Why the apartment crash is on hold

February 7, 2018 by Jon Giaan

Banks are running a closed shop

I've been warning my readers about the high-rise apartment sector for what… like 3 or 4 years now?

They're still standing… Is it time to admit that I'm wrong?

While I generally agree with the line that being wrong about the timing is the same as being wrong, I'm standing by what I said. In fact, if you followed my advice and steered clear of the high-rise sector in recent years, I expect a thank you card for Christmas.

And if things play out how they look like playing out, I expect you'll want to throw in a top-shelf bottle of whiskey to accompany that card.

So if things are as shaky as I've been saying, why haven't we seen more cracks starting to appear in the high-rise foundations? And apart from blacklisting a few suburbs here and there, why aren't banks back-pedaling harder on their exposure to the sector?

These are good questions. One of the old salty dogs of the Australian economic commentariat, Robert Gottliebsen had a crack at answering them the other day. I think the answers were interesting:

“Nowhere in Australia are there more danger signals than in inner city apartments. Most of the property commentaries look at average dwelling prices in particular cities, not at specific markets.

Broadly one and two bedroom apartments units sold on a “used” basis are down about 20 per cent in the three main markets – Sydney, Melbourne and Brisbane. Melbourne has a very serious problem in this market because a large number of the apartments have explosive high fire-risk cladding that must be replaced, which will either send builders and other industry players to the wall or will be paid for by owners who are risking their own or their tenants' personal safety each day. As this becomes understood the value of these apartments will fall by a lot more than 20 per cent.

Ok, hang on a sec. “Explosive” high fire-risk cladding? I've written about the cladding issue before, but I'm not aware of anyone saying that the cladding had the potential to “explode”. Maybe it was senior moment… Anyway:

Right now there are series of developers and apartment owners that in years gone by would have seen the bank heavies move in and take control.

But the banks are just sitting there watching the crisis unfold. Why? Here are five possible reasons and I give my rating out of 10 for each of the reasons.

Firstly the banks have changed their spots and are going to be soft in the future. Possible accuracy rated out of 10 – nil.

Secondly, the banks are scared about the impact on the total market if they pull the plugs. Rating – nine.

Thirdly, in Melbourne, taking control of fire risk apartments either by appointing receivers to builder/developers or taking control of individual apartments is extremely dangerous for banks. Stay low: Rating – nine

Fourth, the banks are worried about the royal commission and don't want bad headlines at this time. Rating – eight.

Finally, when interest rates are low banks are less likely to be vicious because the cost of allowing money to be frozen while the borrower tries to solve the problems is low. Rating, seven. But this will change if interest rates rise.

At some point the banks will have to confess their problems in this area and my guess is that the combination of higher global interest rates and the royal commission will force those confessions.

Maybe. I suspect to the only way to get the truth out of the banks is to pry it from their cold, dead hands.

However, on the idea that the banks are colluding to prop up a sector and to prevent the entire industry taking a bath… well, we've seen it before and it certainly wouldn't surprise me if that was the case.

I think the banks probably did get a little blind-sided by the king tide in foreign capital – a tide that came in quickly, and is quickly on the way out.

They don't want to be left holding the baby on that one, but they're stuck with it.

A managed unwind is actually probably the best we could hope for.

I think the next 12 months are going to be make-or-break. Developers and early buyers will be looking to off-load stock on a new generation of buyers.

But the only generation of buyers that's going to fall for that – or be dazzled by free i-pads, and interest free furniture packages – is a generation that is probably not going to be particularly savvy.

(They're not going to be readers of my blog, that's for sure.)

That also means that they're probably not going to be in a super-strong financial position. They're more likely to struggle with mortgage payments if the economy stumbles.

That is, the market is trying to hand-ball the baby on to a new bunch of suckers, and those suckers are the most likely to go down, fall hard, and go down en masse.

That wouldn't be fabulous for the economy.

So spread the word. Is grandma thinking of tipping her nest-egg into an off-the-plan apartment in inner-city Brisbane?

Get her to think twice.

New opportunities everywhere.

September 13, 2017 by Jon Giaan

Should you be getting into marijuana stocks?

There’s a big market here, but one big swing factor.

There are two new big-dogs in the world today and I’m talking about emerging (hype-driven) opportunities.

One of them is Bitcoin, I’m researching everything to do with that market and will be reporting back my finding within the next two weeks.

The other is marijuana. Let’s begin…

In Japan, the Emperor wears hemp.

He has done for centuries. The hemp plant – of which ‘marijuana’ (the plant you smoke to get you ‘high’) is just one strain – has had a long and fruitful connection with humanity.

Hemp oil was being used by the ancient Egyptians as a medicine.

NASA was using marijuana to help astronauts unwind from a tough day on the space station.

(No, I just made that last bit up.)

But then marijuana (and with it hemp) went out of favour. It became a prohibited substance. The hemp industry got shut down.

(Many people say it was Dupont and the cotton industry that got hemp shut down – mounting a massive scare campaign about the dangers of marijuana.)

Whatever the case, it’s been illegal for about a century.

But now, it seems, the tide has turned. In America, there are now more states where marijuana is legalised to some degree or another than there are where it isn’t.

It’s a radical social experiment, but one that is creating a billion dollar industry in the process.

And for people in the right place at the right time, a small fortune.

This chart here has some of the big success stories. If you put just $100 into some of these companies just three years ago, you could be banking some incredible returns.

One company turned $100 into $35,500 for you! Nice!

Of course, not everyone’s a winner. The alcohol industry for example. They’re not stoked about it. Alcohol and marijuana seem to be in competition with each other.

In states where marijuana is legal, pot sales are growing exponentially, while booze sales are flat or falling.

Take this chart from Washington state.

Quarterly marijuana sales have boomed from $23.6m just a few years ago to over $300m today.

Some people are saying that the marijuana industry is going to be bigger than the manufacturing industry in the US by 2020. It’s pretty huge.

