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Pumping and dumping schemes

Pumping and Dumping schemes

Faced with the prospect of little price growth on the horizon, property investors are starting to see innovative get rich quick schemes being promoted which offer huge returns.

It has always been true that if the property market can’t generate a return for investors from market driven growth, then investors can make some growth themselves. We have traditionally done this by improving the value of our investments through cosmetic or structural renovation or even developments.

The issue is that the buy and hold costs for such projects can deter most new investors, and there’s always the threat that if prices fall, they may cancel out the value we have added, or even lead to a loss.

But some new investment alternatives have recently emerged, bringing us glitzy promises of high returns from property investment without the need to outlay any significant cash up front. The risk seems low, the opportunity to participate is high and many of us are sucked in, usually at free so called “investment” seminars.

One clever land banking scheme offers you an easy way to get into the property market with one low upfront cost and the promise of eventual riches. The promoter sells you an option to buy land which is slated for future development, showing you the concept plan and glossy “artist’s impressions” of the finished project. All it takes is one affordable fee and no repayments. Then years later, when the land is subdivided, you can exercise your option and sell at a huge profit.

You can even participate in the property market without any upfront cost at all, by searching for and finding property owners who are willing to enter into an options agreement with your mentor. Your mentor signs and pays for the agreement, which gives them the option of buying the property at an agreed price and future time from the current owner. Then by agreement with your mentor, you will be handed a percentage of the profit.

There are also adverse possession schemes using what is known as “squatters rights” where you search for and find long vacant or abandoned properties for your mentor who then improves and rents them out, taking title to the property when the legal waiting period has expired. By agreement with your mentor, you will then split the profit from the sale of the property.  

These sorts of schemes pump you full of confidence and then dump you when they fail. For example, if the land banking property is never developed, or the option for a property you have found is never exercised by your mentor, you receive nothing. Similarly, if the owner of a property which is in the process of adverse possession suddenly turns up before your mentor can legally claim title, you end up with nothing.

You can avoid getting pumped and then dumped by sticking to tested and proven property investment strategies which offer worthwhile rewards and incur risks which are manageable.

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Playing the long game

Playing the long game

If it’s true that the best time to buy is at the bottom, then now might be a good time to buy Crypto currencies, especially Bitcoin, which has undergone a dramatic plunge in value over the last year. But will crypto prices fall further?

Crypto currencies have lost more than $400 billion off their peak values in late 2017 and some analysts are claiming that now is the best time to buy, because the bloodletting appears to have ended and prices have stabilised.

Bitcoin

The chart shows how Bitcoin prices have moved since the boom started in 2016, with prices dropping dramatically since early last year. In fact, the Bitcoin buying craze had all the hallmarks of a boom-bust scenario, being enthusiastically embraced by a whole new generation of investors for all the wrong reasons.

“Bitcoin is high tech,” they told us. “It’s innovative, it’s blockchain based and best of all, it’s disruptive.” Given this sort of talk, demand was always likely to evaporate once the novelty wore off and the cracks appeared.

Now the supporters of Bitcoin are claiming that recent price falls are due to “market volatility” despite the fact that Bitcoin was somehow supposed to be immune from such dramatic demand related price shifts. Other analysts have come up with the term “crypto winter” to describe the current lack of demand for the commodity. While this describes the phenomenon, it does nothing to explain why such a freeze out of buyer enthusiasm has occurred, or whether we will ever experience another crypto spring.

The facts are that Bitcoin is a commodity and must therefore follow the laws of supply and demand like all other asset classes, but this seems to confound its proponents. To keep the commodity viable, they need continued demand, so they are now expounding the long-term benefits of buying bitcoin. They are playing the long game, as the saying goes.

This strategy will sound familiar to followers of the property market where prices have been falling as they have in Sydney and Melbourne. The focus of the discussion quietly shifts from recent high performance or promises of imminent growth to the fact that prices always rise over time, that they are at the bottom of the cycle, and those who play the long game will still be ahead.

Yet Bitcoin is an asset that is quick and easy to trade, and must suffer from high price volatility as a result. It was never designed to be a long-term investment like property, so it is really interesting to hear the Bitcoin barrackers change their tune completely, and now refer to Bitcoin as a buy and hold asset.

