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Property investors should analyse value - Christopher Joye; We could endure a sharp change in home values, without a jump in the jobless rate
Topic Started: 8 Oct 2013, 11:42 AM (676 Views)
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Property investors should analyse value

PUBLISHED: 04 Oct 2013
Christopher Joye

It is the largest investment many families will ever make. But how many property investors actually engage in even a rudimentary valuation analysis of these assets? How many work out what their investment is really worth, based on different assumptions about house price growth rates, rental yields, and mortgage rates? The answer is, very few.

The absence of bona fide valuation efforts in the residential property market is not for a lack of precedents. Almost every company listed on the Australian Stock Exchange is subject to rigorous “fundamental” analysis that involves projecting its expected cash flows and then discounting them back to the present day to figure out what the business is worth.

Investors in commercial property adopt a similar method by forecasting future capital growth and rental rates to see how much they should pay for an asset today.

But when it comes to residential real estate, which at $4 trillion is our single largest asset class, our intellectual faculties seem to go missing in action.

When you speak to property investors the maxim is not so much what the asset is worth today; not how this value depends strikingly on your return assumptions; but, more crudely, what you can afford to pay.

Home owners and investors focus on whether a combination of incomes and rents will be sufficient to offset mortgage repayment costs. Then there are some guesstimates about where fair value might lie, referencing recent “comparable sales”. But what if those comparable sales have also been transacted in an analytical vacuum?

Risk of fluctuation

There are substantial risks embedded in the current approach. The main concern is that the folks buying and selling $200 billion of housing each year are not considering how sensitive the underlying value of their investments is to fluctuations in future conditions. This is especially important to consider today, given how abnormal borrowing rates are.

Some property investors also don’t realistically handicap the true probability of loss. Over the past decade more than one in 10 home owners have suffered financial losses when selling their asset (after accounting for transaction and debt servicing costs).

Many buyers ignore the risk of loss and rely on a “deterministic”, or single, rate of capital appreciation when evaluating an asset – typically 6 per cent or 7 per cent. What they should be thinking about more carefully is the distribution of potential returns around this average outcome. Ask yourself this: how would the price I am willing to pay for a property today change if, for example, my assumed annual capital growth was only 2 per cent or 3 per cent? In more sophisticated investment classes, such as equities, the value of all assets can decline by as much as 50 per cent in a single year simply because of a shift in expectations. Global equities experienced this in 2001 and 2008.

Infrequent trading

One reason housing might be different is that the market is dominated by owner-occupiers who trade infrequently. In the absence of an economic shock that compels owners to sell homes, they do not have to trade. And so, when market conditions soften, liquidity usually dries up in lock-step.

This might, however, change if the latent purchasing power inside self-managed super funds is unleashed. There is probably around $150 billion in SMSF cash sitting on the sidelines that could be directed to housing investments. This number jumps to more than $450 billion if that cash is treated as equity and leveraged up using a home loan.

Most folks in the housing market believe they will receive steady capital gains. But if interest rates eventually start normalising and we go through another period when house prices are correcting, it is conceivable that investors will materially reassess their outlook.

A significant haircut to capital growth expectations could in turn drive a big reduction in house prices purely as an asset-pricing exercise.

To be clear, we could endure a sharp change in home values, without a jump in the jobless rate driving defaults.

Read more: http://www.afr.com/f/free/blogs/christopher_joye/property_investors_should_analyse_tbERvNmKA6PBSX99eiQ0gN
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Ex BP Golly
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Chris Joye....sweet!
He pegs most bulls here in his first paragraph :to:

What they are soon going to learn is there is more to investing than circle jerking on a website.


WHAT WOULD EDDIE DO? MAAAATE!
Share a cot with Milton?
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Catweasel
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Catweasel say crikey.

It the could build simple the predictive model and put a on the internet.

But would mouse even the bother when it tossed 7-year the prophecy like bone to dog?

But why a Joyealicious talk about in a 2013?

Surely mouse must be trained at much the earlier the age.

Catweasel has mention in sandpit,

and rapscalls scurry off.
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stinkbug
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Fortunatelyfor property investors we're well aware of the bear rule: property crashes every 7 years.
---------------------------------------------------------------

While it's true that those who win never quit, and those who quit never win, those who never win and never quit are idiots.

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Catweasel
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stinkbug
8 Oct 2013, 01:26 PM
Fortunatelyfor property investors we're well aware of the bear rule: property crashes every 7 years.
Catweasel say even if mouse presented with online simulator,

it not disprove 7-year the prophecy.

nor do it shake faith of mouse.

Or even white shoe.

At a very last, it give mouse 'what if' the scenario.

And what a wrong with a that?

in-between a mojitos.
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