And the stereotype is that marijuana is for teenage boys with their X-box and Dominos pizza.

But if you break it down and look at who is actually using legal weed shops in the US, it’s a surprisingly broad cross section of the community.

It’s only very slightly tilted towards males, and it’s tilted towards younger cohorts (25-34) but not massively.

To me, that looks like an industry that’s got legs.

Ultimately the American experiment is a case study in how governments can make or break a market.

Sometimes government regulation is a good thing. I personally prefer to live in a world where there isn’t an open market for personal nuclear weapons. I support government regulation in that industry.

However, and I know this will come as a surprise to many of my readers, the government isn’t always perfect.

It doesn’t always make great decisions. Often, it actually makes very bad decisions in order to protect the interests of the rich and powerful.

(I know! It was a shock to me too. I’m sorry. I really should have made sure you were sitting down first.)

So is all hell going to break loose if we legalise marijuana? It seems unlikely. Marijuana has been down the priority list for the police for a while. It has never been particularly expensive or difficult to get.

And we’ve got by.

And some argue that there’s a signalling effect here. That if we legalise marijuana we’re telling kids that it’s ok to get off your face.

That’s kind of the message we started sending when we legalised alcohol again if you’re using that logic. And if you’re taking moral guidance from the government you probably need to have a good long chat with your priest.

So personally, I see this having a very small impact on the fabric of society.

So if you’re ok with the moral dimensions, and I more or less am, then the question is, where is the money?

This is a tricky one. We’re really looking for the government to make a market here. There are a number of Australian companies getting ready to launch when Australia finally starts down the path towards legalisation.

But the government is sending mixed messages here. Some days it looks like their stance is softening. Other days, it looks like it could be years down the track.

As I’m sure you know, it’s cash-flow that kills most start-ups. For marijuana stocks in Australia that could mean a whole lot of stranded companies with state of the art infrastructure and nowhere to deploy it.

And the longer the Australian government drags it out, the more opportunity there is for foreign companies to fully gear up and get ready to expand.

I mean, let’s say Australia doesn’t open the door until well after 2020. By that stage, the American marijuana industry will be starting to consolidate. Large players will start to emerge. They’ll have developed all the tools they need – technology, business models, finance partners.

They’ll come into the market full guns blazing, just as our little Aussie battlers are trying to get off the ground.

They’ll probably get slaughtered.

And right now, it seems that the government is going the wrong way for people interested in backing Aussie companies. I know a hemp farmer up in Northern NSW. They’d been gearing up production of low-THC (the stuff that gets you high), high-CBD (the stuff that has medicinal properties) crops.

The government had been moving towards making CBDs legal.

But then the Therapeutic Goods Association surprised everyone and said, actually, no, CBDs will remain illegal. You have until October to wrap things up.

It looks like they’re stuffed.

So this is the danger here. If you’re investing strategy relies on the stroke of some bureaucrat’s pen, your strategy is built on an institution that has been corrupted time and time again.

So there’s a substantial amount of risk there.

And that’s one of the reasons why the returns are so high. Can you predict what the government’s going to do in two or three years? Sometimes it’s a coin toss.

So look, yes, there are potentially some huge returns to be made out of the marijuana industry. I’m looking at some options myself.

But be aware of the risks. The government was happy to hang a whole bunch of hemp growers out to dry. They’re not going to give a toss about your investments.

That’s not to say it’s not worth it. But marijuana stocks belong in the risky tail of your portfolio, I reckon.

Have you made money from the marijuana hype? Are you sold on it, or are you staying well clear?
Do you think it’s a bubble about to burst, similar to techwreck2000?

WTF? Labor kills my property wealth!

April 26, 2017 by Jon Giaan

Labor has unleashed a wrecking ball aimed squarely at the property market…

Suddenly it’s on like Donkey-Kong.

Labor has opened the broadside guns on property. Seems like every day we’re seeing another big policy announcement aimed at ‘housing affordability’.

And we’re not talking chump change anymore. Most affordability policies in recent memory have been as fulfilling and nutritious as licking an envelope.

But not this time. Labor has let loose a massive wrecking ball, and it’s heading straight for the property market.

1. Negative Gearing? Gone.

CRAASH!

2. Foreign Buying? Big fines for that.

SMAAASH!

3. SMSF leverage into property? Banned.

BAAZOINGO!

4. Vacant properties? Taxed!

BAM!

That’s a big-hitting policy line up. Any one on its own might be risky. But all of them together?

Flippin look out!

No government in recent memory, maybe in the history of the world, has ever taken such an aggressive affordability package to the people. No political party has come out gunning for property in such a Rambo-esque way.

Hold on to your hats folks.

But are things really as bad as they seem?

I’m not so sure.

Partly that’s because I’m not inclined to take politicians at face-value – EVER. So when Labor says they care about housing affordability, I tend to be a little sceptical.

I also can’t imagine that any political party would want to be in the driver’s seat if the property market crashed. Can you imagine? They’d get beaten over the head with it for decades.

And that’s particularly true for Labor. The general perception is that Labor is less strong on the economy. (I don’t think that’s necessarily true. I think they tend to be about equally useless.)

But presiding over a property market crash would certainly cement that perception for Labor. They’d struggle with it for decades.

And if the market did tank, I don’t think “But we fixed affordability for you. You should be thanking us!” is really going to fly with the electorate.

(Voters tend to be ungrateful like that.)

So there’s really nothing to be gained by being the party that brought down the housing market. Nothing at all.

So my assumption would be that Labor is looking for something that sounds big and impressive, while carefully avoiding doing anything that might influence the market in a meaningful way. (You’ll be surprised how far this rule of thumb will get you in assessing political risk.)

I call it the Sounds Good, Mostly Useless hypothesis. Let’s test it out.

1. Vacant Property Tax
The Victorian government just introduced something like this, and Labor wants to take it national.

