At
a recent business seminar I heard an industry visionary make the
following statement: " When the tide is in everyone looks good,
when it goes out, then you can see who is not wearing shorts". He
was referring to the cycle of economic ups and downs and went on
to speak about how he nearly went bankrupt during the recession
the then Prime Minister said we had to have. More recently he floated
his national organisation on the stock market and made millions
of dollars for himself and his stakeholders. The implication of
his comments are clear - when things are booming virtually everyone
can be successful; however, when things are tough, a dollar may
still be made but it is harder and often needs an extraordinary
set of circumstances to overcome the adverse conditions.
In
a lot of ways the real estate market also has the same attributes;
when it's booming virtually everyone can be successful, albeit to
varying degrees. Equally when times are tough there is a very real
possibility of losing money on real estate or running the risk of
not keeping pace with the benefits that can flow from other types
of investment. It is important to recognise that, just as King Canute
found, the tide will come in regularly, and generally when expected.
Therefore, by using the tide principle with property we have a consistent
and reliable method of predicting the residential property market.
The
one major difference that property values have in these boom/bust
or tide in/tide out situations is that the tide never really does
go right out again. Whilst there may be a minor ebb flow the low
tide level does not reach the previous low tide level. What we get
is a flood tide, a small and typically short duration ebb flow,
then another flood tide to an even greater level. The pattern continues
with subsequent strong and weak levels of the cycle being at higher
levels than the preceding cycle. The chart from BIS Shrapnel shows
the rising levels of the peaks and lows and the consistently increasing
overall level as time goes on. Note also that this chart is corrected
for CPI increases so we are seeing a 'real' increase in property
values.
Indeed
it is the consistently increasing levels that have prompted some
investment advisors to recommend putting your money in property
and waiting twenty years because over time the peaks and troughs
will even out and the investor will benefit from this overall consistent
increase in value. We recognise that this strategy has worked and
will continue to work, however it has two flaws:
- It
takes too long, you can achieve financial independence quicker.
-
It does not maximise the opportunities you are being presented
with.
A
colleague I worked with in 1992, since retired and lowering his
golf handicap, explained to me why he was living in a rented house.
"We sold our last house in 1989 for a good profit, and we could
now buy it back for much less money. What we'll do is buy another
house next year at the bottom of the market and sell it in about
5 years time when the cycle is right to make money again".
It
was this conversation, our subsequent research and then our joyfully
successful experience since then, that have made us become evangelists
for using the concept of timing and short term property investment
as a simple and resilient method to achieve financial independence.
Analysing
the BIS Shrapnel Chart of property values over time you will note
the dramatic peaks and inclines when a boom occurs, particularly
in the larger cities. Consider also that this data represents all
properties including the ordinary, average and chronically ugly
liability type properties. The good properties show even better
rises to compensate for the ordinary ones and this is where the
opportunities for quick and large capital gain occur.
So
you need to have bought one or more of the good properties, selected
on the basis of meeting the vital attribute tests that constitute
a home with mass market appeal. Combine this with the concept of
timing depicted in the chart and you stand a greater chance of being
amongst the group that will exhibit even more impressive rates of
rising than as shown in the graph. The message is simple, buy at
the right time within the cycle and buy a high potential property
to reap the big rewards.
How
can you tell what is currently happening and what will happen soon?
A.
Scenario A. Things have already commenced in a consistent trend
There
are signs that indicate the state of the market, these are the business
indexes and the journalistic hype associated with them that are
the major clues, apart from your own research in looking at properties.
We are not talking about trend reversals here which are harder to
predict, we are looking for corroborating evidence that the market
is either going up or down. Our experience is that these trends
are not hard to see and validate. Examples are higher auction clearing
rates and high numbers of properties that have be been on sold within
12 months at higher prices.
B.
Scenario B. Things are like to change soon.
The
inter relationships that exist between the various Economic measures
work to assist us here, particularly those related measures where
consistently one wanes while another gains momentum. In a manner
similar to the seasons there is a general progression of economic
measures such as Inflation, Share Prices and Interest Rates that
serve as an early indicator of what phase the Property Market is
in.
When
Share Prices are in the cellar then Property prices are in the Penthouse.
Most
of the large investment organisations will vary their investment
portfolios due to these trends. History tells us the Share Market
and Property are mutually exclusive, that is they rise and plateau
or fall in direct opposite or inverse correlation to each other.
Accordingly, if a property investor does some superficial tracking
of stocks and shares then he or she will be equipped with a barometer
of when its a buyers market, i.e. when the share market is strong
or a sellers market when the share market is weak.
Using
historical trends as a basis of prediction is a method borrowed
from the long term weather forecasters who obstensively run probability
statistics on the likelihood of prevailing conditions based on what
has happened in the past. The previous charts depict a regular and
cyclical rise then plateau in median property prices over the last
fifty years. The pattern emerges that every ten years or so we can
reasonably expect some significant movement upwards in property
prices.
Possibly
the most useful diagram of economic cycles is one that we believe
was first published by the London School of Economics shortly after
the Great Depression of the 1930s. It is known as the Economic Clock
and it takes us through a cycle of twelve different economic indicators
such as interest rates and unemployment. This then can be used to
determine whether it is time to get into real estate or get out
and contemplate the share market, bunker down with fixed interest
in anticipation of a recession. By following the sequence of changes
in these economic indicators we can predict with some confidence
that after commodity prices have risen and the share market has
peaked it is time to re-enter the property market. Similarly when
commodity prices begin to drop then it is a good time to sell.
Figure:
The Economic Clock
Economists
have noted the occurrence of a sustained rise in property rental
prices as a barometer for the impending onset of a Property Boom.
This is also congruent with the rising commodity prices pre-empting
an economic hyacinth within the Economic Clock sequence. Consider
what is going on in the Property Market when rental prices go up
and consequently we get a property Boom. There are two major driving
influences at work here;
a.
Tenants will consider buying when rents get higher and hence into
the property marketplace
b.
Landlords will look to get more action when rents are higher so
will buy additional houses
The
overall effect of both the above factors is that there will be more
buyers in the market, demand will outstrip supply and prices will
go up.
There
is another factor that is worth tracking as it will give you an
indication of the cycle and whether you should be buying or selling.
This is the cost of building products for a median house, the aggregate
of this equates to the replacement cost. This will also show cyclical
movement. The costs of building materials, plant and labour required
to build a typical house in Australia is tracked by the Cordell
Housing Index Price (CHIP). By comparing the current median house
values with the replacement cost median values in a chart as depicted
below zones will become apparent when you should be buying or selling.
The analogy is to how a farmer determines the time to sow (buy)
and the time when it is appropriate to harvest (sell).
Consider
also the interstate buying opportunities that are apparent in this
history of rising and plateauing property prices. What I'm referring
to here is that in addition to the very regular cycles of Sydney
and Melbourne prices there is also a similar trend for Brisbane
and other state capital' property prices in a copy cat or ripple
effect - Brisbane prices have emulated the Sydney property booms
some eighteen months to two years later albeit with a less dramatic
rise. Conceivably an astute property investor could take advantage
of the Sydney or Melbourne property boom, subsequently cash in and
invest in Brisbane, Adelaide, Canberra or Perth for a double whammy.
So
the property market is one of ebbs and flows, rises and plateaus
and therefore times when the cycles will produce more capital gains.
Spend some time reviewing the well-published leading indicators
such as interest rates, inflation, share market prices and rents.
Listen and watch the media's judgement of what the market is doing
through auction clearing rates and resales. This will allow you
to time your run just as a surfer does when the surfable wave appears.
©
Australian Property Investor magazine. Reprinted with permission.
