Property Development

If you vote Labor and you’re a property investor, you’re a…

May 26, 2016 by Jon Giaan

Sorry, property investors and the Labor Party don't mix.

I’ve held out on weighing into the negative gearing debate so far. But now I’ve finally settled on my position.

Labor can suck a fart.

How did I come to such a rounded and well-reasoned position? Like most “analysts”, I had a coffee and did some big-picture dreaming.

I’ve seen a lot of numbers doing the rounds. Aussie John reckons house prices will fall by 10-20% if Labor’s policy gets up. Bill Moss, the former head of Maquarie Group’s Property Division reckons they would fall 30%, maybe more.

Do I have any takers on 30%?

Let me throw my hat in the ring. I reckon house prices will fall 120% if Labor gets its way. People will be literally paying you to take houses off their hands.

It will be an economic Armageddon.

120% might sound ridiculous, but it’s got as much credibility as 30+%.

The truth is that anyone trying to put a number on these things is dreaming. The property market is just too complex. You can’t isolate what effect any one policy measure will have.

House prices are driven by a whole range of things – it depends on the supply and demand balance, it depends on what foreign buyers are doing, it depends on what’s going on in the economy.

Trying to pick out the effect of a single policy change like negative gearing reform is like trying to find your farts in the synoptic charts on the weather channel.

(Georgia, put that one in the short-list for Jon’s Dazzling Analogy of the Year.)

You just can’t look at these things in isolation.

But that is exactly what Labor wants to do.

They’ve simplified the problem and dumbed-down the prescription.

Negative Gearing must be having some impact on the market. Sure. But I can’t say that I’m totally sure of what it is. Maybe it pushes prices up, maybe it increases supply and pushes prices down. Maybe it does both.

But if you look at the media frenzy that’s developing around this debate, you would think that the sole reason why young people have sell organs to get into the housing market is because their parents have used negative gearing to drive prices out of their reach.

I doubt very much that this is true.

You want to look at why prices are where they are, look at supply and demand. As I’ve said a number of times, we haven’t been building enough houses, mostly because we’re not bringing enough land to market.

So if you want to complain about high prices, have a look at the supply bottle-necks we’ve built into the system.

But Labor’s not going there. No one wants to go there. Supply reform is hard. It involves coordinating the states and the councils. It involves finding ways to work with the Not-In-My-Backyard brigades. It involves taking on the deep-pocket developers and their land banks.

Total nightmare.

And so we get a bit of tinkering with demand. That’s all we ever get. Half-arsed attempts to address affordability like the First Home Buyer Schemes. And all any negative gearing reform will do is have a marginal impact on demand. Maybe it even reduces supply, making things worse, but I don’t expect that effect is huge either.

So my bet is that who ever wins this election, and whatever happens to negative gearing, in three years time people will still be complaining about how expensive houses are and how hard it is to buy a house.

And in that sense, Labor’s policy shows vision – a vision for how to position themselves as the battler’s champion going-forward.

This issue isn’t going away. Excessively high house prices are a problem. It’s hard to run a business when affordable labour can’t afford to live near your office or factory. And there are legitimate questions of equity, when some sections are locked out of home-ownership. The young folks of Australia are peeved now, and their parents soon will be too, when they realise that they need to give their kids a good chunk of their retirement savings to help them get a place of their own.

Housing affordability is a big issue, and its only getting bigger. As such, it’s a vote winner.

So this is Labor’s play. Cry crocodile tears over affordability, paint negative gearing as the nasty villain, and then champion negative gearing reform as its saviour (while studiously avoiding saying or doing anything at all about supply.)

Bulls#!t.

Its cheap and lazy politics.

The danger though is that the property market is complex. And you have negative gearing reform (and all the fear that people are whipping up) coming into effect at the same time as banking credit is getting tighter, Chinese buyers are drying up, and the economy struggles with transition.

It could be the straw that breaks the camels back.

Fear can have a tendency to snowball. House prices can get a run on if they start to slip.

(Though if we do see house prices fall, even 5-10%, I’ll be buying up big.)

I’ll back the property market to weather the storm over the medium term, but in the short run, a lot of ordinary people could get burnt.

And so this is the basis of my argument. If you care about affordability, look at supply. If you’re worried about it as a tax dodge for the well-heeled, have a look at the CGT.

But leave negative gearing alone. It’s not the demon you make it out to be, and now is not the right time to be introducing fear and uncertainty in to the market.

Especially when the only purpose is to score a few political points.

I rest my case.

If you vote Labor and you're a property investor, you're a bloody idiot.

What do you reckon?

Don’t buy apartments from Clive

March 15, 2016 by Jon Giaan

Clive palmer gives us a classic lesson in why markets suck, and why you have to be careful.

So one of the big news items last week was Clive Palmer’s Townsville Nickel refinery going into administration.

It’s looking like a train wreck. 550 workers are set to lose their jobs. 237 have already been sacked and are waiting on their entitlements. The refinery owes over 1500 creditors over $100m, including the ATO, Powerlink and a host of local businesses.

Townsville is a large and diversified economy, but this will sting. Once you include businesses up and down the production chain, you’re talking a pretty substantial hit to the economy. And for a property market that had built a reputation as FIFO capital – a shine which has long since worn off – it’s another stumble.

To top it all off, it looks like they’ll leave the tax-payers of Queensland with a bill for $100m just to clean up the site.