The trouble with this is how you measure it. Some people have used water-usage to identify empty homes – but if the government tried that, it’d be pretty easy to game – just set a timer on the tap in the kitchen.

The Victorian system is self-reporting. (Good luck with that!)

It also sounds like the taxes are pretty small change. I’ve heard someone say that to a Chinese buyer, a new apartment is worth 20% more than a “used” one. So unless you’re talking about something that gives 20% a nudge (they’re not), I don’t see it moving the dial all that much.

Assessment: Sounds good, mostly useless.

2. More Fines for Foreign Buyers
Labor wants to double the screening fees on foreign investment and double the fines imposed on foreign investors who illegally purchase residential property.

The fees themselves are pretty small, so doubling a piffle is a pifflepiffle. Just a cost of doing business.

Doubling the fines is also a good idea, but Australia’s enforcement of the rules is pretty piss-weak, even after we beefed up the regime a year or so ago.

Look at the numbers. Since the new regime kicked in, the ATO has issued 388 fines worth more than $2m. That sounds impressive, until you realise it’s only about $5,000 on average.

Again, for foreign investors, it’s just a small cost of doing business.

Assessment: Sounds good, mostly useless.

3. Ban on SMSF leverage
Like a lot of Labor’s policies, this one has good intellectual cover, and one was on the key recommendations of the Murray Inquiry into the financial sector a few years ago.

SMSF leverage into property has been growing rapidly since it started in the latter years of the Howard government, and SMSFs looked set to become a major player in the market.

But it’s been growing rapidly from zero, and hasn’t had time to get all that far.

In my world, I know a lot of people using SMSFs to buy property, so it’s easy to forget that SMSF buying is still tiny – just 0.18% of the market. Getting rid of it is hardly going to move mountains.

This is still a pretty serious move, but it’s more about removing a source of future demand, rather than existing demand.

Assessment: Sounds good, mostly useless.

4. Ban on Negative Gearing
This is also a pretty radical reshaping of the market, but the thing to remember is that the change is grand-fathered. That is, if you had a negatively geared property before Labor brings their changes in, you get to keep negatively gearing it and claiming your deductions.

So again, this is about shaping future demand, rather than the market today. And even in theory, it’s not clear where the adjustment will be made. It could be in the relationship between rents and prices, it could be in the way people structure their finance (most people who negatively gear are wealthy enough to get creative with their financing).

The market will evolve, but it is certainly not clear to me that it’s going to have a big, or even noticeable impact on prices in the short term.

Assessment: Sounds good, mostly useless.

So look, while it all might sound a bit scary, I think most of Labor’s policy is in line with the Sounds Good, Mostly Useless theory of political science.

And that’s not an accident. You can be certain that Labor is being very careful about tipping the apple-cart, while very carefully choosing messaging that maximises voter-impact.

That’s politics for you.

But from where I sit, I don’t see any skies falling in.

What do you think? Mostly useless?

Are you an Aussie? Prove it! Or else: Tax, tax, tax…

May 31, 2016 by Jon Giaan

1942286_orig

Selling a house? Now you have to prove to the ATO that you’re actually an Aussie…

So this has got me rolling my eyes like a pokie machine.

The ATO has gone and lobbed a grenade into the property market, right out of left-field.

You might have seen it already. It’s causing a bit of a stir.

Under the new regime, if you purchase a property worth $2m or more on or after July 1 2016, you will be required to withhold 10 per cent of the purchase price and remit it to the ATO UNLESS the vendor is able to provide a special purpose tax resident’s “clearance certificate” from the ATO.

Yep, unless the seller can prove to you that they’re an Aussie, you have to give 10% of the purchase price to the ATO.

At first I’m thinking, oh yeah, no worries. I’ll just smash a stubbie of VB in a single slug and belt out a few bars of Khe Sanh.

(Just another Saturday at auction.)

But no it’s not as simple as that. I’ve got to go to the ATO and get a 6-page ‘Foreign resident capital gains withholding clearance certificate application’ form.

I’m not shitting you.

That certificate is then only valid for 12 months (in case my country of birth changes in the interim.)

Holy-flipping-dooley.

Effectively, the ATO are saying that the starting point is that everyone selling a property in Australia is a foreigner, unless they can prove otherwise.

Now think about how many properties are sold in Australia in any given year. How many of them are actually owned by foreigners? My guess would be zero point stuff-all.

Of course we are talking properties worth more than $2m. That used to mean high-end properties, but not any more. We’re now talking middle of the road up.

My point is that in order to catch a small number of illegal foreign purchases, by picking them up at the back door at the point of sale, we all now have to jump through this ridiculous hoop.

The worst of it is that it looks like the ATO has used a legitimate public concern about illegal foreign purchases to expand its data collection and policing.

True, this will make sure that foreigners meet their capital gains tax obligations and that’s a good thing.

But say you’re a bit behind on your tax return. Or if you run your own business, or use a company to run your property investment business, say you’re a bit late on your BAS.

Does the ATO have the ability to hold out on you? Can they say, No Jon, you’ve still got $12 outstanding from your last BAS. Pay it up like a good boy and then we’ll give you your clearance.

The ATO will also be able to compare asset-ownership with declared earnings – so if you’ve been earning minimum wage but are asking for clearance on a $5m beachfront complex, it can raise some flags.

And they get to run this check on you every 12 months if you’re a serious investor who sells properties regularly.

Now I’ve got no problem with any of that in principal. We should all be playing by the rules. But it does worry me that property is being used as the Trojan horse to slip these extra powers through.

Because there’s already a prejudice against property built into the system. You don’t have to pay stamp-duty on shares, or land tax. And my bet is that it’s a heck of a lot easier to dodge tax through the share market and off-shore entities than it is through property.

So claims that we’re gunning for the ‘high-end’ sound like BS to me.

