AS the evidence rolls in that Australia’s six-year property boom has moved into reverse everyone with an interest in real estate will need to sharpen their thinking – and that goes right down to the most fundamental question of all, whether it is better in the current climate to buy or rent?
The long-term answer to that question is buy.
Over time, property is a fundamental building block of any investment strategy.
The short-term answer is rent, because of the pincer squeeze being applied by rising interest rates and falling capital values.
The unknown, as always, is the time factor and specifically for how long should anyone rent before it becomes time to buy.
Briefcase has considered this question during previous property cycles and confesses that the idea of renting has always appeared abhorrent because it seems to be a case of forking out dead money.
That, however, is a very long-term view and to anyone who knows exactly what they want and they’re prepared to knuckle down for a slide in value before the inevitable increase, then proceed to buy your slice of Oz.
For everyone else, consider a few sobering numbers which are very broad-brush but contain a powerful message.
Take a house costing $500,000, and assume a mortgage of $400,000 – numbers plucked out of the air just for this demonstration.
The evidence suggests that over the next couple of years as the steam continues to boil off the property market and interest rate rises push up the cost of a mortgage the capital value of the property is going to slip by 10 per cent – once again, a purely arbitrary figure because Briefcase reckons the slide could be more than that.
Whatever the correct fall in value a 10 per cent drop over the next 12 months means a $500,000 dream home is cut in value to $450,000.
During the same time, and assuming a $400,000 mortgage at 8 per cent over 25 years, repayments of principal and interest total $37,044 (at $3,087 a month).
This means that over the next 12 months the combination of falling capital value ($50,000) plus mortgage payments ($37,044) have a notional cost of $87,044.
It could actually be worse because an increase in interest rates to 9 per cent lifts the monthly repayments to $3,356 ($40,272 a year) – an extra $3,228 at the 9 per cent rate.
Someone renting a home valued at $500,000 over the next 12 months will pay somewhere between $350 and $400 a week, or between $18,200 and $20,800 over a year.
The difference in this exercise is a 12-month saving of between $66,244 and $69,472.
There are assumptions and best guesses in this exercise, the biggest being that after waiting a year the buyer can still find their dream home.
However, the gap between buy versus rent in a market of rising interest rates and falling capital values is so great that anyone entering the property market would have to think very carefully before taking the plunge.
In fact, as more people run these simple numbers (and Briefcase is aware of some very sophisticated investors doing just that) the pressure on the property market increases as the number of buyers dries up that little bit further and we accelerate the move towards a new equilibrium – that point when the market is in balance and prices stabilise.
The next big question is how long will it take to reach a balance? Briefcase doesn’t know but suspects that it will take at least a year of decline before we start to bump along the bottom and that we will then be in for another year of flat prices.
The wild cards in all this is the pace of interest rate rises, or whether high oil prices are already doing the job by squeezing the life out of the global economy and whether Mark Latham wins government for Labor at the Federal election.
If that happens then the interest rate spiral could be more severe because Labor governments have historically meant high interest rates.
SPEAKING of a Latham Labor Government it becomes very interesting to plot an investment strategy based on what might happen if Mark moves to the Lodge.
A lifetime ago Briefcase remembers discussing this very question with Bert Reuter, one-time right-hand man to the late Robert Holmes á Court.
Bert’s advice, shortly after the election of Bob Hawke, was to "buy Canberra property".
His logic was that Labor governments were big spenders and believers in big government and the holiness of Canberra as the national centre of power.
It’s hard to remember the precise numbers but from memory that was some of the best advice Briefcase ever stumbled across with residential and commercial property in Canberra booming as the civil service expanded rapidly, government departments wanted more space and lobbyists moved back to the city which saw its best days as a sheep paddock.
The Latham effect could be even more pronounced this time around because John Howard has been on a one-man vendetta against Canberra.
He refuses to live there (smart chap), he has held the civil service in check and shifted government workers out to the provinces – well, as far as Sydney and Melbourne anyway.
All that goes into reverse when/if Latham wins.
The man himself wants to live there and the civil service will follow, creating a perfect environment to turn Canberra into the only growth market in Australian property.
"I always pass on good advice. It is the only thing to do with it. It is never any good to oneself." Oscar Wilde.