Is property investment on the skids?

Tales of extreme boom or gloom always attract attention in the financial press. Everyone wants to ride the wave of the ‘next big thing’ and then when things are going gangbusters there are the equally shrill cries of impending disaster. In recent times it’s been the turn of the property market to be the subject of such wild swings in values and sentiment. So after some stellar rises, particularly in the big capital cities, is it fair to say that a crash is on the horizon?

Let’s look at the fundamentals
The big risk with any investment sector is the power of emotion. It’s a hugely influential factor in relation to growth investments, such as property and shares, but it is seldom a reliable criterion on which to base investment decisions. World renowned investment guru, Warren Buffet, summed this phenomenon up perfectly when he said in relation to markets “Be fearful when others are greedy. Be greedy when others are fearful." In other words, following the crowd can be fraught with danger if you are ignoring fundamental facts and relying solely on jumping on the bandwagon for market excitement.

So what are the fundamentals when it comes to the property market and how might these factors play out in terms of movement in values over the medium to long term?

The basics of supply and demand
At its most fundamental level, the performance of any business or investment sector is subject to the simple laws of supply and demand. It doesn’t matter whether it’s a commodity such as oil, a consumer good such as a refrigerator or an intangible service such as education – supply and demand will affect the value of that product, service or asset. The property market is no different.

So where are we at with supply and demand in property? While population growth through births and immigration will always help to uphold the demand side of things, it would wise to take heed of credible warnings, such as in the Reserve Bank’s October 2016 Financial Stability Review. This states that “the large number of new apartments recently completed and currently under construction in many capital cities raises the risk of a marked oversupply in some geographic areas”.

The Review also refers to the “marked pick-up in apartment construction in recent years”, with inner-city Melbourne expecting around 16,000 new apartment completions over the next two years, while in Brisbane the figure is 12,000 and in Sydney 10,000.

There is a natural lag in the time between apartment approvals and completions, so this surge of completions may well be the result of the rush to take advantage of spiralling property prices that started a couple of years back. It’s impossible to predict the exact impact of any oversupply issues, but it is a factor that needs to be considered by investors considering the property market nonetheless.

The impact of interest rates
The persistently low interest rates of the last several years have undoubtedly been a factor in stoking property price lifts, as this stimulates demand from investors and owner occupiers alike. But how long will interest rates stay low and what impact will it have if they rise? It could be said that we have become accustomed to low interest rates and that it is difficult to imagine how they could have once been well into the teens 25 years ago.

With factors such as a low dollar and low inflation and moderate GDP growth keeping a lid on things, there are no immediate signals from the RBA on rates going up dramatically, but inevitably rates must rise at some point and this may have negative effects on property demand.

The dangers of seeking the quick fix
Apart from the risks of changing market dynamics, property investment will always have inherent characteristics that warrant caution by investors. This includes the cost of entry into the market, such as stamp duty costs, borrowing fees, legal fees, building and pest inspection costs and the ongoing maintenance costs. Then there are the risks associated with placing all your eggs in one basket and a reduced ability to diversify across other investment sectors to help mitigate drops in values.

The attraction of rising values and the lure of making a “quick killing” on property investment may result in investors overlooking these issues. As with any growth investment, the key is to be prepared to be engaged for the long haul, rather than trying to pick winners for the short term.

The need to take such factors into account makes it helpful to get some objective help from a professional financial adviser to assist in weighing up the pros and cons of property investment or looking at alternative investment strategies, in relation to your objectives and lifestyle needs.

Have you witnessed any property investment nightmare stories? Share your thoughts below. 

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This information was provided to the readers of WYZA® courtesy of Bridges Financial Services Pty Ltd (Bridges). ABN 60 003 474 977. ASX Participant. AFSL No 240837. This is general advice only and does not take into account your financial circumstances, needs and objectives. Before making any decision based on this information, you should assess your own circumstances or seek advice from a financial planner and seek tax advice from a registered tax agent. Information is current at the date of issue and may change. Bridges is part of the IOOF group.