Like all TV Economists, we can say we know exactly what real estate prices and the market will do in the future. And when the market proves us wrong, like all TV Economists we will blame ‘unforseen, outside events’. We will also hope no one remembers what we said. These confidence predictions that most real estate commentators seem most comfortable making about which way the market will go next week, next quarter and next year is one of the more entertaining features of our industry. For every prediction there are those that stringently reject it.

The thing about all market predictions is even if you get it wrong, wait long enough, the market will change and then you can claim to have been one of the first to see it coming. This market has been in constant growth for close to 20 years. Trying to call the top of the market is impossible, but it’s what everyone wants to know.

But first, because you have to decide if I’m right or wrong, here’s some of my thoughts on what will prevent the market from turning.

  • Interest rates, realistically, have little chance of doing anything other than dropping. If you think they won’t drop further, you have far more confidence in the economy both here and worldwide than I do. Interest rates can turn a market off but the Reserve Bank has a lot more to worry about than Sydney home prices. The boom in values isn’t as big as you might think. Over the last 10 years the growth has really only averaged 4.5% per annum. The growth has been a lot higher in the last few years admittedly but over the longer term, it’s no where near the amazing growth everyone is talking about. So the idea of the market over shooting and the economic equivalent of gravity saying ‘what goes up must come down’ may not be as strong as some would have you believe.
  • What could and probably will impact on property prices is reasonably well known and understood. Changes to taxation that affect the financial affordability of investment property would have a big effect. People keep talking about the need to do something about negative gearing. The Federal Government has budgetary issues that we all have to face up to at some stage. Negative gearing is the ability to claim losses on a property investment against income earned elsewhere. I witnessed the change to this rule back when Keating was Treasurer. If you had a property that made a tax loss, then you could not claim that loss against your personal income. You had to wait until the property made a profit and claim the losses against it then. This could typically take 5-7 years. It stopped a lot of people buying investment property and forced rents up. If it were to happen chances are they would probably exempt new property. If they didn’t, building would come to a halt and things would go very pear shaped, much like last time. I can’t see negative gearing changes happening in the next year, but in 3 years, yes it’s probable. And it won’t be done to control the property market, it will be done to help the budget deficit. When it does happen, expect price falls, sorry, ‘corrections’. Sounds so much better.
  • Superannuation changes could also make borrowing to buy an investment residential property less attractive and more complicated, as if it wasn’t already.
  • World and Australian economics can’t be avoided. There is a saying about bankruptcy. It happens slowly for quite a while, then quite suddenly. Europe is printing money, Japan is printing money. There are negative interest rates making the repayment of loans less than the amount borrowed. Is there anyone who understands all this and can see how things will return to normal? When the US started printing money economists predicted rampant inflation. It didn’t happen. Why? People and businesses didn’t race off buying things and spending money wildly. Do you think people are spending money wildly on property? I’ve seen 100% increase in property prices in a 3 year period. That was back in the 80’s. This market isn’t like that.
  • The bigger issue and a more likely trigger for the market peaking is unemployment. In the Australian states and regions that are seeing price falls, unemployment is growing. Actually it’s not the numbers of unemployed that are the problem, it’s the perception that unemployment might happen to you or to the person who you expect to sell your property to. When the perception is that people can’t or won’t borrow to buy a home, that’s when everyone gets cautious. They don’t bid so strongly, they get scared they are paying too much, they decide to wait and see.

So now the predictions

In the immediate future, same old, same old. The market value will continue to climb. Not dramatically but it doesn’t seem that there is anything likely to cause a turn off that will happen in the coming year. Interest rates, NSW employment especially with the State Government spending on infrastructure, overseas money coming in buying new property and so on seems pretty certain to remain constant. This could and probably will go on for the next year, maybe two. Longer term, it will change.

Taxation changes, lack of confidence and rent returns falling off because of an over supply of investment housing (more on that later) will add up to just too much for the market to carry. And this is what a real estate train crash looks like. Good news is it happens slowly.

Firstly may I say, investment safe havens aren’t always safe. People just think they do. You can tell a safe haven by the fact that people think and say that a particular investment ‘really can’t fall’. The more people believe that, the more it will hold value and for longer. Behaviour psychologists call this sort of thinking, Herding. People feel safe doing what others do.

J P (Joe) Kennedy is reputed to have said after the 1929 stock market crash – “I knew it was time to sell when my ‘shoeshine boy’ gave me a stock tip”. Growth that’s not linked to fundamentals such as rates of return or grow in value primarily because people are speculating that the market will go up can’t keep performing indefinitely. At some point people will start to doubt. In Australia, many think real estate is a safe haven. In many Asian countries they think the same.

When the real estate market starts to come off in value, people’s first reaction is denial followed by anger. Investors refuse to accept what’s happening. Then, they acknowledge it’s happening, just not to their property. And then they realise it is happening and to them. And they look for someone to be at fault. When they want to sell they talk in terms of ‘it owes me’ as if it’s the property’s fault. Eventually they accept their loss and move on.

That transition takes a couple of years but it’s what a market looks like when it’s coming off. My bet is that this will happen sometime in the next 3 years. Or it might not. I’ve been wrong just as many times as I’ve been right. The real question is what do you think?

Well some of this is obvious given what I have already written.

There is a massive amount of new units and apartments that have come on to the market and are still to come on. We are not talking 100’s, we are talking 1000’s and in our immediate area and other parts of Sydney are no different. These properties have one feature that makes them special. 50% can and are being sold to overseas investors. The other 50% are being sold to local investors and local owner occupiers. That creates an awful lot on new property on the rental market for lease.

If your investment property has increased in capital value, your rates and taxes have increased, well unfortunately your rent hasn’t. In fact it probably has fallen unless you have upgraded your property to create some extra value and appeal.

Many investors use to use 5% as a standard rate of return. If a property was worth $500,000 then it should attract a rental of $500 per week. Not any more and it hasn’t been that way for quite a while. Returns are now around 4% and the rate is still dropping.

Right now because the property values are increasing, the rentals are holding their levels. Some property when it comes up for reletting, will get a little less, others a little more. We don’t think this is going to change over the next year or so. The best advice is upgrade the property. I don’t mean sell and buy, rather spend money on a new kitchen, new lights, put in a dishwasher, a better stove, look at air conditioning. All these things are become more common and expected more.

If you have investment property you might think I’m being harsh. Actually the opposite. If the government does change negative gearing rules, now might be the time to get set up. The general convention with tax changes is that we use grandfathering. That is if you are negatively geared, you will continue to receive the benefit even though new players will no longer benefit.

The tax changes could see investment in older property dry up for a while and that would see a rent rise. Every black cloud has a silver lining as they say.

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