When I look into my crystal ball, I see the $2m figure holding steady, even as the median house price in Sydney eclipses the $2m mark sometime around 2020.

I also see a point where we actually do find ourselves in a budget black hole, and the government drops the threshold to $1m, or even all together to increase the tax take. I also see the ATO introducing “processing” fee.

(I also see Carlton having a blinder of a year in 2017, by the way.)

And so the real targets here are not foreigners, it’s not even ‘wealthy’ people. It’s ordinary Australians.

It’s aimed at people without enough wealth to set up complex trust structures, and get funny with the stock market. It’s aimed at people whose primary store of wealth is their home.

The tax system is skewed against the poor. The more money you have, the more opportunities you have to game the system and get away with paying next to nothing.

If you work a 9-5 job, you’ve got nothing. The tax-man takes your money before you even see it.

And pretty soon, you can expect a tax-audit every time you want to sell the family home or off-load an investment property.

You get shafted every which way.

All in the name of managing the problem of foreign buyers – a problem which seems to be sorting itself out anyway, and was probably better dealt with through the state governments stamp duty register, or local councils rate collections, IMHO.

I don’t like where this is coming form and where it’s going. Maybe things in Canberra are leaner than we thought.

And on top of that, it’s shaping to be a real pain in the arse.

Add negative gearing changes to this, and extra taxes on foreign purchases, and it’s shaping to be a hell of a year for property.

Lay off the golden goose, you turkeys.

Is this going to affect you? What are you going to do?

Will the construction boom cause a property crash?

October 7, 2015 by Jon Giaan

A construction boom threatens to create a glut… but only in some segments.

Let’s take a look at one of the worst-case scenarios. I’m seeing this argument making the rounds more and more these days, but if we stop and hold it up to the light, does it hold water?

This is the ‘growing glut’ argument. The idea is that Australia is facing the twin shocks of a rapid build up in housing supply, at exactly the same time that population growth is slowing.

That’s going to throw the market into ‘glut’ – where there are more houses than people who want them. Rents will fall and prices will crash. And “Pal” will pivot from dog-food to aged-care nutrition.

Now we can’t write this off entirely, because some of the trends that this story is built on are true. It’s just that picture is generally more complex that the sound-bites will tell us.

And so I wanted to share some good work Paul Bloxham at HSBC has done in pulling this apart.

So the first point is yes, housing construction is ramping up and population growth is slowing.

If we look at dwelling approvals and dwelling construction, we can see that both have jumped up to the highest level in over 20 years. The leading nature of approvals says that we should see exceptionally high levels of housing supply coming on-line over the next year or so.

However, this only tells you so much, because a lot of this pick up is driven by inner-city apartments in Sydney and Melbourne. We’ll come back to that. But at the national level, yes, we’ve seen a big pick up in supply.

At the same time, population growth has falling, driven by falls in net migration (apparently kiwis packing up and going home has a lot to do with this…)

However, at a population growth rate of 1.5% a year, we’re still at the high-end of the spectrum, and one of the highest levels since the late 80s. It’s just that we had such phenomenal population growth following the GFC, that it looks a little ordinary now. It isn’t. It’s still strong.

Now we want to compare supply and demand here, to understand what’s happening to prices. But we can’t directly go from population growth to housing demand. We live in groups, and the size of those groups varies.

And household size can also vary with time. It’s been on a downward trend since the second world war.

But it can also vary in response to house prices. If prices are high, then some younger people will hold-off on striking out on their own and forming their own household.

What’s more, we only get data on household size every 5 years with the census. So it can be a little tricky. It’s not straight-forward to translate population growth into housing demand.

But HSBC have had a crack at it.

And they’ve done that by assuming different average household sizes to get a ‘range’ of household demand over the past 15 years.

And this is what they come up with:

What you can see here is that, as some people are freaking out about, housing demand has fallen below housing supply, for the first time in a while.

So that will take some heat out of the market.

But the small period of excess supply we’re experiencing now is dwarfed by the prolonged and extreme periods of under-supply between 2007 and 2010, and 2011 and the start of the year.

And so even though we’re producing houses at a decent clip now, we still have a considerable under-supply to work off.

And as long as we have an under-supply, there will be upward pressure on house prices. It might be less pressure than we had before, but it is still there. The drive is still towards higher house prices.

It’s not until we’ve worked off the total undersupply and moved into total over-supply that we start to see the market balance weighing on prices.

So when might that happen?

We’ll HSBC have tried to model this.

On their estimates, the housing undersupply peaked at a shortage of around 200,000 houses in 2012.

Since then, the shortage has been easing, to a current shortage of about 100,000 dwellings.

Going forward, assuming different household growth scenarios, it looks like we get back to a balanced market sometime around 2016-17.

However, there are a couple of assumptions here. The first is that the market was balanced in 2001 – our starting point.

Was it? Maybe, maybe not. It’s impossible to know. But it can have a substantial impact on our estimates. For example, if the market in 2001 was actually undersupplied by just 50,000, that pushes our return to balance back by a full year.

The other point, is that not all housing supply is the same.

It varies by state. For example, NSW has had a pronounced undersupply in recent years, and demand is still growing faster than supply.

However, in Victoria, supply and demand have been more balanced, and there hasn’t been such a large accumulated short-fall.

This means that we’ll have markets coming back to balance, or moving into oversupply at different times, and we’ll see very different pricing responses.

The last point I’d make is that inner-city shoebox apartments, and 4-bedroom homes in leafy suburbs are barely substitutes.

The construction data here doesn’t differentiate between the two, but in my mind they’re worlds apart.

And so I could easily see a scenario where some apartment segments become over-supplied and prices start to fall, while at the same time, detached houses in the same city remain under-supplied and continue to post solid price increases.

So it’s a nuanced picture. Despite what some of the alarm-farmers want you to believe, “Australia” does not have a “glut” and prices are not about to drop off a cliff.

