Two big property myths

Transparent Background


Myth 1 – Property prices double every 7 to 10 years.

There are a lot of property myths out there about Australian property, but one of the most pervasive is that property supposedly doubles every seven to 10 years. But does it really?

Anybody who bought property in the past 45 or so years has been the beneficiary of the huge loosening of credit brought about by US President Johnson in 1968 and US President Nixon in 1971 decoupling and then severing the link between the US dollar and gold. Prior to this, under the Bretton Woods agreement in 1944 the US dollar was backed by gold. The world’s currencies were also indirectly backed by gold, by virtue of the fact that the world’s currencies were valued against the US dollar on the exchange rate.

That all changed when the gold link was severed. What that did, in essence, was to change the economy from gold backed to a credit backed and driven economy. This meant the economy would only grow if credit was increasing, so people were greatly encouraged to accumulate more debt by governments and central bankers. And many people were happy to oblige.

This was never going to continue indefinitely. And in this low inflation, low interest environment, it is now starting to pull back.

When looking at Australian house prices from about 1880 until late 1960’s/early 1970’s, prices were relatively flat, when adjusted for inflation. Once credit was loosened however, from the late 1960’s onward, house prices went parabolic over and above the inflation rates. The gains seen over the past 45 or so years are a product of this huge credit expansion.

Pretty much anybody who purchased a house in that time benefitted from increasing property values. Unless they were actually located over a mine shaft, too close to the edge of an eroding cliff, bought at the top of a local bubble, eg. Gold Coast real estate during the 1970’s and 1980’s or they simply paid too much in the first place (which eventually corrected due to increasing prices), prices generally went up far in excess of the inflation rate.

The people who benefitted from this windfall weren’t geniuses, they were just in the right place at the right time. But many thought they were because they made money each time they sold and because they didn’t understand the underlying parameters that allowed this to occur.

So the myth of property prices doubling every seven to 10 years was born. The fact that this had only happened over the past 45 or so years, didn’t factor into the thinking. “Just over the past 45 years” somehow became “Always”.

Myths graph

There were even pretty graphs with a starting year point and an ending year point to support this “fact”, but once again, the data was extrapolated and prices averaged out over the time frame, rather than show actual annual prices for the period in question. And more often than not, these were not adjusted for inflation. As previously mentioned, property prices stayed fairly flat from 1880 until the late 1960’s/early 1970’s. They certainly didn’t double, for example, from 1910 to 1920 or 1930 to 1940, but the graphs made it appear as though it did.

Now, however, in the current period of low inflation and low interest rates, I believe property prices are reverting back to the more normal mean of only increasing in line with inflation.

Changing demographics as baby boomers retire and change from spenders into savers, will impact on house prices as well, particularly when they start to sell their assets to fund their retirement. Not just prices for property, but shares and businesses as well.

The glut of flats being built in and around Australia’s capital cities will also have a dampening effect on housing prices, particularly in attached dwellings.

Property price corrections could happen as soon as the 2017-2018 financial year, if not even sooner. This glut is mostly investor style stock in the form of tiny one or two bedroom flats. Some are so small you don’t need to bring your cat with you on inspection to know that you won’t be able to swing it in there. This represents a finite and small market. There are not many that have been designed for owner occupiers or families.

Myths swinging cat

The largest Australian demographic is still families with children, making up nearly half of households, and household sizes are also increasing, not decreasing. Of the other half of singles and couples not all of  them necessarily want to live in a flat. According to Matusik the demand for this type of property represents a much smaller percentage than that for detached, semi-detached (with a garden) or small lot housing suitable for families with children and/or pets. And not a great deal is being built for aged care or people who want to age in place with single level, no stairs and no lift dwellings, although this is changing slowly.

I can see a time very soon when even those who have managed to purchase and settle on these flats, will tire of low, no or even negative capital gain, low rental yields and longer vacancies due to the glut. However they still have to fork out every month to pay for the expenses.

It doesn’t help that our greedy and lazy Councils and state governments are only too happy to keep adding more and more blocks of flats. The incentive for them is to keep this gravy train rolling on as long as it can as it represents the biggest return for them.

The key here is the long term. In the short term, prices may rise but they can also fall. Capital gain only really exists if it is a realised capital gain.

Which brings us to our next myth.

Myth 2 – Australia property prices never fall.

The way the global economies are at the moment, there is no guarantee that prices will remain stable, let alone increase any time soon. And with the glut of flats coming into the market in a number of capital cities, most likely just as the global market enters a serious downturn, falling real estate prices are a very real option, particularly from investors exiting the market. As previously mentioned, when they are not seeing any real capital gain (after inflation) and thanks to the glut, have very low yields and longer vacancy periods, but still have to put their hand in their pocket every month for expenses, they’ll start to sell.

Myths empty pocket

Real estate, after all, is a non-productive consumption item.

What goes up can also come down. What people don’t seem to realise is that unless any capital gain is locked in or realised (ie. sold at the highest valuation price), it’s not real capital gain. You cannot rely on the greater fool theory forever. This is the theory that a greater fool will come along and pay you more for your “asset” than you paid for it initially. The banks have been complicit in this, allowing borrowing against any increase in equity so the debt load is constantly increasing. This strategy is also pushed by property spruikers as a means of increasing your property portfolio. It’s amazing how many interviews I’ve heard where a guest is introduced as a property investor with an “X” million dollar property portfolio.

Yep, they might “own” $2m worth of property, but if it’s secured against a debt of $2.5m, that’s hardly a sound financial position to be in. If and when that happens, the friendly bank won’t be so friendly any more.