I know which I would rather be holding during the tough times, because in ten years’ time Bitcoin may just be a historical quirk, but property will still be a valuable asset.

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The truth about good yield and bad yield

The truth about good yield and bad yield

Good_yield_bad_yield

Given the current lack of growth in our property markets, many experts, educators and advisers are pushing cash flow as a good investment option. The trouble is that most of the suburbs and towns they put forward are selected purely because of their high rental yields – but there’s good yield, and then there’s bad yield.

Bad yield is not going to deliver you positive cash flow, because rental yield is a function of both prices and rents. Rental yields can rise if prices have fallen, even if rents haven’t risen, or if rents have not fallen as much as prices. This is bad yield, and some of the highest rental yielding suburbs put forward in various glossy promotions are in locations where housing prices have crashed in the last five or so years.

These “high yield” lists feature towns such as Broken Hill in New South Wales, Blackwater, Collinsville and Dysart in Queensland, Newman and South Hedland in Western Australia and Rosebery, Zeehan and Queenstown in Tasmania. Investors seeking positive cash flow might be tempted to buy in these towns because they have high rental yields and extremely low house prices. If you are amongst them, remember that the high yield in these markets has nothing to do with rental demand and everything to do with falling prices.

Good yield is driven by rent demand not by price falls, so if you seek positive cash flow from your properties, look for high rental yielding areas with high rental demand, such as tourist destinations, infrastructure construction zones and locations favoured by overseas arrivals.

All of these households create genuine rent demand. Some of the highest good yields can be found in coastal suburbs where prices have risen in recent years, but these are seasonal holiday locations, and the high yield is only obtained during the peak summer season. Watch out for such seasonal variation traps.

Permanent and semi-permanent rental areas such as ex-Housing Commission estates or the older affordable outer suburbs of our major cities provide consistently high yields with solid rental demand. These areas might seem unattractive to some, but they have strong rental appeal to others.

Remember, that although some of these locations may not appeal to you, what matters is that they do appeal to someone else. For example, Risdon Vale is an outer suburb of Hobart with a constantly high good rental yield and it’s also where Tasmania’s maximum security male prison is located.

The secret to Risdon Vale’s high rental yield is the demand for rental accommodation there, coming from the girlfriends, partners and wives of the prison inmates. They want to live in Risdon Vale so that they can more easily make conjugal and family visits to the prison. You might not wish to live near a maximum security male prison, but the secret to Risdon Vale’s high rental yield is that many others do.

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What makes a potential investment area attractive

What makes a potential investment area attractive?

Some investors will avoid areas because there’s a high proportion of rental properties or it’s a dirty looking industrial town. They might favour suburbs where they would like to live themselves, but this is not relevant. What matters is whether other people want to live there, because this is what makes an investment area attractive.  

Risdon_Vale

Risdon Vale is an outer suburb of Hobart and it’s also where Tasmania’s maximum-security male prison is located. It’s not what most would call an attractive place. The area is dominated by massive walls skirting the jail’s perimeter, topped with coils of razor wire and the night sky is penetrated by floodlit guard towers and the howling of ferocious guard dogs.

Coupled with the constant threat of rampaging escapees running amok through the town, surely here is a place that could be called “unattractive” and deter any potential residents.

Yet, here’s the thing, Risdon Vale has the highest housing rental yield in Hobart and it’s driven by genuine rental demand. The source of housing demand comes from the wives and partners of the inmates, who rent properties in Risdon Vale to be near their incarcerated loved ones for conjugal and family visits.

The irony is that the higher the incidence of burglaries, murders and other serious crime in Tasmania, the greater will be the demand for rental properties in Risdon Vale.

The importance for investors is not that you might find such places unattractive or even dangerous, and that you wouldn’t want to live there – what matters is whether other people want to live there, creating housing demand in the process. 

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Property maths made easy

Property maths made easy

There’s so much confusing and conflicting property forecasting information out here, I thought I would simplify matters with a simple equation.

