Why Aren’t Property Prices Falling After Covid-19
Property prices falling is something everyone took for granted at the beginning of the year. When Covid-19 first arrived in March, 2020 and even after the lockdowns, investors across Australia and New Zealand, in fact around the world, would have expected property prices to fall sharply. However, that’s not what we are seeing in the market right now.
Most mainstream media outlets are still reporting that the general confidence in the market around property values is still suggests that prices are likely to remain steady or go higher. Why is that?
Well, to understand this, we need to put on our crisis investor hat and come back to the foundational basics of property investing. Investing should be done on fundamentals, not price – because price is a liar.
Price is simply a function of what someone is willing to pay for goods and services. It is subjective and hardly ever a good indicator of true value.
True value is a function of strong fundamentals. In times of a crisis, it is very natural for decision making to be driven by price instead of fundamentals because of the amount of emotions involved in the midst of uncertainty.
Price is a matter of comfort. Comfort is a matter of emotional satisfaction and when you bring these two into the equation, you cannot expect anything but irrational and erratic market behavior.
This is exactly what you will be seeing right now in the capital markets. With a poor economic outlook and falling job numbers, along with a massive strain on organic GDP numbers, there’s no fundamental reason for things to be looking north by any stretch of the imagination. Yet, the market isn’t saying so. The market is heading north.
It is crucial to understand this conundrum so as a SMART investor, you will know how to respond to this anomaly that’s likely to stay this way for another quarter.
Remember, I said this would happen in the first lesson of the Crisis Fundamentals course. I mentioned clearly that in the first few weeks post lockdown, there will be a short term spike in retail spending. That’s exactly what is happening right now. There should be no surprises there.
Those that have ears to hear and eyes to see, will recognise that this spike is just a spike. Its not normalised activity.
Last week, you saw NZ announce its GDP figures. A few days prior to that, Australia announced its GDP figures. With NZ coming in at -1.6% and Australia at -0.3%, it was a natural expectation that the markets will understand the fundamentals behind these numbers and recognise where things are heading.
However, that’s not what happened.
House prices are still on the rise (or at least, not declining as fast as they should be). Consumer spending is still holding fast and economic activity continues to trend onwards despite there being massive signs of economic decay on both sides of the Tasman. This is the perfect case of an analyst looking at all this data and shaking his head in absolute belief (not disbelief) that clearly the loonies have taken over the markets.
Now some hard facts and data to support my rant.
According to The New Zealand Institute of Economic Research (NZIER), “Consensus Forecasts for GDP have been revised down sharply for the year to March 2021, before a strong rebound in subsequent years. There is an even greater degree of uncertainty than usual, particularly over the strength of rebound in the year to March 2022. On average, annual GDP is now expected to contract by 9 percent for the year to March 2021.”
In the residential real estate sector, NZIER report says “The investment outlook has also been revised down sharply for the year to March 2021. Even prior to the lockdown, the NZIER Quarterly Survey of Business Opinion showed a sharp drop in business confidence. There is a large degree of uncertainty over how much investment will rebound in the next year . The average forecast is for annual growth in total investment to rebound to 9.8 percent for the year to March 2022.”
Now that’s interesting. If you look at the graph that came with the report, you can see that things are expected to get much worse than what they are currently, before they get any better. And when they do get better, 9.8% increase will be a welcome gain for anyone that decides to get into the market right now. Provided, that’s how it ends up panning out.
However, I would argue whether or not it is worth locking up my capital into one or two or three properties, at a time, where economic activity is certain to lead to more market volatility. I personally love volatility, because it gives me the opportunity to trade both sides of the market – up as well as down.
Now clearly, you couldn’t do that with properties without inviting hefty tax implications. Add to that the fact that housing market data is horribly out of date, and you will soon find yourself in a position of “well, what do I do then”. By the time you hear about any major movements, the ship would have already sailed the harbour.
The only saving grace for the housing market for when the prices do start to come down (already happening by the way), is the Property Options strategy. That’s one way you will have the ability to take advantage of a market that’s flat-lining. However, there are plenty of moving parts in an option deal and if you don’t know how to execute such deals, you’re unlikely to make any gains from the falling or stagnating market.
Also, remember that historically, housing market decline is seen 2-4 years after a major economic decline. Why? This is because of a vicious cycle.