As Townsville Mayor Jenny Hill says, “It’s worse than a Shakespearean tragedy.”

I was curious, so I looked up what a “Shakespearean” tragedy was. You know, as opposed to your garden-variety tragedies. Turns out, the defining feature of a Shakespearean tragedy is that all the main characters die in the end.

I think that assessment is a touch grim, but hey, she’s the local, so who am I to argue?

The question that inevitably comes up when something like this happens is, why did nobody see it coming?

Queensland Nickel isn’t some mum and dad sandwich bar that just had a rough trot. It’s a big company, dealing with big customers, in a global commodity.

But nope, nobody saw it coming.

Well, that’s not exactly true. A global commodities glut lined QNI up for a shirt-front about 3 years ago. QNI was just too big and too slow to get out of the way.

And it’s one of the quirky things about the modern economic system. “Prices” are a good way to coordinate activity. They give people the right signals at the right time.

The thing that prices are not good at is coordinating activity across a large number of players in industries that have long lags between project development and the market.

If you learn one thing about economics this year, this should be it.

Markets suck.

And the market for nickel is a classic case in point.

It’s been a classic boom and bust.

The price of nickel (one of the key ingredients in steel production) soared with the China-driven mining boom. It peaked in mid 2014, but has since fallen more than 50%.

Screen Shot 2016-03-15 at 12.22.27 PM

And this price fall is the result of a classic demand / supply pincer play. Demand in China started tapering off, just as massive amounts of new supply were coming on line.

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Between 2010 and 2014, global nickel production increased about 50%!

But all that supply came on to a market where no one really wanted to buy anymore, and prices tanked.

And this is killing players in the Nickel market, players like QNI. Macquarie Bank estimate that at current prices, 70% of the global nickel industry is cash-flow negative.

Ouch.

How did nobody see this coming? Well, I guess we all bought into the hype of the Great Chinese Urbanisation. Miners especially.

(The other thing to remember is that even if a new project is a flop, some people make a can of money. There’s some perverse incentives there.)

But while projections of future demand might have involved a bit of wishful thinking, the prices in 2014 were very real, and they prompted new nickel mines and refinery’s all over the place.

For the individual nickel mine, it was a great idea. But collectively, for the nickel industry to bring that much supply on line, all at the same time, was totally stupid.

So that brings me back to my point:

“Prices are not good at is coordinating activity across a large number of players in industries that have long lags between project development and the market.”

Now take a look at this chart here:

Screen Shot 2016-03-15 at 12.22.43 PM

This is the number of units expected to hit the market in coming years, based on approvals already given.

If that chart doesn’t make your eyes pop, you need glasses.

In 2011, we added 12,000 units to the market in Sydney, Melbourne and Brisbane. In 2017, we’ll be bringing 52,920 to market.

Between 2007 and 2011 we built less than 60,000 units. Between 2012 and 2017, we’ll build close to 200,000.

Why? Where’s the Great Chinese Urbanisation rational? Are we expecting a flood of people to fill these apartments? Is there some massive cloning program I’m not aware of?

It is true that we were probably under-producing before, but we’re talking about a quadrupling of production!

That’s nickel-plated crazy.

And as I’ve talked about before, a lot of these developments seem aimed at foreign investors, with little regard for the local market. Last week, Melbourne mayor complained about “shameful… dog-boxes in the sky” (presumably not on behalf of the apartment marketing agencies), before the city approved another $1bn, Chinese-led, 1800-unit development.

Individually, any one of these inner-city apartment towers might make sense, but collectively we’re talking about a segment that’s heading towards massive over-supply.

Remember that stat about 70% of the nickel industry now being cash-flow negative?

I still don’t think this will rattle the market over-all, but the longer it goes on, and the more Aussies are drawn into the bell of the beast, the greater the risks become.

All I know is that I want to be standing well clear when this thing implodes.

Do you see a shake-out in the apartment sector affecting the wider market?

WARNING: Don’t buy this type of property… Ever!

February 10, 2016 by Jon Giaan

This is the maths facing the recent buyers of off-the-plan inner-city high-rises. There’s a lesson here…

I’ve been flying some red flags over inner-city high-rise developments for a while now. So far the market has been trundling along ok, but things could perhaps turn quickly.

So what would that scenario look like?

The key trigger to watch for takes the form of ‘settlement risk’. Settlement risk captures the things that can happen between commitment and delivery of apartment stock.

Let’s run through some numbers so you can see what I mean.

Imagine someone purchased a $500,000 unit ‘off the plan’ with a $50,000 deposit – say a year or so ago when the banks were happy to lend 90% of the value. They were probably thinking that by the time settlement is due, in like three years, that unit might have appreciated 10% or more (which is pretty reasonable over 3 years).

That would mean that their equity would have gone from $50,000 to $100,000. Happy days. Hopefully, rents and returns have been increasing as well.

And if you bought a property at almost any time in the past 20 years, this was the scenario you were looking at.

But things have changed.

First up, banks are no longer happy to lend 90%, especially on new construction in the inner city. They’ve started covering their arses a bit. So say the buyer’s bank now wants 80% of the valuation. They’ve got to come up with an extra $50K.

I could probably come up with $50K rummaging around in my cars, but not everyone has $50K just lying around.

But we’re also talking 80% of the valuation, and maybe the valuation has changed. Maybe the bank no longer thinks the property is worth $500K.

How likely is that?