Maths_equation_Jan_2019

This equation uses the latest published Australian Bureau of Statistics data, and dramatically shows us that we are rapidly approaching a critical shortage of rental accommodation in the major eastern cities. Record population growth is combining with the effects of savage cuts to investor and new housing finance to reduce the available stock of rental properties.  

The maths is alerting our State and Federal governments that it’s high time to stop punishing and start encouraging property investors, because it is investors who provide virtually all rental accommodation. If our governments fail to respond, they can expect a rapid escalation in asking rents in Sydney, Melbourne and Brisbane.

This graph shows just how much rents have fallen behind price growth in our capital cities, with the gap between growth (the black line) and rent return (the red line) steadily growing since 1999. Right now, the shortfall is the worst it has ever been.

Perf_house_prices_rents

Cash flow is about to become king again

This situation occurs because rent growth tends to lag behind price growth in our big city markets, and indeed, rental yields in Sydney, Melbourne and Brisbane are now lower than at any time since the post-war housing boom. They do catch up, however, whenever prices stop rising.

When capital city housing price growth slowed down or stopped in the past (for example from 1910 to 1916, 1929 to 1941 and from 1951 to 1965), you can see from the graph what happened next. Rents rose quickly and dramatically, as indicated by the red line. This has occurred because our capital city populations have always been growing, and if new residents can’t buy, they have to rent.

The equation and the graph would indicate that rent rises are highly likely to occur again in the eastern capital cities. It also shows that this is likely to happen very soon and that cash flow will replace capital growth to become king.

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The farmer and the fox

The farmer and the fox

The current standoff in our property market is quite bizarre. On the one hand we have increasing demand for housing in our major cities created by record population growth and on the other hand, buyer demand in them has slumped. Let me share the story of the farmer the fox with you, to shed some light on what could be going on.

A farmer captured a fox that had been taking his chickens. To teach the fox a lesson, the farmer tied some dry grass to the fox’s tail and set it alight, then let the fox go.

But the fox ran straight into the farmer’s wheat field, which was ready for harvesting and as the burning grass fell off his tail, it set fire to the farmer’s crop and destroyed it. The moral of this fable is to be careful with acts of revenge as they can often backfire.

We can easily refashion the story. The government decided to punish the big banks for the way that they treated customers, so it held a Royal Commission into their bad behaviour to teach them a big lesson. But instead, the banks responded by slashing housing finance so much that the whole economy was threatened with a recession, to teach the government an even bigger lesson.

Now I don’t think that the banks want to send the economy into recession, but they obviously want to make a point about their power and importance. So, just like the fox, they are sending a strong message to the government to leave them alone.

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The half time break is about to end

The half time break is about to end

During the last year property buyer demand fell because of:

´      
The big banks self-induced housing finance squeeze
´       APRA’s controls on investor and interest only loans
´       Huge stamp duty hits for overseas property buyers

These restrictions have caused property prices to fall in some cities and fail to rise in others, but this situation is only temporary, because the demand for housing continues to rise strongly. What we are experiencing right now is like half time at the football – a temporary lull before housing demand forces prices up again. 

The demand for housing is increasing because of one inescapable fact – we have one of the highest population growth rates in the world – at 1.6% per annum, it’s easily the highest in the western world, (more than double that of the UK or USA and three times that of China, according to the latest United Nations figures). 

Change_in_population

What makes these stats even more significant is that over sixty percent of our population increase now comes from overseas arrivals, and most of them (according to the latest ABS data released 20 December 2018), prefer to live in our three biggest cities, with one third heading for Sydney, one quarter to Melbourne and another ten percent to Brisbane.

People are also moving from the west to the east

That’s not the end of the population boom story either, because many immigrants to cities such as Adelaide, Perth or other regional centres, make another move a few years later, seeking better employment prospects or more affordable housing.

This results in a net interstate migration of around 40,000 people to Brisbane, Melbourne and Tasmania each year, in addition to those directly arriving from overseas and all those arrivals from other States and countries need immediate housing, most of which will be rental accommodation.