But let them tell that story if they want to. The more buying opportunities there’ll be for buyers like me who know the devil is in the detail.

Will the construction boom cause a property crash or a soft landing?

Are prices too high in Melbourne and Sydney to invest in right now?

US passes a tipping point

February 24, 2015 by Jon Giaan

The US market has passed a tipping point. I’ve been preparing market research and due diligence with my man on the ground – Brian Payton. Here’s a bit of an overview, as my gift to you.

If you want the full run down – and insight into Brian’s proven system, it’s not too late to get in on our special FREEDOM CASHFLOW USA event.

Here’s the most exciting chart you’ll see all week. This is household formation in the US. It’s spiked big time.

Households are back!

When you leave your old place (your parents or your ex-partner’s) and start a new household, you ‘form a household’.

What we saw in the US is that around the GFC, household formation tanked. I doubt this was so much about couples sticking it out ‘for the good of the budget’ as it was about kids just staying at home longer.

Kids just couldn’t afford to get their own place, or were pushed into more study by a weak job market.

Or maybe the outside world was too scary compared to the comfort of the family nest.

And you can see it in the ownership statistics as well.

Total home ownership in America has fallen to the lowest level since the mid-90s in recent years. Brian says that this is becoming a hot-button topic in American politics. Everyone’s angry about it. We can expect to see some policy action in the near future.

But that fall has been driven by a collapse in home ownership in the under-35 segment. At 36%, it’s the lowest level on record.

Downturns always hit first home buyers hard.

But it seems we’re turning a corner. As the first chart shows, household formation has spiked in recent months.

It seems the outside world doesn’t seem as scary as it once did. Kids are emerging from their parents’ basements and going it alone.

And they’re feeling a lot more optimistic because the labour market in the US has turned. Suddenly, the employment outlook is positively sunny. In January, the labour market posted the biggest employment gain in 8 years!

That’s translating into more job-stability, and improving wages. Income is currently growing at around 6% pa, also one of the strongest results in recent times.

So I think this marks a turning point in the US property market.

The initial recovery in prices was driven by investors. Bargain hunters like Warren Buffett (and me!) were active in the market, which in their eyes (and now with the benefit of hindsight) had significantly over-corrected.

But now we’re seeing households start to get in on the game too. And this will be driven by first home buyers and the younger generations – which have effectively been sitting on the sidelines for the last 8 years.

And they’ll be spurred on by politicians trying to correct the ‘tragedy’ of falling ownership rates.

We’ve already seen a good start. The government is rolling out 3% deposit loans through Fannie Mae and Freddie Mac.

In Australia, we’re talking about caps on high-LVR lending. In America, it’s official government policy!

But after 8 years on the sidelines, and a whole lot of foreclosed mortgagees effectively in the penalty box, there’s a massive amount of pent up demand just waiting to be unleashed on the market.

It is true household deleveraging may not have finished. But we’ve seen household pay back a tonne of debt, and debt-to-disposable income ratios are back around levels last seen in 2004…

Could it go further? Maybe, but there’s no way we’re going back to 90s levels. That was at a time before financial sector liberalisation had kicked in, and interest rates were double digits.

So to me, you’d have to think that deleveraging is all but over. That will put a floor under household borrowing, and add growing support to house prices.

Mortgage credit already seems to have turned a corner as well. It’s posted negative growth pretty much since the GFC, but in recent months, has started growing again.

But still, there’s a long way to run here as well.

All this suggests to me that there’s still plenty of upside. It’s still very early days in the recovery.

And for my money, you’d have to think that the existing segment is the one to gun for.

Existing homes (compared to new homes) had much more support through the GFC. There were much bigger declines in new home sales than existing homes.

This means we should see stronger price support in the existing segment. It is likely that there’s still a bit of slack to work through in the new home market.

The other thing to keep in mind is that although household formation is up, this doesn’t translate into an increase in purchasing demand straight away.

Because most people don’t go straight from mum and dad’s basement into their own property. They often spend a few years in rental accommodation or sharehouses before taking the plunge.

That means we should see a surge in rental demand come through before the surge in buying demand kicks in.

That’s good news for investors, because that should give rental prices and yields a boost in the immediate term.

And capital growth in the longer term.

Make no mistake about the opportunity that’s on offer here. The great recession caused a massive shakeout in US property.

You always want to buy at the bottom, and it doesn’t get more bottom than this.

(Well, ok, you really wanted to get in a couple of years ago – when I did, but there’s still a lot of juice left in the deal.)

And it’s exciting because some of the price points are so accessible. You can get quality properties in some areas for like $50K.

And have them pay you yields of 20%!

Show me any market in Australia where you can do that.

There is still a massive BUY over US property. My advice is to get in while you can.

But, as always, make sure you know what you’re doing.

The Fin-Review rang me for an opinion, here's what I told them…

September 30, 2014 by Jon

The RBA’s “bubble warning” is a total media beat-up, but beneath the noise is a real game-changer for Australian property…

On Thursday afternoon I received a call from the journalist at the Australian Financial Review.

He was after comment on the RBA’s “warning” to investors.

What was this “warning”? I checked the internet, and the news papers were full of fire and brimstone… Take this gem from Chris Uhlmann at the normally dour and conservative ABC:

The Reserve Bank has given its strongest warning yet that a dangerous property price bubble in Sydney and Melbourne could destabilise the economy.

It's now ramping up talks with other regulators to introduce lending controls to head off the risk of a damaging correction in prices.

Whoa. I could hear the grannies choking on their tea and biscuits. It’s strong stuff. Is that what the RBA really said?

Well, no. Of course not. Here’s what the RBA actually said – well the passages that caused all the hoo-ha (my emphasis):

The low interest rate environment and, more recently, strong price competition among lenders have translated into a strong pick-up in growth in lending for investor housing – noticeably more so than for owner-occupier housing or businesses. Recent housing price growth seems to have encouraged further investor activity.