Well, according to the Australian Financial Review, a study of nearly 2000 off-the-plan properties in Melbourne valued by WBP Property Group between 2014 and 2015 found that half are now worth less than their original purchase price.

According to the study, the average loss was about $40,000, or about a 10%, from their original purchase cost. Most of the properties studied were purchased between late 2009 to late 2015.

Only 1% of properties surveyed were deemed to be worth more than their original purchase price, with the remaining 49% now valued at the same price they were originally purchased at.

We’ve had an absolute truckload of high-rise construction coming on line in recent times. Check out the chart on 4+ storey building approvals.

That means there’s a lot of similar stock on the market, more sellers than buyers, and it seems that this has been depressing prices.

So a 10% fall in the valuation is not impossible, particularly if the banks start getting pushy about it.

So now our buyer’s bank says they’re only willing to lend 80% of $450K (=360K), but our buyer is down for the full $500. And so the buyer needs to somehow come up with the rest.

The loan of $360K + the original deposit of $50K = $410, so our buyer is $90K short.

Even I’d have to start going through my coat pockets to come up with that much.

So what can they do? They could walk away and lose their deposit, or they could try argue their way out of the contract, but both aren’t exactly appealing options. It’s a messy business.

They could try to sell the apartment, but the market has moved against them, and they’d be selling at a loss.

Say they sell and realise the $450K. Say that’s works out at about $400K after transaction costs. They pay off the loan of $360K and have $40K left over.

But they’ve sunk $140K of their own savings into the deal ($50K deposit, + additional $90K), so this deal has turned $140K into $40K.

Ouch.

And that’s not including any rental losses along the way.

Even if they decided to hold, if the rental market is soft, they might not be getting anywhere near the kind of returns they were expecting. Vacancies are high, which means greater holding costs and less scope to get a decent return.

And maybe their bank decided to increase rates as well. This has happened. So the gap between the rental income and the repayments widens. Most people still think negative gearing is a good idea, but there’s a limit to how negative anyone can go.

This is all a sad story for the buyer concerned, but there’s a macro-story here too. What happens if a lot of buyers find themselves in the same boat?

And what happens if they all decide they’re better off just to cut and run. Suddenly we’ve got even more stock on the market, prices are falling faster and realised losses are rising.

People could get crushed in the rush to the exits.

And this contagion could spread to the developers who now have no buyers for their stock, and the banks that funded the development.

And then chicken-virus would be in every school and kindergarten.

Ok, I’m painting the worst-case scenario here, but the point is, it’s not too hard to see it happening.

And given we had a tonne of development in 2015, we could be starting to see the effects of this in 2017-2018. It will be something to watch for.

Some folks (like the RBA) are relaxed about it, given how many apartments are being bought by foreigners. But with Chinese capital controls kicking in, I’m not sure I’d be hanging my hat on it.

I still don’t see any shake-out here affecting the broader market in a huge way, but for me it’s just another reason why high-rises are a no-go zone right now.

There are more than enough opportunities out there. I don’t need to muck around in this market.

Anyone hear any stories of settlement risk kicking in already?

Don’t worry, the buyers are coming…

October 28, 2015 by Jon Giaan

Is there really an ‘army’ of FHBs priced out of the market? If so, prices can’t fall far…

The news headlines are on a predictable cycle:

Aussie House Prices to Drop – news.com.au

Australia’s Housing Boom is Over – Yahoo7 Finance

Good News for First Home Buyers – The Age

Yeah, yeah. That’s what you said in 2012.

There has been a palpable shift in market sentiment in recent months though – driven by a bunch of regulatory action

And last weekend, the auction clearance rate in Sydney was down to the low to mid 60s depending on which measure you’re using. That’s way off the peak earlier in the year around 90%.

(Though I noticed auction clearance rates in the Eastern Beaches are still in the high 80s…)

Banks have raised rates facing both investors and owner-occupiers, and the government recently signed themselves up to pretty much all of the Financial Services Inquiry’s recommendations, which will likely mean that banks will need to raise even more defensive capital, and interest rates could push even higher.

(Interesting to note that the only recommendation (out of 44) the government didn’t take up was to ban SMSFs leveraging into property, though they’ve said they’ve got their eye on it.)

And despite the Chinese government cutting rates again last week, Chinese money is not packing the punch it used to, thanks to tighter rules here and capital restrictions at home.

Though, proving there’s a flip-side to every story, the AFR is running a piece about how certain Chinese finance institutions are offering Chinese buyers zero deposit loans to get into off-the-plan developments in Melbourne and the Gold Coast.

The idea, I think, is that this corporation lends them the deposit, secured against a Chinese property, and the buyer then goes and gets finance from an Australian bank. Pretty crazy stuff.

Anyway, the point is, on balance, we’ve hit a couple of major hurdles in the past couple of months, and the mood of the market has shifted.

And the idea that a lot of pundits are promoting is that if prices fall, that will be great news for first home buyers who’ve been biding time on the side-lines, waiting for their opportunity to get into the market.

But let’s think about this narrative for a second. To me it doesn’t make any sense.

The idea we hear is that there is an army of first-home buyers out there who’ve been priced out of the market by Chinese and local investors.

Hot competition has pushed prices out of reach, and all they can do is pray for a collapse in house prices.

