Booms are made to bust

The Australian property markets are really heating up and boom time levels of capital growth are causing many to question whether this can continue. In fact there are some warning signs that the boom will bust.

Only last week Reserve Bank Governor Glenn Stevens sent shock waves into the market when he warned investors and home owners that interest rates are going up and that property investment is dangerous, saying: ”I think it is a mistake to assume that a risk-less, easy, guaranteed way to prosperity is just to be leveraged up into property. You know it isn’t going to be that easy”.
And I agree with him.

So what do I think about the market going bust?

Yes it will… but not for a few years yet. What will that look like? I must be honest and say I have no idea – it depends how strong this boom is, but we do know the market moves in cycles.

Before I explain my thoughts further, let’s put things into context by looking at the statistics provided by Residex.

If our property markets, other than Perth, have had such strong property growth, why did some investors not fair well?

What these figures don’t really show is that most of our capital cities have a two-speed market. Some areas are out performing and other areas have minimal growth. That’s how averages are made up.

The news reports of record auction clearances, the long queues at open for inspections and properties being snapped up within days of them coming onto the market, relate to the inner and more affluent suburbs, where there is a shortage of supply and strong demand from owner occupiers and investors.

On the other hand the story is very different in many of the outer “blue collar worker” and first home owner suburbs where rising prices and higher interest rates have subdued the markets.

Why are the inner and middle ring suburbs growing so strongly?

Firstly our population is growing at record levels, with over 1,700 people moving into Melbourne each week, with slightly less but still record numbers moving to Sydney and Brisbane. Remember… all these people need to rent or buy a home.
At the same time there is a shortage of properties in the areas where most of these people want to live – close to their work, close to amenities, the CBD, water, schools.

And this shortfall is getting worse as development of new apartments and townhouses has almost come to a dead stop because of constrained finance for developers. There are various estimates of how severe this shortage is, some from industry bodies with a vested interest, but this year Australia will probably start building about 165,000 dwellings yet the estimated underlying demand will be around 200,000.

The ongoing gap between demand and supply is likely to keep increasing for a few years yet as all levels of government, the building industry and the banks struggle to keep up with Australia’s world-beating population growth. Only recently the Bureau of Statistics confirmed that Australia’s population grew 2.1% last year, almost double the world average of 1.1%.

Of course this undersupply is reflected in our continuing low vacancy rates, higher rents and rising property prices.

So back to my opening comments – why is success through investing not as easy as many would hope in the middle of this boom? Why are some investors doing well and others struggling?

Let me explain it this way…

Over the last month I conducted a series of seminars around Australia in front of almost 2,000 property investors and had the pleasure of catching up with some old friends and making some new acquaintances. (By the way, I have one more seminar coming up in Perth on May 1. If you live in Western Australia and haven’t booked in please click here to find out all the details and reserve your place.)

As I chatted with these investors there were two very different underlying themes.

Some who bought investment properties over the last year or two did very well, with their properties increasing significantly in value. However others who bought properties at the same time and in the same city, have not faired very well at all.

This just confirms what Glenn Stevens said – even in these boom times investing in property is no guarantee to success.

The second group either bought the wrong type of property or in the wrong location.

There is nothing new about this… some areas will always outperform the market and certain properties will always outperform the market.

The obvious question is… why have house and unit prices risen so strongly in the inner and middle ring suburbs over the last 12 months?

Well… surprisingly it is not because of investor activity, because when you look at finance approval figures they show that the number of loans taken out by investors is not as high this time round as they were at the same stage in previous property cycles.

The reason prices are moving so high is mainly from owner occupiers upgrading their homes. The new property cycle started last year with the stimulus of the first home owners boost, which some have described as a second or third home vendor’s boost, because many first home buyers used the extra $7,000 to borrow another $30-40,000 that they then handed over to the sellers who jacked up the price of their houses.

Armed with a bigger payout than they expected, these vendors then came back in the market as upgraders looked for homes in our more affluent suburbs. At the same time relaxed laws have allowed overseas buyers to purchase established properties when previously they were restricted in only buying new properties. Then of course there are the savvy property investors who came back into the market over the last year or so trying to get ahead of the pack.

In previous property cycles many of these buyers were attracted to new or off the plan projects, but there are very few of these types of properties on the market at present, most of these buyers are vying for the same established properties in the better suburbs of our capital cities.

Having said this, I’ve found investors are getting themselves into trouble in one of three ways:

1. Buying the wrong property – the market is being selective and not all properties are going up in value at the same rate.
2. Paying too much – sure the market is rising and there are few bargains to be found today, at least not if you are looking for the right property, but that doesn’t mean you should overpay. If you do, you are giving away some capital growth, as well as paying more stamp duty and mortgage interest.
3. Not having a finance strategy to cope with a rising interest arte environment – do you have a finance buffer to see you through?
One more thing: when will the boom bust?

As I said I’m not sure, but the same fundamentals that have driven up property values over the last year are likely to keep driving up prices and rentals for some time to come.

This is good news for home owners and property investors, but not for potential home buyers. They are being hit by a double whammy! Rising prices and interest rates are making housing less affordable and at the same time rising rents is making saving for a deposit harder.

Putting all this together we have a volatile mix creating a mini boom. But as Glenn Stevens suggests – investment success is not assured.

The take home lesson from this blog is that some of us will do very well out of the property boom. It will be those who buy the right type of property – one with an element of scarcity to ensure it will be in continual strong demand, in an area that has always outperformed the averages and bought for the right price.

Those successful investors will also have a robust finance strategy in place to see them through the ups and downs the next few years will bring and hold on to their properties when the market eventually slows down, as it inevitably will.

How have your property investments faired over the last year or two? Tell us by leaving your comments below.

Michael Yardney is the director of Metropole Property Investment Strategists, a best-selling author and one of Australia’s leading experts in wealth creation through property. For more information about Michael visit www.metropole.com.au and www.PropertyUpdate.com.au.