As a result, the composition of housing and mortgage markets is becoming unbalanced, with new lending to investors being out of proportion to rental housing’s share of the housing stock.

Both construction and lending activity are increasingly concentrated in Sydney and Melbourne, where prices have also risen the most.”

There’s nothing we don’t know here. But it was the characterisation of an “unbalanced” market that caught people off-guard. The RBA is usually very careful about its choice of words. Did they mean to scare us good folks?

Maybe.

They go on:

“The risks associated with this lending behaviour are likely to be macroeconomic in nature rather than direct risks to the stability of financial institutions… a broader risk remains that additional speculative demand can amplify the property price cycle and increase the potential for prices to fall later, with associated effects on household wealth and spending.

… In this environment, recent measures announced by the Australian Prudential Regulation Authority (APRA) should promote stronger risk management practices by lenders. The Bank is discussing with APRA, and other members of the Council of Financial Regulators, additional steps that might be taken to reinforce sound lending practices, particularly for lending to investors.”

Anything in there about a “dangerous property price bubble” or the risk of a “damaging correction in prices”?

No.

And really, the media was in such a rush to turn this into a “bubble” story, that I almost missed what this is really about.

Banks.

This isn’t about the threat of a property bubble. This is about bank lending practices. When they say there’s the possibility of “macroeconomic” effects, what they’re saying to the banks is that if your lending practices get sloppy, and we end up with a shakeout in the property market, it will be on all of our shoes.

They’re making a moral argument for getting involved.

And why do they want to get involved?

Well, as I’ve argued before, you never have a bust when there’s a shortage. It’s always an over-supply of housing that causes a collapse in house prices. We saw it in the US. We saw it in Ireland.

But for the first time in a long time, we’re seeing signs of saturation in some markets – the inner-city CBD market in Melbourne in particular.

(You might remember I was warning about that market a few weeks ago. I swear Glenn Stevens subscribes to these blogs. saucyglenny58@gmail.com, is that you?)

As they pick out:

Apartment construction in the inner city has been at high levels for some time and, given the time lags in completing higher density constructions, is expected to remain elevated for the next few years.

No kidding. 85,000 apartments are already in the pipeline!

A related risk, which is likely to be currently most pronounced in Melbourne, is that some new developments may appeal to a relatively narrow segment of tenant or owner demand.

For example, some new developments involve smaller-sized apartments that are targeted at international students, which could be harder to sell in the secondary market than more traditional-sized apartments.

This could place downward pressure on apartment prices if student demand weakens or if there are other shocks that reduce foreign investors’ appetite for these apartments.

I’ve warned about the dangers of these shoebox apartments before, and the RBA is right alert mum and dad investors to the dangers, and to warn the banks about taking on too much exposure to this market.

But are there any warnings from the RBA about the rest of the property market? No. Nothing. Their concerns are very localised.

That said, this is still pretty serious stuff. Effectively the RBA is flagging the prospect of macro-prudential policies to balance out the market. Until now, they’ve said there’s been no need. Now it’s a possibility.

This is a game-changer.

I’ll explain more in my next post, but the real warning here is for the banks. They’ve noticed that competition for mortgages has become fierce. There’s reports of cash bonuses for switching banks. It’s hotting up. If that translates into loose lending practices, then we could end up with a real problem on our hands.

The RBA is watching closely.

And really, these record low interest rates were never designed to ramp up only the housing market. They were meant to lift the entire economy.

But the banks have been a bit lazy. They taken the cheap cash and funnelled into mortgages, because that’s where the easy money is.

Lending to business, especially small business, has been woeful.

You’re never going to grow an economy that way.

It’s probably an admission that the RBA thinks the broader economy needs lower interest rates. But it can’t do that for fear of sparking a frenzy in housing… they’re in a bind.

Anyway, more on that, and just what I told the journo from the AFR, on Thursday…

Have you experienced a tightening of bank lending for your own investments?

Or is the opposite true? Have banks been offering you cash and special rates to get your business?

Prices always rise. ALWAYS.

September 18, 2014 by Jon

As far as I’m concerned house prices always rise. You’ve got to take a pretty selective view of history to argue otherwise.

I’m going to set myself up like one of those guys at the school fete were you throw a ball at a target and if it hits, it drops him in the water. Here goes:

“House prices always rise. Always.”

I can hear the property poo-poo’ers howling already.

Ok, I know this is a contentious point, so let me throw in a qualifier, that I don’t think weakens it too much.

“House prices always rise, over any time period of time that matters. Always.

I’m not blind to the cycles in the housing market. I know that if you bought a house today, there’s every chance you might not get what you paid for it if you tried to sell it in a couple of months.

And I know there are longer periods where prices stagnate – like the 5 years that followed the GFC. If you bought at the top there, there were quite a few years were that statement wasn’t true.

(Though if you bought well, like I did, you could have still made money. But we’re just talking generally here…)

But if these are the kind of periods that matter to you, then you and I have a pretty different approach to property investing.

I know some people have made a go of ‘flipping’ properties, sometimes selling the property before they’ve even taken possession of it.

This doesn’t interest me much. It just seems like a whole lot of work, and you’re totally relying on short-term movements in the market. It’s a bit of a gamble and I just don’t like taking chances with my money.

It’s the same story if your hold is less than 5 years. You can make money off the cycle, but it’s not a strategy for building a first class portfolio. When I find a property that performs, I’m never keen to let it go.

So if you’re a short-run investor, then yes, I’ll admit, the cycle can move against you, prices can fall, and your property can lose value.

But on any time scale that matters, and I guess I’m talking 7+ years, it is true that prices always go up.

The RBA has been looking into, and recently produced this chart here, which tracks house prices back to 1950:

Now this isn’t a garden variety price chart, so let me step you through it. First up, this is ‘real’ house prices, in 2014 dollars. So it strips out inflation.