Is that true? It’s difficult to say exactly. There’s no data on this sort of thing. The first-home buyer share of the mortgage finance data has fallen in recent years, but it seems that a lot of that fall has been first-home buyers skipping the first home and going straight to an investment property.

On balance, first-home buyers are as active as they’ve ever been.

But perhaps it is true that they want to buy their own homes, rather than just another rental.

And probably the best gauge on that are the newspaper headlines themselves. Media is a savvy industry these days. They’d have a very good idea of what’s going on with their readership.

They’d know that every time they publish an article on house prices falling, or about ‘good news’ for first home buyers, their click-rates jump.

And what’s the first rule of successful publishing? “Give your readers what they want.”

And so on this metric alone, I think there probably are a lot of wannabe first-home buyers out there, who’d like to get into the market, but feel priced out.

(The other explanation of course is that there are a lot of parents out there with the kids still living at home at 28, just waiting for the chance to get them out of the soon-to-be media room.)

Either way, it points to a large pool of potential demand.

But if there’s a large pool of potential demand, that puts a hand-brake on any serious price declines.

The only question is at what point do prices become affordable to this cohort. If prices fall 2%? 5%? 10%? 20%?

My bet is that it’s a lot closer to 5 than 20… and that means that prices can never get a sustained run on, on the down side.

If prices fall 3 or 4%, then this market starts to get activated. They’ve been shopping around, attending auction after auction, and now there’s a place 50-100K under what they’ve been used to seeing.

It looks like a bargain.

They start buying. And if this cohort gets activated, then they effectively put a back-stop on any real price declines.

The only thing that might happen is that sentiment tanks and prices collapse, and this cohort waits for a ‘bottom’. But at the first sign of stabilisation, the FHB cohort will rush in to “buy at the bottom” and prices will quickly recover.

Anyway, the statement, “Prices will collapse. FHB army is stoked.” Just doesn’t make any sense. If that army exists, they’re blocking the road to any serious price declines.

We’ve seen it before. It’s how it played out in the US. I also met an investor the other day who made good money in Europe after the GFC, working with exactly this cohort – first home buyers looking to take advantage of “the bottom”.

It wasn’t the bottom for long.

Which goes to show that there’s money to be made at all stages of the cycle.

Let the media peddle their nonsense to their readership. My bet is we’ll never see the price declines that many people are hoping for.

There’s just too many buyers waiting in the wings.

Are you waiting for prices to pull back before you buy?

Which markets will grow the fastest in 2016?

Hot money, dirty secret

October 14, 2015 by Jon Giaan

Chinese criminals are laundering money through Australian real estate. As long as this continues, no body wins.

Chinese money in Australian real estate is the story that just keeps on giving.

For most of the last couple two years angst has been building about Chinese buyers pricing out Australian families.

That finally prompted the government to get tough and start enforcing the rules that foreign nationals cannot buy existing property.

But it gets worse. Not only is Chinese money crowding out poor Aussie families, that money seems to be dirty money, and the Chinese are using Australian property to launder it.

Some of it is coming from drug lords and international arms dealers, apparently.

Wow.

Tell me this isn’t a free kick to everyone who thinks that anyone who doesn’t look like Kylie Minogue should be kicked out of the country.

Dirty money from corrupt Chinese businessmen and criminals being filtered through Australian real estate – you couldn’t make this stuff up.

The ABC’s four corners ran a piece this week called ‘The Great Wall of Money’, which highlighted that Australia has done diddly-squat to protect the property market from money launders.

Australian Transaction Reports and Analysis Centre (AUSTRAC) former head John Schmidt told ABC’s Four Corners that Australia should cover itself from corruption.

“Real estate is recognised internationally as one of the means by which people will launder money, yet we ourselves have not covered the field as yet,” Mr Schmidt said.

In his last sit-down interview as treasurer Joe Hockey agreed Australia’s safeguards against the global flow of dirty money should be strengthened.

“Currently they are not appropriately covered by the anti-money laundering legislation, but it obviously needs to take place,” Mr Hockey said.

Despite highly credible warnings that large volumes of illicit money leaving China were being laundered in Australia, a Four Corners investigation found no Australian agency was charged with identifying the true source of foreign funds being invested into the economy…

Two former [FIRB] board members have confirmed to Four Corners, concerns about offshore corruption were rarely discussed.

That is despite $US1.25 trillion ($1.7 trillion) worth of corrupt and criminal proceeds from China estimated to have been spent around the world in the decade to 2012…

One former FIRB director — who asked to remain anonymous — said the organisation held “no concerns about corruption”…

Another former board member, Chris Miles, told Four Corners FIRB did not concern itself with identifying the true source of funds from offshore.

“Where the money came from is somebody else’s responsibility,” he said…

The problem lies with the fact no federal authority — including AUSTRAC — has checked the source of funds used to invest in Australia from China, unless there were obvious concerns about drug trafficking or other serious crimes.

Mr Schmidt said Australian law-enforcement authorities did not have the resources to filter the billions flowing in from China.

This is the reality of living in a globalised world. Even Australia is too small to properly manage that massive wall of money coming out of China.

How do you think Fiji is doing?

Australia’s draft rules on anti-money laundering (AML) affecting real estate were released in 2007, but have been largely ignored by the federal government ever since. I guess no one thought it was too big a deal.

But then a lot of pollies own property in the suburbs where the Chinese are buying, so maybe they’re just happy to see prices rise, and somebody else can deal with it.