Huge housing shortages are about to emerge

These huge numbers of new residents have obvious implications for our housing markets, especially the rise in rental demand it will generate in our eastern capitals, such as Melbourne and Brisbane. Because most of these new residents will become aspiring first home buyers when they are settled, there will also be a rise in buyer demand which will continue for years. That will occur even if the Federal government makes such a policy change.

The inevitable outcome of our rate of population growth is that we are about to face a huge housing rental stock shortage in our major eastern cities, accompanied by a surge in buyer demand when the housing finance controls are lifted and the banks seriously start lending again.

What are our governments doing about this?

We are facing major conflicts with our migration and housing policy, but our governments are doing nothing, and they will continue to do nothing, because migration is a Federal issue and housing is a State matter. High levels of overseas migration are economically good for our nation – new arrivals create work, keep labour costs competitive, keep our nation young and active.

Australia currently derives over sixty percent of its annual population growth from overseas arrivals, which is the highest relative intake of all the major nations in the world. Our Federal politicians see overseas migration as an economic benefit which has kept Australia out of recession for nearly thirty years. Even better, they don’t have to worry what happens to migrants after they have arrived, because creating and providing transport, health, education and housing services are State matters.

This is why State governments are not so enthusiastic about high levels of overseas migration, but even though most arrivals end up in the already population challenged cities of Sydney, Melbourne and Brisbane, State politicians are powerless to control this in any meaningful way.

State governments get financial benefit from property buyers

The situation is even more confused because State revenues are heavily reliant on stamp duty from property transfers and so a rise in property sales is in State government financial interests. Many of the huge transport infrastructure projects currently underway in New South Wales, Queensland and Victoria rely heavily on stamp duty revenue from property sales.

So while State politicians publicly sympathise with frustrated potential first home buyers, they are really on the side of the big developers and investors who buy properties and generate the stamp duty revenue they need.

What should property investors do about this?

This is a unique period in our history. On the one hand, demand for housing is rising strongly, and on the other, our ability to buy property has been curtailed. It’s like half time at a football match, with everyone taking a breather before the siren goes and the game continues, with an inevitable rise in both prices and rents in the eastern capital cities.

This temporary halt in buyer demand is not going to last very long, and the rising pressure of demand for housing is likely to have several different effects.

Firstly, asking rents in the big three eastern state capital cities will increase over the next year and lead to a renewed influx of property investors seeking higher rental yields.

Secondly, rising prices in these cities will encourage investors to look at the cheaper capital cities for affordable bargains.

Thirdly, opportunities for profitable renovations and developments as well as for long term buy and hold investments will grow in all capital cities as market driven growth picks up.

Market conditions now favour buyers in many suburbs of our capital cities and some suburbs also offer great cash flow potential as well as a strong medium-term price growth outlook and excellent buy and hold investment opportunities.

Where can you find these suburbs? In our just released Lindeman’s Best Buy and Hold Suburbs reports, the only predictive reports personally produced by property market expert, John Lindeman.

TO ORDER OR FOR MORE INFORMATION CLICK HERE

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Where are our housing markets heading in 2019 and beyond?

Where are our housing markets heading in 2019 and beyond?

Most experts making their housing market predictions for 2019 and beyond will rely on past performance, because they believe that the market will continue to perform in future as it always has in the past. Let’s take a look at how our markets behaved in the decade from 2000 to 2009, when the onset of the GFC caused price growth to end, using official published ABS housing price data.

The first really interesting fact is that Sydney was the worst performing housing market of all capital cities from 2000 to 2009, with the median house price rising by 57%. Melbourne nearly doubled this percentage growth, and all the other capital city property markets more than doubled in price.

The second fact is that they didn’t all go up at the same time – Sydney’s housing prices shot up first, from 2000 to 2002 and then price growth stopped. Melbourne boomed from 2001 to 2003, Brisbane’s property market boom started in 2004, then Adelaide, Hobart, Perth, Darwin and Canberra all boomed in successive years and growth slowed after a year or two of really high price rises.

The takeaway we gain from this is that the booms rippled from one market to another, and as markets became unaffordable, buyer demand moved to the next affordable city, where prices were cheaper. When prices in turn rose there, buyer demand moved to the next most affordable city and so on, until the boom ended.