When it says that the median house price was about $90,000 in 1950, that wasn’t what the market rate was back then. It was a lot less. But in 2014 dollars, given what money buys you today, that’s what houses were worth.

The second curly feature of this graph is that it’s in a log-scale. House prices have grown ‘exponentially’ over the last 70 years. If you were to chart it, you’d get your classic ‘hockey stick’ shape – like you get for the economy, population, technology, things like that.

The log scale gives you a clearer sense of the underlying trends.

And when you chart it like that, it’s clear that the trend is up. Always. Always and ever upwards.

There have really only be two short periods where prices stagnated – the mid-70s to the mid-80s, and again in the mid-90s. But the important thing to remember is that around this time, inflation was a lot higher than it is now – mostly up above 10% (compared with 2.5% today.)

And it’s the inflation numbers that make the prices look less awesome. House prices were probably growing nominally about 7 or 8 % through these periods. They were still growing, they just were keeping up with inflation, which racing ahead.

So stagnant real prices was more of an inflation story than a house price story.

(And you could argue that inflation was eating up your mortgage, so you probably came out ahead anyway…)

The other interesting thing to remember is that with high inflation comes high interest rates. Interest rates were a stack lot higher than they are now. The average interest rate in the 70s and 80s was 12%. The lowest was 8.4%. At its worst, interest rates were 17%!

You can fix rates for 5 years at less than 5% right now!

So those folk arguing that you should expect prices to fall in the short-term are really arguing against history. It normally takes interest rates in at least double figures to knock the wind out of prices.

For my money, the lowest interest rates in 50 years just don’t seem like they’ll cut it.

So yeah, sure. You could cherry-pick some short periods in history where prices have flat lined, but you’ve got to take a pretty selective (i.e blinkered) view of history.

Say you bought at the peak in Sydney in 2003 and sold three years later. Sure, if you did that, you lost money.

But if you bought at that peak and held, then you’re up more than 50% in capital gains right now – more if you bought with yields in mind as well.

So there. I said it. As far as I’m concerned, and for the kind of investor I am, prices always go up.

Simple as that.

What do you reckon? Do you think prices will keep trending upwards?

Reckon we might be on the brink of a stagnant period? Or falls?

What’s the biggest factor influencing prices right now? Interest rates?

Why the Chinese can’t get enough of Aussie property

August 7, 2014 by Jon

Chinese investment in Australia is only partly about life-style. The economics of investing in Australia is a much bigger motivation, particularly as the Chinese property market looks less and less inspiring.

Why do you think the Chinese love Aussie property so much?

We’ve all heard about what kind of impact Chinese buying is having. The latest I’ve heard is that they could account for one in ten new homes this year.

Ask you’re average Aussie and they’ll say it’s a no brainer. Australia is an awesome country. The weather’s sweet and we’re living the good life. Why wouldn’t you live here?

That might be true, but somehow I doubt it. The top investment destination for the Chinese is America. We’re second, Canada’s third, and the UK’s fourth.

If the leaderboard includes Canada and the UK, you can be sure they’re not investing for the sunshine.

Dig into a bit further and you’ll see that emigration intentions feature prominently in their motivations. A property is seen as a solid stepping stone to one day living here.

Educational opportunities for the kids also rate highly. Australia has some of the best universities in the world. It seems many Chinese are buying properties for their kids to live in while they’re at University.

But again, I don’t think this can be the full story. Owning property isn’t that big a leg-up towards permanent residency. And the kids could always rent.

So eclipsing and encompassing all these factors is the economics of investing in Australia. The Chinese know that property is always a solid investment, and Australia is still one of the best property markets around.

The Chinese have a long connection with property, and many of the wealthier Chinese, who are the ones looking to invest in Australia, have made their fortunes, in part, through property.

But now they’re casting their property net further afield.

And why’s that? Partly it’s just a basic diversification strategy. But the wealthy and switched-on Chinese know that opportunities at home are drying up.

Because the realty is that the Chinese property market is looking pretty grim right now.

On all accounts the market seems to be slowing sharply, and house prices have actually started falling – for the first time in 2 years. More than half of China’s 70 biggest cities had price falls last month.

Housing credit is also slowing and housing sales have fallen 15% over the past year. Unlike Australia, it seems their market is clearly moving into a down-phase.

As a result Goldman Sachs are predicting prices to fall 10-15% in most cities, and Chinese property will remain stuck in the wilderness for at least two years.

And the key factor driving the slowdown seems to be what the Financial Times calls a “chronic oversupply”. In Beijing, inventories of unsold homes have risen from 7 to 12 months supply in the past year.

And it’s worse out in the Tier 2 cities, where the overhang has risen to about 15 months, and worse still in Tier 3 and 4 cities, where it is a massive 24 months.

Because following the GFC, the Chinese loosened the monetary policy tap, cut interest rates, and encouraged a massive ramp up in Construction.

In 2007, China built around 6 million homes. By the end of last year, that had risen to over 10 million – an increase of 66%!

Now we’re often told about China’s rapid urbanisation experiment, with peasants coming off the farms and into the cities, and this is what creates the need for all these new homes.

But the truth of it is that the pace of urbanisation has peaked. And each year, the increase in the urban population gets smaller and smaller. In the 2000s, over 200 million Chinese made the cities their home. In the 2030s, it will be just 50 million. In the 2040s, China’s cities will have stopped growing altogether.

Indeed, according to the UN population projections, China’s population is actually expected to peak sometime around 2030, and start falling pretty rapidly after that.

And so it’s hard to shake the feeling that there’s a massive over-supply of housing, which will keep downward pressure on prices for years to come.

And the scary thing is that several years of falling prices could actually be the best case scenario.

The St. Louis Fed in the US compared the Chinese market right now, with the US market leading up to the bust there in 2007.

It’s a scary comparison.