Whatever the case, it’s a massive crack in the integrity of the Australian financial system, and through that crack, Chinese businesses, gangs and “Princelings” – the sons of former top politicians – are pouring billions and billions of dollars.

So, should we care?

The money comes in, house prices go up, and if you own a house, you’re better off. We don’t want to kill the golden goose, right?

I roll my eyes when I hear this. Not because it’s exactly wrong, but it’s too simplistic to be right.

The point is that Chinese money, especially dirty money is not distributed evenly around the economy. It will juice some markets and do nothing for others. Think of the divergence between Sydney, Melbourne and the rest of the country.

And that puts a hand-brake on the RBA. They might think we need lower rates, but then they look at certain suburbs in certain cities that are going bananas, and they’re too scared to move.

And while Chinese money going into real estate might be a Golden Goose for property, The Chinese economy itself is Australia’s real Golden Goose. China is by far our biggest export market, and together with its connections to other important Asian markets, it has become the central support in our entire economic future.

Given its importance, do we want to be undermining the Chinese economy by helping criminals and corrupt politicians suck money out of the country?

The long term benefits of building enduring export markets surely outweigh any temporary gains from jazzing up real estate with dirty money.

Canberra can’t hide from this one anymore. Time to get up and do something about it.

How do you believe you can best benefit from this phenomenon?

What's the real estate play based on this trend?

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?

Deposits out of thin air…

September 29, 2015 by Jon Giaan

Chinese buying is changing, but not letting up…

Today’s blog is brought to you by the number 24.

That’s how much the Aussie dollar has depreciated against the Yuan over the past 18 months, in percentage terms.

Why does a 24% fall in the Aussie matter? Let me show you.

Using some round numbers just to make it easier (on my head)…

Let’s imagine you’re a Chinese investor and you bought a Melbourne apartment, off the plan, back in April 2014. Let’s say the apartment cost $444K.

You put down your 10% deposit, leaving the rest til settlement.

Back in April 2014, the exchange rate was 5.86CNY to the dollar. So you’re 44 grand deposit costs you CY$257,840, and you’ve got CY$2,344,000 outstanding.

Now back then a lot of developers were offering extended settlements. Some as long as 18 months!

So you’re in no rush to settle. And you see that the Aussie dollar is falling against the Yuan, which means your liability is falling. And so you let it run, to see how far it goes.

Fast forward 18 months to today and the exchange rate has fallen from 5.86 to 4.47 – a 24% fall.

You can’t delay settlement any longer, so you settle up the remaining $400K. But now that costs you just CY$1,788,000.

And you’ve just found that you’ve saved yourself CY$556,000.

How much is that? Well, a new car costs you about $CY150,000, so it’s about 4 new cars.

Not bad right?

Or put it another way, swing it back into AUD and you’ve got about A$124K.

About three deposits worth…

See where I’m going with this?

Now of course we don’t know where the Chinese are going to put the money they save. But let’s have a look at their options. There’s Chinese real estate, which seems to be one of the strangest bubbles in history with ghost-cities all over the place. Or there’s the Chinese stock market, which is the second strangest bubble in history, now seemingly being propped up by the government itself.

So neither of those seem like great options.

So then there’s off-shore markets. We know Aussie real estate is popular, but what about equities. So far, we haven’t seen a lot of Chinese demand for foreign equities. Chinese households don’t seem to be that sophisticated. (How many Aussies households take an active interest in off-shore markets?) But Chinese households ‘get’ property. And there’s no shortage of agencies helping them into the market.

And for the Chinese, property has a distinct advantage. It is seen, rightly or wrongly, as being a step towards Australian citizenship (especially if you’re putting your child through university.)

It also seems that Chinese investment isn’t so much about “getting into” anything as it is about “getting out of” China. It seems that Chinese money is on the move because they don’t trust where the economy or the Yuan is going in the long-term. Or they don’t trust the government that might just decided to nationalise their wealth. Or they fear that their wealth is going to get caught up in a serious corruption crackdown that’s been in effect since 2012.

Whatever the case, if it’s a “getting out of” story, then you don’t really care what the price is. You’ve got a set amount you need to get out of the country. If the price falls, you just buy more.

You hearing me? You just buy more.

And so that’s why I think we just haven’t heard the end of the Chinese story, or the influence it’s had on the Australian market.

That said, it’s not entirely a one-way street. The 18-month settlement contracts seem to be a thing of the past. I’m now hearing stories of 30-day settlements, as things look a little shakier back home.

The recent government crack-down on illegal foreign purchases of existing property might also put a bit of a brake on things.

There are currently over 500 cases under review, and there’s an amnesty in effect until November.

I suspect that most of these people had no idea they were breaking the law. They were probably just following the advice of their investment advisers. My bet is that they’ll pull themselves into line, but the demand will remain. Perhaps we might see more switching from existing to new property.

And that won’t be a bad thing.

The Chinese government also seems to be cranking up their anti-corruption drive, and that might slow the flow of funds out of China a little.

But I suspect that if you’re high enough up the tree to seriously game the political system in your favour, you’re probably more a trophy-mansion type buyer than a neat-little 3-bedder buyer. So the impact there might be contained to the high-end of town.

Finally, the falling Yuan does mean that some buyers will be sitting on paper loses right now. If you settled back in April 2014, then you’re down 24% on the exchange rate, up 10-20% on capital gains, so probably down about 10% over-all.