Hobart’s housing market rose the most in percentage terms because it was the cheapest. In other words, Hobart’s median house rose the same in dollar terms as Sydney’s did, which maintained the relative price difference between them.  

Now let’s look at the way that our capital city housing markets have performed since then, and what we see is that the performance has been the wrong way around, with the dearest two cities going up in price the most, while the others have barely moved, except for Hobart.

Cap_city_house_price_change2010-2018

Some experts put this mirror image in performance down to causes such as the ending of the mining boom or high levels of overseas migration, but the real reason is that the price ripple effect of growth moving from one capital city to the next has been stopped dead in its tracks.

A succession of events, such as the Banking Royal Commission, APRA regulations on investor housing finance and the savage increases to stamp duty payable by foreign investors has interrupted buyer demand. My prediction is that when conditions return to normal, and these artificial controls on buyer demand are removed, demand will pick up where it left off, resulting in the following possible price growth scenario.

Cap_city_house_price_predictions

This forecast is not based on past performance, but on my analysis on the key demand trend dynamics of housing markets and their likely effects on housing prices over the next decade. 

This analysis also indicates that the next housing market to boom is likely to be Brisbane.

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The tipping point for investors

Property investment offers us many ways to create wealth such as the profits from development, renovation and passive price growth when we sell a property, and cash flow while we own it. But even though we all believe that property values grow over time, there are also many traps for the unwary in relying on the power of passive price rises to create profit.

Remember those mining towns in Western Australia and Queensland, where real estate values fell by over ninety percent from 2102 to 2017? What about capital cities such as Adelaide or Brisbane, where housing prices have stubbornly refused to rise during the last ten years, despite the confident predictions of so-called experts that they were about to boom? Even worse, in cities such as Darwin and Perth property prices have actually gone backwards over the same period of time.

This uncertainty about future price performance leads many investors to the view that while prices may rise over long periods of time, the immediate benefit of owning real estate is cash flow from rent, because it is immediate and measurable. If the rent we obtain each week is more than the costs of holding the property, we have achieved the holy grail of property investment – a property which is paying for itself and providing us with positive cash flow.

For example, if you followed my predictions and bought an investment property in Hobart’s Bridgewater for $180,000 in 2017, your current weekly rent would be $300, which is a rental yield of nine percent. Of course, you have to fork out for repairs and maintenance, property management fees, rates and insurance, which typically amount to around two percent of the property value each year. In addition, there’s the interest cost of the loan on your property, which can be around three to four percent of its total value, depending on how much of the purchase price was borrowed from a housing finance provider.

Your Bridgwater property could therefore cost you up to $200 per week to hold, depending on how much you borrowed to buy it, but the weekly rent is $300, so you end up with at least $100 per week in your hand – not only is the property paying for itself, it has generated around $10,000 net cash flow since you bought it, and the median house price in Bridgewater has risen by $40,000 over the same time – not a bad result.

Far more common are investments where the income from rent is not enough to cover the costs of holding the property and their owners are losing real money. For example, if you purchased an investment property in outer Sydney for $1,000,000 in 2017 you would be able to charge around $600 per week in rent, giving you a gross rental yield of three percent.

Just like in Bridgewater, you must pay holding costs amounting to two percent of the property value, plus the cost of the loan interest, which in total amounts to around $1,100 per week, so you are losing $500 each week. This property would have cost you around $50,000 to hold since you bought it, and median house prices in Sydney have fallen by around $70,000 over the same time – so why would you even contemplate such an investment?

The answer lies in the belief that housing prices will rise over time and in the lure of negative gearing, which allows you to offset your holding cost losses against other income, reducing your income tax liability. But while gearing reduces your tax, it does not generate income and you still have to pay the cost of holding the property.   

This is the hidden reason why buying demand from investors, especially in our mainland capital cities, has slumped. It’s not so much about prices as it is about gross rental yield, or the return on investment we receive from rent. There’s no doubt that tougher lending regulations, lighter loan limits and termination of interest only loans had their effect, but even though the restrictions have been eased, investors have not returned.

