How to take advantage of the new property cycle

One of the lessons coming out of the last few years is that property downturns never last, but let’s not forget that neither do property booms.

So how can investors make the most of this new property cycle, which on past record may only last a few years?

The answer is simple.

Strategic property investors will take advantage of this property cycle to build their asset base and will use the same investment strategy that has worked well for the successful property investors in the past, which is to invest in well-located residential real estate for long-term capital growth.

Based on past performance, and there is no reason to think it will be any different this cycle, strong capital growth will always occur in the inner suburbs of our major capital cities with the value of many properties showing significant real (above inflation) growth.

Now, I know every time I say this, a whole group of readers disagree and bring up counter arguments such as: “No this can’t keep happening, property prices can’t just keep going up!” or “We’re in a property bubble and prices will drop.” or “What about affordability?”

Why am I so certain capital city property prices will keep increasing?

Well…it’s all to do with the value of the land, which is related to the supply and demand for that land.

John Edwards, founder of property research firm Residex, explained it well in an article many years ago. It went something like this….

Imagine someone discovered a new island just off the coast of northern Queensland and a number of smart entrepreneurs decided to set up business there because land was cheap as no one else really wanted to live or work there.

Over time people would want to move to the island because there were jobs available there. These new residents would need to build houses.

Remember… it was just a small island, so after a few years the island would be full and there would be no room to build more houses. The island was now thriving and more people wanted to move and live there, but there would be no more land left to build houses.

What could they do?

With no vacant land left, they could only buy a piece of land that was already occupied. They would have to pay the people already living there for the privilege of moving to that island, and if there were lots of people wanting to move to the island those willing to pay the highest price would get to live there.

The more people that wanted to live on that island, the higher the cost of housing would be. This causes capital growth.

In short, capital growth is highest in an area where there is strong demand for property and the land is scarce. 

Now let’s put this into perspective…

With Australia’s population of 23 million growing at our present rate of 1.8% per annum this means it will grow by around 10%, being 2.3 million over the next five years. And most of these are coming to our four big capital cities.

If you look at Melbourne, Sydney Brisbane and Perth, you can instantly see why house prices grow faster there than they do in many parts of regional Australia.

Sydney is landlocked because of its geographic boundaries. In Melbourne, the perimeters of the city can’t expand further because of town planning boundaries. And while there is still quite a bit of land available for new housing in south-east Queensland, as most people want to live near Brisbane or near the water, much of the most sought-after land has been taken.

One thing to remember about scarcity is most people want to live in the most desirable locations. In Melbourne it is the inner and south-east suburbs and near the water. In Sydney the most desirable areas are in the eastern suburbs, the lower north shore, the inner west and suburbs near the water. In Brisbane the tendency is again to want to like to live near the CBD or near the water.

The property cycle is moving on

Our new property cycle bottomed in the middle of last year and since then the markets in Sydney, Melbourne and Perth have risen strongly as show in the following graph from Dr Andrew Wilson of Australian Property Monitors.

These markets have been stimulated by increasing consumer confidence, low interest rates and the media beating up a little frenzy.

As our economy keeps improving, it will be the most desirable and most sought-after areas that grow most in value. These are usually the more affluent areas as people living in these areas can usually afford to upgrade or improve their homes.

What happens to those people who cannot afford to buy in the most desirable areas?

They buy in the next most desirable suburbs. This has been well documented in previous property cycles. Prices will start to increase in the more affluent and desirable areas and then start to ripple outwards to adjoining suburbs.

How can investors take advantage of this knowledge?

Firstly, understand the big picture.

We are in the upturn stage of the cycle in many of our capital cities. In Sydney, Melbourne and Perth, home prices have retraced their falls of 2011 and have now entered the expansionary stage of the cycle. And just in case you’re wondering – NO we’re not in a property bubble!

Next, become an expert in the suburbs where prices are going to grow in value.

Get to know those areas so you can pick great investment opportunities in those suburbs near the city, near the water or in these more desirable suburbs.

If you buy the right property in those areas you are likely to achieve excellent capital growth in the next few years.

What is the right type of property?

It’s one bought below its intrinsic value, in an area of proven strong capital growth and one where the demographic will be able to afford to, and in fact be prepared to, pay a premium to live.

Then, in turn, the suburbs one ring further out will start to make good investment sense. It is only near the end of the cycle that the outer suburbs – those that have traditionally been more affordable and first homeowner areas – get good capital growth.

This spread of capital growth from the inner to the outer suburbs is called the ripple effect and, of course, there will always be exceptions to this general rule.

So let’s clarify…

It’s been said that property investment is a bit like the game of chess – we all have the same pieces on the board – but those that can think three or four steps ahead are the ones that win.

That couldn’t ring more true today than any time in the last 20 years. Positioning yourself to be where the new property wave is going to create winners is critical today because during this new property cycle the winners are going to win big, while others will be left on the sidelines.

The surge in property prices is likely to be specific in nature, not general. If you find yourself standing in the wrong spot, it may just pass you by. And we really don’t want that to happen – do we?

Michael Yardney is a director of Metropole Property Strategists, who create wealth for their clients through independent, unbiased property advice and advocacy. Subscribe to his Property Update blog.