I guess some Chinese buyers won’t be loving that.

But I also reckon many of them wouldn’t care. As I said, the point was to get money out, and they’ve done that. And if they’re investing for the long term, and they can be flexible about when (or even if) they need to exit, then they can just wait for a favourable exchange rate and cash out then.

I don’t think it’s going to put too many Chinese buyers off.

So on balance, I think Chinese money is still a strong net-positive for Aussie property, though it will be interesting to watch how political movements here and in China shape the flow and segment-destination of that money.

What do you reckon?

Will the Chinese buyer underpin the Australian property market for a while?

How do you think you can profit from this once-in-a-century Chinese buying trend?

NO B.S. FRIDAY: Donald, I love you too…

September 25, 2015 by Jon Giaan

Exciting times!

Last week I wrote about Malcolm and my platonic love for him. Now it’s time to turn our attention to the Don.

From having zero interest in the political landscape other than being a mad fan of House of Cards (killer show by the way)… Now I’m a crazy fan of the US Presidential race.

Donald Trump’s tilt at the Republican nomination and the US presidency is giving everything a shake and I can’t stop watching.

Republicans can’t handle his brash, bombastic style. Democrats hate the idea of rich people in power. Ferals hate his clean shiny suits (of is it just that he’s clean?). The Occupy Wall St Movement hates him because he actually owns a fair chunk of Wall Street.

Everyone hates him. Everyone, that is, except the voting public. He’s leading the race for the Republican nomination and my bet is that’s he’s going all the way to the White House.

And no one understands why. No one can explain why this rude, arrogant big-haired buffoon is so popular.

But I know why.

Want to know the secret..?

Trump is a genius.

Sounds ridiculous right? But hear me out.

It might sound strange to lump Trump in the same basket with DaVinci, Gallileo and Elton John. But Trump does have a talent that approaches genius.

And that talent is negotiation.

Remember Trump literally wrote the book on Negotiation. It’s called ‘The Art of the Deal.’ He is a master of persuasion.

And if you look at his presidential run as a negotiation rather than a campaign, then his mastery becomes obvious. Let me spell it out for you.

The first point is on Trump’s character and style. People wondered if he would change his “big buffoon” style for politics. He didn’t. He didn’t budge an inch.

Why not? Especially when literally everyone in the media was saying that the OTT Trump style wouldn’t fly with the voting public..?

Because Trump knows that it doesn’t matter. If people think he’s a fool, great. Let them. It’s a classic play in negotiation. Under-sell yourself and the other party let’s their guard down. They stop resisting you and start humouring you.

But a good sales-person has you there. Once you start humouring them, you’re listening. Once you’re listening you find there’s actually a lot of things you agree with. Actually, maybe I do need a new dishwasher.

And once you agree with someone, you tend to like them. Suddenly “rude and obnoxious” becomes “honest and authentic”. 250 million Americans are currently in the middle of this transition.

And because Trump has spent a lifetime cultivating an over the top style, he can go to town with it. He can say whatever he wants, create media story after media story, and it’s all part of his rude-to-honest transition.

And that’s why his ‘style’ hasn’t changed. It’s central to Trumps success. It always has been.

And while certain aspects of Trump’s style are funny, his brand association with success, wealth and power are rock solid. They’re untouchable. The Trump brand has “winner” written all over it. That has been years in the making.

Think about the reality TV show, ‘The Apprentice”. In this competition, waning-star celebrities had to squabble, connive and even beg for the right to what? To be Trump’s apprentice.

The most ‘successful’ and popular people in America had to fight to be Trump’s lackey? That’s genius. In the American public’s mind, Trump is already the boss. He’s the boss of all bosses.

‘The Apprentice’ wasn’t an accident.

And a lot of people also think he doesn’t have the smarts to be President. But right now he’s schooling us in media manipulation. He is incredibly quick on his feet… if you know what to look for.

For example, someone tried to embarrass him by asking him if he knew who the leader of Hamas was, or the leader of Hezbollah was. It was a blunt attempt to make him look stupid.

Most politicians would get defensive and try to fudge it.

Not Trump.

I’ll know when I need to know. And when I do I’ll know more about it that you do, and believe me, it won’t take long.

Boom.

This is the CEO answer. The CEO doesn’t need to know everything. That’s not his job. His job is to lead and make decisions.

Suddenly the only people looking down at Trump are the people who actually know who the leaders of Hamas and Hezbollah are. And how many of them do you think there are in America? 5? Everyone else just think’s he’s the boss.

Or what about this one? Someone asked Trump what he thought about the Pope’s comments that corruption was endemic in capitalism.

Trump saw this for the trap that it was. Either he disagrees with the Pope, and there’s no points there, or how says there’s a problem with capitalism – the system that made guys like him rich. It’s lose / lose.

And so what does he do?

He says, “What I would tell the pope is that ISIS is coming to get him, and they have plans to take the Vatican.”

Wow.

It doesn’t matter that this has almost nothing to do with the question. The image of ISIS taking the Vatican is so vivid, so exciting, that’s it’s going to be the only thing to stick in people’s minds. At the same time, it says Trump is alert to the dangers. He’s on to it.

Boss answer, Donald.

And then what did he do yesterday? He says he’s boycotting Fox news.

Fox news! How does a Republican candidate say he’s not going to go on Fox? Who has the balls to do that?

Trump does.

He knows that he’s a media machine. And if Fox won’t toe the line, they’re cut off.