Rental yields in our mainland capital cities are too low, and the gap between income and expenses is too high to make property investment attractive. The tipping point at which investor interest currently wanes is when the gross rental yield drops below five percent, which is when the cost of holding a property starts to outweigh the benefits of owning it as in our Sydney example. Conversely, when rental yields rise above five percent investors sit up and take notice, because properties in such areas can deliver positive cash flow from day one, such as the Bridgewater example.

The reason that rental yields are so low in Sydney and Melbourne is that housing prices have nearly doubled in the last six or years, but asking rents lag behind, and have only risen by twenty percent over the same time. The gross rental yield is now at its lowest level since 2012 – at around three percent. Virtually every Sydney and Melbourne property investment made since the booms began generates much less income from rent than it costs to hold and the owners have to make up the difference out of their own pockets each week. So, while all the focus is on rising prices, the real issue for investors is low yields.

Other mainland capital cities have also suffered from falling rental yields since 2012, but these have been caused by oversupplies of new housing, particularly in Brisbane and Perth. New home surpluses have been keeping a lid on housing prices. They encourage aspiring first home buyers to move out of rental accommodation and into their own home, with the repayments often being lower than the rents they were paying.

The drop in rental demand has seen rental yields in these cities fall by over one percent in the last few years as rental vacancy rates blow out and landlords compete for tenants. With rental yields in Adelaide. Brisbane and Perth at only four percent and prices going nowhere, investors are not excited.

The proof of the “five percent tipping point” lies just across Bass Strait, in the one property market that has been booming while others have languished – Tasmania. Rental yields in Hobart were over five percent in 2017; much higher than any other State capital city and they were even higher in other parts of Tasmania. Mainland property buyers have been surging into the Tasmanian market since then, buying properties in suburbs such as Bridgewater and yet both prices and rents have continued to rise due to an underlying shortage of housing stock for rentals as well for purchase.

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The bad boys

Here’s a tale about four bad boys, which has great relevance to what’s taking place in our housing markets.

While mum and dad were out, the four boys started playing up. Searching the fridge for leftovers, they found and devoured some chocolate cake, washed down with a bottle of lemonade. They discovered and cleaned out the biscuit tin in the pantry, leaving crumbs everywhere. With no one around to stop them, they ventured into the family room and polished off a packet of after dinner mints, celebrating their good fortune by consuming the ginger beer and the other soft drinks they found in the bar fridge.

No sight of their parents yet, so on they went into the holiest of holies – mum and dad’s bedroom, to see what was on offer. There they found the block of Swiss Chocolate dad had given mum a few days before and soon it was all gone.

Then suddenly the front door opened – it was mum, who quickly realised something was amiss. She saw the foil wrappers and crumb trails, sticky drink spills on the carpet. The culprits stood quietly, their guilty faces covered in chocolate and mousse as their mum cried out, “Just you wait until your father gets home – you boys are really gonna cop it.”

As panic set in the oldest boy said “We’ve got a few hours before dad gets home – let’s fix the place up and do whatever else we can to calm him down.”

So they set to work, cleaning everything up. They even polished dad’s golf clubs, put out the rubbish, mowed the front lawn, picked some flowers for mum, did everything they could to make amends before dad got home.

I won’t tell you what happened when dad did get home, but this story illustrates what is going on in the housing industry right now. Having acted much as they wished while mum and dad were away, the big banks have been called to account by the Royal Commission and they’re anxiously waiting for the Commissioner to deliver his verdict on their bad boy behaviour over the last few years.

So what do they do while they’re waiting? Exactly what the bad boys did – not just clean up their act, but go even further to demonstrate just how loyal and trustworthy they really are before the Royal Commission delivers its findings early next year.

This is the only reason that we are experiencing a totally unnecessary squeeze on housing finance – there’s no financial crisis, no economic crash, no reason to restrict lending other than the banks trying to prove how diligent they are by applying what some would argue are excessively stringent borrowing criteria.

Once the Banking Royal Commission is behind us and the banks have been suitably chastened for their bad boy antics, things will get back to normal again. Housing lending will start to rise and housing demand along with it. This is because banks are in the business of making money from lending, and secured housing finance is the safest form of lending they can provide.