Economic crisis happens. Investors panic. They start pulling out their funds from money market accounts, start liquidating assets and start moving into safe-haven asset classes, such as Gold, the US dollar (questionable), and other commodities. This is what creates that sharp market decline in the early days of a crisis. You saw that around Feb/March of 2020.
Now with all this liquidity, investors then rush to the housing market to pick up assets that the struggling “mom and pop” crowds are unlikely to be able to afford, because of the impact the crisis has on households.
As a result, while the crisis is unfolding, and even for a few months after that, house prices don’t fall sharply because there are buyers with liquidity in the market.
As the market begins to taper, and the liquidity is used up, corporate spending tightens.
Meanwhile, poor fundamentals finally begin to catch up with the market and the longer term impact of the crisis begins to be felt.
This is (typically) when property prices begin to decline. Declining prices reduce balance sheet of corporates holding real estate assets, which leads to reduced valuations that are reflected in declining stock price performance on the market.
Now with this circle complete, that’s where a multi-year cycle begins whereby property prices will start super low and experience soaring gains over a 5-7 year period.
But when will this happen? When? When? When?
The answer, in my opinion, is to look at an area of the market that offers real time data as well as the ability to go in and out of a trade fast, and with minimal capital exposure. That area, is obviously the Real Estate Investment Trust market.
If you’ve done (or are enrolled in) the REIT Masters Course, then you will remember the two specific strategies you are exposed to during the course. One that is purely based on market speculation with a capital gain outcome in mind and the other, which is based on building cashflow income from the dividend payment from these trust companies. Both are highly relevant in today’s market and have the ability to provide you significant options to do something with your capital, as opposed to let it rot in your savings account.
REITs usually pay around 7-9% yield, with some US and Singapore REITs paying even higher dividend yields. That’s significantly higher than the rental yield from an investment property and definitely higher than the highest interest rate payout you can get on a savings account with any bank on any side of the Tasman.
Furthermore, even with reduced Loan to Value (LVR) requirements, meaning, your deposit requirement will be lower currently, you still do have to come up with some deposit. Banks are unlikely to let a subprime situation emerge at this time. This was reflected in the disappointment expressed by Finance Minister Robertson when Banks failed to provide the support needed by the business community.
So at any rate, you can expect to pay anywhere between 10% to 30% deposit for an investment property. I am not referring to properties you could buy under any first home buyer programs. I’m referring to investment property transactions. So even if you look at a national median of, say, $500,000. At 20% deposit, you’ll need to come up with $100,000 in deposit.
Now you know that it will be a fair 2-3 years before that property will experience any kind of capital gain. No capital gain, means no opportunity for you to refinance to buy another property. Meaning, you are stuck with that investment until such time that you have the ability to borrow more.
Meanwhile, during those same 2-3 years, you will see multiple opportunities to take advantage of the volatility in the markets or to engage in property option deals, which you will have to say “No” to, because you’ve got all your capital tied up in that one property.
Being agile and liquid are the two key traits of a successful investor. Now add to that the economic environment coming out of Covid, the upcoming elections in NZ, the signing of a key multi-country trade deal in November, the ongoing job losses, the ongoing market anomalies, and you will quickly realise that this isn’t the time to lock up your capital in one asset class.
This is the time to think like a hedge fund manager. Think diversification. Think liquidity. Think how well equipped you might be to take action.
So here are the three key takeaways from this.
In times of a crisis, it is crucial to remain agile and keep yourself liquid. This way, you will have the ability to take advantage of the plethora of opportunities without locking yourself up into a single investment.
The anomalies in the market right now are driven by the irrationality of the market. Remember, markets can remain irrational far longer than you can remain solvent. So take the time and make the effort to learn how to read the market in this crisis environment and equip yourself to make the right moves.
And lastly, pay attention to the fundamentals, not just price action. The fundamentals of the economy is a dog’s breakfast. You could see that clearly from the GDP outcomes we posted last week. This is the time for you to take a structured approach to property investing and not get caught up in the sole idea of buying investment properties. There are other, far more meaningful and powerful ways to make money from the property market without actually owning any property, locking up any of your capital, or investing your own money into the deal.
The question is, will you pay attention to this or will you continue to sit on the sideline wondering what to do.
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