And even if you don’t like him, what do you think about someone with the balls and power to boss Fox News around?

Total boss.

The Trump strategy is so deep that most people don’t know what’s happening.

Everyone thought the Trump run was going to be a joke. That he would stumble from one gaff to the next. But as far as I can see, he hasn’t stumbled once. And the longer it goes on, the more that people find they actually agree with Trump on a few things.

Actually, everything he says makes sense.

Actually, I really quite like his honest and authentic style.

Actually, Go The Donald!!

I have no idea if President Trump will be good for America or the world. It could be a disaster.

But right now, Trump is giving us a master-class in negotiation and persuasion.

And the most amazing thing about it? Almost nobody realises.

That’s genius.

Anyone else falling in love with the Donald?

You reckon Donald will go all the way?

Do you love him or hate him?

Secret agenda in the 24-floor limit

September 16, 2015 by Jon Giaan

Planning restrictions in Melbourne aimed at preserving the city’s “character” may hide a secret agenda.

Some very interesting developments at the end of last week, with the Victorian government closing the door to new super-high towers in the CBD.

It’s thrown a stone into a hornet’s nest, with the new restrictions coming in at midnight, with no consultation with the development industry.

The government’s saying their ‘shock and awe’ strategy was aimed at making sure they didn’t get flooded with applications between the announcement and the changes coming into effect.

Under the new restrictions, a developer who builds to the borders of their block will now be restricted to 24-floors. That’s barely up to the knees of some of the super-towers we’ve seen go up in recent times.

If they allow some space on the block, they can go higher.

So the restrictions should result in less height, more green space, or both.

Planning Minister Richard Wynne says it’s about ‘character’. Melbourne has gone a bit ballistic in recent years with high-rise development, and ‘risked losing it’s character’ if it wasn’t careful.

I’d have to think he’s right. The framework was never in place to deal with the boom of apartments we’ve had (in part driven by foreign investors). As a result, Melbourne’s super-towers are “higher (and more dense) than anything New York or Hong Kong is approving.” – says Roz Hansen – author of Plan Melbourne.

So the character of the city is changing. We’re jumping New York and Hong Kong into… what? What’s on the other side of those cities? Nothing. Just Melbourne and a super-developed CBD.

Of course the developers are fuming. If you paid a large sum of money on the assumption that you could build to the moon (of flog it on to a Chinese developer who would), then you’ve likely paid far too much.

But Wynne says he doesn’t have much sympathy for those developers looking to “max-out sites with little regard for the public realm.”

But when I’m reading this, I’m not hearing anything about what affect this will have on the property market.

And the move is framed in terms of “city character”, but I wonder if there’s a secret agenda here – something aimed at manipulating the market.

Because it is true that Melbourne has brought a huge volume of apartment stock on line in the past couple of years.

Recently we’ve been building about 60,000 apartments a year. That’s about twice the average level of the past ten years.

And it’s created a massive surge in housing stock.

But a lot of this explosion has not been driven to meet resident needs, but to fit into overseas investors portfolios.

The question of who would live in these places – many of them shoeboxes – seemed to be irrelevant. Get something that looked good on paper and flog it off sight-unseen at some bonanza day on the Chinese mainland.

The end result is a growing over-supply, verging on glut.

And that over-supply is going to squash rents and pummel prices.

BIS Shrapnel expect that the market will shift into oversupply sometime this year, but with so many super-towers already in train, the situation’s only going to get worse.

By 2016/17 there will be “significant excess,” says BIS Shrapnel Managing Director Robert Mellor.

But wait, there’s more.

“This will get worse in 2017/2018 and towards the end of 2018, when investors will start to struggle to get sufficient numbers of tenants.”

“It’s possible we’ll see a 15 to 20 per cent correction any time over the next year to 2018/2019”.

A twenty percent correction might not sound like much if we’re talking share prices, but in property, that’s huge.

Buyers agency Wakelin Property Advisory director Paul Nugent also expects a drop in prices of “at least 10 per cent”.

“It’ll take a generation until things settle down to a point where the apartments have a genuine value.”

“Get out as soon as possible, otherwise it will take 10 to 15 years before you get your money back.”

That may be a touch gloomy, but it gives you a sense for the range of opinions out there.

And we could argue over the magnitude and timing of any movements, but you have to think the dynamic is there – we’ve created an over-supply of apartments and that’s going to have an impact on prices.

And a “funding trap” raises the possibility that any consolidation in prices could easily run into a rout.

CoreLogic reckon that there are 90,000 apartments being constructed in Australia that have been sold off the plan but not yet settled. The purchasers of about 20 per cent of these, or 18,000, have paid a deposit of just 10 per cent of the full purchase price.

A tighter credit environment is already making loans more expensive and difficult to get. What happens when rents are falling and valuations are coming in under the purchase price?

I wouldn’t be surprised if many investors just cut their losses and walked away.

But developers will need to sell, and so they’ll be putting those units back on the market – at discount prices, just as everybody rushes for the exits. That would hammer prices even more.

Foreign buyers who bought sight-unseen will probably get burnt, but that will probably mean that any fall-out will be contained to this sector. Still, it doesn’t take much. One lender who’s loaded up too much on apartments. A few big developers going under….

In a high-speed economy, any stumble can be deadly.