The problem is that, as previously mentioned, housing is a non-productive consumption item whose purpose is to provide shelter, but is being sold as an investment item. Refer to the aforementioned paragraph on investor quality blocks of tiny one or two bedroom flats being built in just about every Australian capital inner city. These are not attractive for families who generally require more bedrooms and prefer detached, semi-detached with garden or small lot housing.

I feel for those who have been suckered in to buying one of these off the plan “disaster waiting to happen” flats, particularly if they can’t settle when the time comes.

As well as property not doubling every seven to 10 years over a long period of time, so is it entirely possible that Australian property prices can actually fall. And this is even more likely at this particular juncture.

We are entering a deflationary period, a period of asset price falls. The reason the massive money printing or quantitative easing programs we have seen over the past few years by many countries including the US, Japan, Europe and UK, to name but a few, have not succeeded in increasing asset prices consistently, kick starting the economy or causing massive inflation or even hyperinflation is that this money printing has just stopped the deflationary forces from having their full effect.

There is a train of thought, particularly amongst politicians and central bankers that inflation is good but deflation is bad. But I disagree that inflation is bad. Before the turn of the last century, and incidentally before the proliferation of central banks, deflation was as much a part of an economy as inflation. Before the 1900’s periods of inflation was generally always matched with periods of deflation.

It was only when central banks decided that deflation was a bad thing and we should only have inflation, that we have had persistent inflation. Inflation has only been a feature of modern economies from about the 1910’s onwards (incidentally, the US Federal Reserve Bank came into being in 1913).

Why is deflation the enemy? Deflationary periods are useful to dampen mal-investments and bring the economy back into equilibrium.

Myths Japan 2

Japan is entering its third lost “decade” of deflationary period. Asset prices (property, stocks and businesses) are about half the value they were during the 1980’s and have never recovered those highs. The various governments of the day have tried desperately to stimulate inflation and asset price growth through massive quantitative easing (far greater than the US) and zero and negative interest rate policies. It hasn’t worked, the inflation rate is still negligible and asset prices are still languishing. And yet Japan is still ticking along nicely and they’re in no immediate economic trouble. Why? Because inflation isn’t needed!

And why are our politicians and central banks so desperate to see inflation? Because it increases asset prices, which brings about the so called “wealth effect”. When asset prices are rising, people feel wealthier and more secure and this supposedly makes people spend more. And why is this a good thing? Because under a fiat monetary system (pretty much all developed nations and most developing nations) in order for the economy to grow, we need to borrow more and get further and further into debt. In other words consume today with tomorrow’s income.

The markets can only be gamed for so long before they revert back to the mean. We are probably now entering an extended deflationary period and sluggish global economic growth, after more than 100 years of constant inflation. Get used to it, this is most likely the new normal.

Oh, and I’ve said it before and I’ll say it again. In a properly functioning economy, all assets, including property, only rise in line with inflation. Maybe we’re reverting to the mean on that too.

Myths inflation

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Global financial turmoil ahead

Transparent BackgroundFinancial crisisWhy I think there will be global economic turmoil ahead of us:-

  1. Global debt since the GFC has INCREASED.  Almost every country has increased its debt load and globally has risen by $60 billion since 2008.
  2. China’s economy is slowing down because their debt levels, like the rest of the world, has increased dramatically to ramp up their production line and due to stimulus during the GFC used to build their many “ghost cities”
  3. This is coinciding with the world is no longer consuming as much of the products they make and their government is no longer willing to use stimulus for their economy (although they will interfere with their stock market).
  4. There is an oil glut due to shale oil finds in the US and no lessening of production in OPEC countries despite lower oil prices.
  5. Record low global interest rates mean people are looking at riskier assets and areas to make up yield, which causes real estate and stocks to rise above their actual worth.
  6. Low interest rates are also funding highly speculative ventures.
  7. Consumer debt in almost every country are at record levels.
  8. There have been huge amounts of baby boomers retiring every year since 2011 and will only increase as more and more boomers move from the paid work force to the retirees.
  9. These retirees will be looking to convert assets to cash and will become net savers instead of net spenders.
  10. Those retirees who don’t have any or much retirement savings will be trying to sell their houses, stocks and businesses to fill their retirement funds, but due to demographics, there are less people to buy these assets, so it will be a buyers market for this real estate, stock and businesses as more and more flood the market, thus driving down prices.
  11. Commodity producers used cheap credit due to low interest rates to ramp up capital works and these works programs are now finished and in production at precisely the same time that commodity prices have fallen due to a fall in demand.
  12. No country’s central bank can afford to raise interest rates because the global economies are so fragile that even a quarter of one per cent interest rate rise may be enough to crash the markets.
  13. Many countries have resorted to money printing or quantitative easing to try to stimulate the economy, but this monetary stimulus was used to bail out “too big to fail” banks and financial institutions who had engaged in risky loans and sub prime lending.  This extra money did not find its way into the general economy.
  14. Real wages in places like the US have not risen in the last 40 years, so people are actually worse off financially than they were in 1975.
  15. All the monetary stimulus has done is prevented a natural deflationary cycle from occurring due to all that extra money being put into hard assets that pushed up asset prices such as stocks, real estate and art with no actual basis for the rise.
  16. The current global debt load is completely unsustainable and it’s getting to the point where the interest payments alone on all the debt will not be able to be paid.
  17. There is a chance that governments will not be able to pay their debts, or in other words, they will default on their loans, such has almost happened in the PIIGS (Portugal, Italy, Ireland, Greece and Spain) countries.  Only bailouts by Central banks have stopped these sovereign defaults.
  18. Japan is entering its third lost “decade” of no or slow growth due to unsustainably high debts.  Their stock market and real estate have not reached the highs attained during the 1990’s and their.
  19. Many governments face billions in unfunded liabilities to pay for pensions, disability and medical care.

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