While the news looks bad for investors following the second rise in interest rates in recent months, there’s light at the end of the tunnel. Before I explain why, let me explain, once again, that my own investment philosophy is broadly and I might even admit crudely, contrarian. I believe that markets basically work pretty well, but that they go in cycles of optimism and pessimism and that one can make better than average returns by broadly betting against the market.

So if you did nothing else but bought into markets after they’d enjoyed some sustained period of price falls or low growth and sold after they’d had a sustained period of high growth I reckon you’d do better than average and indeed better than a lot of funds which tell you about their expertise in picking investments (but which broadly follow and often underperform the relevant index).

When I can I supplement that basic contrarian instinct with some research – or some reading of others’ research – to find specific opportunities to benefit, specific investment themes that are consistent with my broad contrarian philosophy. Obviously if there are good reasons for expecting an area to do well, then I’ll buy there if I think it’s a good time to buy real estate more generally.

Some of the takeouts of a contrarian philosophy are that when others are selling that creates a chance to buy advantageously – and vice versa. I bought some property during the property boom and sold it during the boom. Like a lot of contrarians I sold too soon – but at least I made good money and was limiting my exposure.

As I was selling the property, with the sharemarket having performed poorly I figured it would do fairly well (based on not much more than a contrarian perspective). Sure enough it did. But since it has outperformed for several years I’m lightened my exposure. I’ve put quite a bit into international shares via a fund manager I’m very impressed with – Platinum Capital.

I’ve recently started lightening my exposure more and winding back my gearing, and soon I may gear up some more. The evidence suggests that the time to wait to invest in residential property may be coming to an end. (Well the fact is that buying in WA over the last five years was a ‘no-brainer’ that I thought about but didn’t act on sadly. But as you’ll see below, now WA is not necessarily a better investment than elsewhere.)

Here’s a graph of how house prices have performed in the last few years.

As you can see, Sydney’s been pretty crook. But that’s why developers have slowed down their development plans there. And the result of a growing population and reduced development of dwellings is falling vacancy rates.

That’s led ANZ analysts to make this point regarding the NSW market.

With approvals currently trending at an annualised completions rate of 26,400 (compared to underlying requirement of 46,000 dwellings), shortages in rental accommodations and dwelling supply will intensify, providing a powerful catalyst for the next upturn in 2008. By that stage, we estimate the NSW housing market will have unprecedented levels of pent-up demand (equivalent to almost 10 months of production). We expect the current dire sentiment pervading the NSW housing market to improve over the next 12 to 18 months.

These words were written in July before the latest rate rise (though the analysts were expecting the rise that did occur.) Developers are thus operating pretty much countercyclically against the price cycle. They are providing more supply where dwelling prices induce them to – smoothing prices just like you’d expect in an economics textbook. In Perth with strong price rises building looks like outrunning supply putting a lid on price growth (Perth is now rivaling Sydney in unaffordability.) So prices may well come off there in the not too distant future.

For these reasons on the Eastern Seaboard, I think it’s starting to become a good time for renewed property investment, provided you’re in it for the long haul. Don’t expect the big price growth we saw in the late nineties and early naughties. That only comes around once in a long time, but with rental yields for decent investment properties at 5 per cent or so (usually lower in NSW) you only need to pick up a bit more than two per cent a year in price growth and you’re making money what with building depreciation allowances, negative gearing and concessional capital gains tax. Now price growth is most unlikely to be less than inflation over the longer term (which will be around 2.5%) and could easily be two or three percentage points above this – add another few percentage points per annum for well chosen property and you’ve got a very effective long term investment. Now you’ll notice these assumptions are pretty conservative. Even so, property becomes a good investment again!

Here’s ANZ’s snapshot of the next couple of years.

Until next time,

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