And so I wonder if this is the secret agenda here with these restrictions. It might be aimed at putting a brake on the over-supply of units, and the risk that it turns into a serious crash in a few years time.

You don’t want to have that kind of nonsense going on in you CBD.

What do you think? Did Wynne make the right call?

Buyer Beware!

June 23, 2015 by Jon Giaan

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Building standards a not being followed, and a major incident is ‘inevitable’. Here’s hoping nobody dies.

I’m a property bull…full stop.

Currently I’ve got about $8 – $10 million of townhouse development in the pipeline… 2 and 3 bedroom townhouses in a blue-chip Melbourne area.

But here’s a property style that I’ll NEVER buy… and I’m constantly warning you to stay well clear of. It’s the 1-bedroom / 1-bathroom chicken coop.

A few weeks ago I wrote about how dodgy building practices were responsible for the fire that tore up the Lacrosse Building in Melbourne.

Turns out the cheap cladding that was used – which was not up to Australian standards – was highly flammable.

Not what you want from apartment cladding.

From there, one cigarette left unattended on a balcony caused a major fire. It tore up the cladding and jumped 13 floors in 13 minutes.

Luckily, no one was killed.

The problem seems to be that new buildings, especially ones being built by off-shore developers, are not following the codes they’re supposed to. A drive to lower costs and boost profits has meant that developers have gone for the cheaper, weaker, more flammable material options.

The codes are in place, but they’re not being monitored or enforced.

A now a report from Engineers Australia says that 85% of strata units in NSW were defective upon completion.

85% !?!?

That’s not a handful of rouge operators. That’s almost every unit building in the state!

They’re conclusion is that “the building system in New South Wales has broken down”.

No kidding.

They also reckon that a major fire in a high-rise Sydney apartment is “inevitable.”

Let’s hope it’s not home to someone you love.

But everyone is loved by someone, so let’s hope it never happens at all. But it’s not looking good.

It’s scary stuff.

And one of the report's authors, engineer Robert Hart, said the situation was only going to get worse.

“There are something like 20,000 new units coming on stream over the next few years, and we know they are being done by developers who are totally inexperienced and [have] no real interest in anything other than making money and this is causing major concerns.”

“There is a raft of issues. It is occurring daily but no-one is inspecting this stuff.

“This is what is going to cause a major incident at some point.

“There are some very clever fire engineers in this city and they have the most appalling stories.”

He said the major problems are

Fire separation between apartments;
Almost no fire gaps installed correctly;
Fire dampers that prevent the spread of smoke are very seldom installed correctly;
Electrical installations not properly done.

The Master Builders Association has agreed there are pockets of the industry that had problems.

(Can 85% of a market be a ‘pocket’?)

But MBA executive director Brian Seidler said that it’s not just about developers. Architects also made mistakes and clients made requests that did not comply with all building codes.

“Australia is being inundated with non-conforming products from countries where they don't have any standards yet clients specify that they be put in place.”

But this is exactly the kind of soil where tragedies thrive. No one knows what’s going on, and no one’s policing the rules.

It’s a recipe for disaster.

In Australia, we still don’t have an apartment mentality. We’re still living in the detached quarter acre block 60s.

But from here on, it’s all going to be about apartments. Last year we built more apartments than houses for the first time ever. There’s no going back now.

We need to get used to that reality.

And we can’t say that we didn’t see it coming.

We’ve been driving ‘urban consolidation’ for decades. Our planning policies try to limit urban sprawl and encourage higher densities closer in.

And nothing builds density like apartment towers.

And so the planning framework was there.

And for a long time, progress was slow. Australian developers maybe just didn’t believe that Aussies wanted to live in apartment towers.

But Asian developers didn’t have such a cultural cringe about apartment living.

And they looked at the economics of our housing market. Massive population growth projected over the coming decades. An existing shortage of housing. Land on a drip-feed supply. Planning policies promoting high-rise.

The only way is up. Literally. The only realistic vision for our cities was to grow up – into higher and higher towers.

This is the reality for ‘international’ cities. Sydney and Melbourne can’t escape that. And neither can Brisbane or Perth… The other cities have a little longer to prepare.

And so with development opportunities drying up at home, cashed-up Asian developers saw the Australian market as a gold-mine.

Boom. Rush time.

But it caught us napping. Australian developers were used to playing by the rules. They definately didn’t want an incident like a major fire on their hands.

But the market changed. Suddenly there was a rush of new developers.

But if there’s a fire in a building from a Malaysian developer, how are we going to hold them to account? They’ll just fold up the paper company they had in place in Australia, and disappear.

If there’s a major incident, Australia will be left footing the bill for compensation. Australia will be left to console the victims’ families.

And right now, if I were an investor in one of these apartments, I’d be pretty nervous.

The Engineers Australia report noted that NSW insurance companies reported repair costs of an additional 27% over other states.

It won’t be long til insurance companies wise up to this. Soon, there’ll be premiums for apartment buildings just so they can protect themselves.

And maybe they just won’t pay claims where it can be easily proved that codes weren’t followed?

And if there is a major incident, what’s going to happen to the rental market. Even the best real-estate agents will have trouble marketing that one.

‘Well appointed unit in widely known death-trap for rent. All offers considered.’

There’s nothing to love about this story. Developers are walking away with the money. Investors are left holding the baby, and worst of all, lives are genuinely at risk.

The government needs to get on top of this one fast.

How do we fix this mess?

Would you invest in apartment towers?