In the 5 years leading up to 2007 in the US, and in the last 5 years in China, house prices in both markets increased about 50%. But it’s not prices that are the worry.

It’s the construction figures that are truly staggering. Housing under construction increased about 30% in the US, but it’s increased about 130% in China. That’s that massive construction boom we’re talking about.

But all that supply’s not being taken up. Vacant housing increased about 20% in the US. In China, vacant housing has increased close to 250%!

That’s starting to look like a massive over-supply, and it’s an over-supply that depresses prices, or worse still, could potentially trigger a collapse.

And so this is why the smart money in China is starting to cast their eyes further afield. They see the writing on the wall for the Chinese property market. The best-case scenario is that prices will remain sluggish and doughy over the foreseeable future…

… but with every chance it could end up being a whole lot uglier than that!

And so that’s where Australia comes in – a mature property market entering a boom phase, in a sophisticated and stable economy. AND, as I’ve written about many times, the Australian market this is still defined by a chronic undersupply and shortage of housing.

Savvy Chinese investors would be all over this.

Australia is an awesome country to be sure, but it’s not all about lifestyle.

It’s the economics that’s driving investment in Australia. And as China slows, you can bet on a whole lot more interest in Australia.

Cash for Visa property scandal set to explode!

February 20, 2014 by Jon

Immigration Australia

Rich foreigners are buying their way into the country and stealing our homes.” It’s only a matter of time before this becomes a catch-cry on talk back radio. For the sake of the market, and the country, we need to get on top of this.

I keep a close eye on Canada. Politically and economically, we tend to move pretty close together.

That’s why it was interesting last week when Canada scrapped it’s controversial Immigrant Investor Program. The scheme is basically just a way for rich people to buy permanent residency.

Trouble was, they under-estimated how rich the developing world, particularly China, was getting, and how fast.

As I’ve said before, China is creating 25 billionaires a month!

In that context, the paltry sum required for a Canadian Visa was barely loose change.

To qualify for the IIP, all you had to do was “loan” the Canadian government $800,000 interest free. At the end of 5 years, they gave it back.

What billionaire would even blink?

And so there was a phenomenal surge in visa applications. Embassies stopped taking applications once they had something like 50,000 in the backlog. Last week, they scrapped it altogether.

The scheme had been copping a lot of flack. It was pretty unpopular.

But I wonder if many Australians know we’re running pretty much exactly the same scheme here, though the terms are a little less generous – but not by much.

To buy an Aussie Visa, you need to be bringing $5m into the country with you. But it doesn’t seem like there are clear guidelines about where that money needs to go. In fact, like Canada, a lot of it goes into government bonds.

The New South Wales government mandates that applicants who want to come to NSW must allocate at least $1.5 million to buy Waratah Bonds.

So let me get this straight. In order to buy your way into the country, you’re “forced” to invest a good chunk of wealth in some of the safest and highest paying bonds in the world?

And I thought our governments, with their gold-plated credit ratings, had no problem securing cheap finance from the markets. Do they really need to be propping up demand like this?

And is it worth selling residency for?

And why we are we attracting business leaders with significant assets, only to force them to buy the most riskless and brainless assets on the market?

It’s madness.

I think the basic idea of an investor program is a good one. If you want to come to the country, start up a business, employ some locals, help Australia compete in a global economy, all power to you.

I’ll personally be rolling out the welcome mat.

If the program was about attracting talented business people then I’d be all for it. If you ask me, entrepreneurs – and from all parts of the world – have made Australia what it is.

But the problem is that the program uses wealth as a proxy for entrepreneurship and business nous. That’s just not always the case. Particularly if the biggest determinant of wealth in your country of origin is your ability to milk party political contacts.

And it sticks in the throat a bit. We’re very serious about border control. Unless your rich. Then you can do what you want.

It’s a recipe for the kind of resentment that brought down Canada’s program.

The government needs to get this straight. The fear I have is that immigrants, especially the long-suffering Chinese, will end up being scapegoats for problems that have nothing to do with them.

The latest data show that the new government has ramped up investor visa approvals. 73 visas were approved in the last two months of last year, compared with 15 approvals through the life of the Labor government.

Australia is open for business, apparently.

And my fear is that housing is going to be a flashpoint in this conflict.

We already know, especially if you’ve been reading my blog, that Chinese buying is having a huge effect on the market.

Foreign buyers are already making up a fair chunk of new and existing home sales. Something like between 10 and 15 percent. This chart here comes from NAB.

Screen Shot 2014-02-20 at 3.09.45 pm

But these are national figures. It’s quite likely that in markets like Sydney and Brisbane, the shares are much larger.

And they don’t need to be much larger before they’re eclipsing first home buyers.

This sets up a dangerous tension.

Juwai.com estimates that 63 million Chinese are now wealthy enough to buy overseas. They say Australian buying has increased 9-fold in the past three years.

More and more companies are marketing real estate directly to China. I was on realestate.com.au last night scouting out a few properties and this banner came up:

And we know all this Chinese buying is having a big impact on prices. The danger this creates is that we’re setting up the situation where our first-home buyers are seemingly in competition with the Chinese.

Now, theoretically, you can’t buy here permanently unless you’re a permanent resident, but there doesn’t seem to be anybody policing that. And the Foreign Investment Review Board has been keeping very quiet on what’s actually going on.

A Fairfax journalist put in three separate freedom of information requests. All he got back were four pages covered in white-out.

So you can hear the loony fringe now can’t you?

“The Chinese are stealing our homes!”

We need to get on top of this.

Even if that means putting a bit of a break on foreign buying for the time being. Australian property has its own head of steam. The market is moving into cyclical strength. We can afford it.

Because if we don’t get on top of it – and even just getting some actual stats on what’s going on would be a start – then I worry it’s just going to going to create a climate for much more reactionary, and potentially racist, policy responses in the future.

And for the market, and the country, that’d be a real tragedy.