretchy]

Thanks for the article - it looked familiar and I had actually saved it on my computer a while ago from a previous post of yours. I never got around to reading it, might spend some time today.

 

[topcropper]

There is a very interesting article in the BRW rich 200 magazine on Perth and WA under the title, 'Gold Mine'.

It's something we probably all know already, but good to see the actual figures in print. WA accounts for 31.3 % of the nations exports, yet contains just 10% of the nations population.

I know that an economy is based more than just on exports, but we have to pay for our imports with something. I would like to know what the figures were for NSW and Victoria. They would be embarrasing I think.

Perhaps WA can be likened to China with a huge trade surplus, and NSW and Victoria as the US, as the huge consumers. If WA property eventually ends up more expensive than Sydneys, then maybe there will be a good reason. The article is very good reading, and if anyone doesn't yet have the magazine, then I would recommend it. I buy it every year.

See ya's.

 

[Peter Parker]

It's something we probably all know already, but good to see the actual figures in print. WA accounts for 31.3 % of the nations exports, yet contains just 10% of the nations population.

This has been the case for years.

Every WA premier since at least Charles Court in the '70s has boasted that WA produced 25% of the exports with less than 10% of the population. It was at that time that the slogan on all the number plates became 'WA: State of Excitement'.

Higher demand and prices are just making that 25% figure a little higher at the moment.

Peter

 

[asdf]

Very nice thread. Good reading for a wet Sun. Now that we've all heard the discussions, are any forumites planning to buy into this boom at this early/late stage of the cycle? I stopped buying in WA 8 months ago but in hindsight, I could've retired today if I kept on going.