Most People Still Think – “You Can’t Go Wrong in Property”

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Friday brought news that the Royal Bank of Scotland was looking to raise another $10 billion. This came amid news that the City (London’s Wall Street district) faced its “blackest day in almost 20 years,” according to the Daily Telegraph, and would lose 3,500 jobs. Which just goes to show how sunny the financial business has been for the last two decades. A little rain would do it good, in our opinion.

Meanwhile, over on the other bank of the Atlantic, Citigroup has issued storm warnings and Merrill Lynch says that it is reconsidering. Citi says it has about 9,000 employees too many; it says a flurry of layoff notices is about to go out. As for Merrill Lynch, the company went on record saying it needed no additional capital. But that was before announcing another $10 billion write-down of subprime debt. Now, the bank says it is “open to” further capital raising.

The price of oil hit a new high of $116 on Friday. The dollar stuck at $1.57 per euro. Gold got whacked – down to $915.

As we mentioned last week, there is a whole lot of flation goin’ on. Our guess is that it will inflate prices of commodities and gold…and that it will deflate (if only relatively) prices for stocks and houses. But you couldn’t prove it based on last week’s market action.

Friday, the Dow rose another 228 points. The stock market is said to ‘look ahead’ and see things that we mortals can’t see. The index went down about 10% since last October, but lately seems to want to go up. What does it see?

We think it sees inflation. But the conventional thinking is that it sees a boom. ‘The negativity has been severely over-done,’ goes the gist of popular opinion. Finance has bottomed out…homebuilding has bottomed out…the dollar has bottomed out. What’s more, the authorities have taken quick and resolute action to cure whatever was bothering the markets. Central banks have injected hundreds of billions into the banking system. The Fed has cut rates sharply. Congress is considering measures to help out homeowners…and here comes the Bank of England, which (according to the BBC) is preparing a $50 billion mortgage bailout plan. Well, that settles it as far as we’re concerned. It should be onwards and upwards from here on out!

As we pointed out last week, the newspaper headlines may be negative, but sentiment is not. Most people think this is a good time to buy a house – meaning, they still think ‘you can’t go wrong in property.’ And stocks at 20 times earnings are no bargains. At real bottoms, you can buy stocks at 5 to 8 times earnings.

At real bottoms, people have stopped looking for bottoms. Our old friend Marc Faber sent a convenient list of quotations from the crash of ’29. A chart of the market action looks like a mountainside, with ledges…followed by more sharp downturns. But on each ledge…at each pause on the way down…there was some notable figure telling the world that it was over:

“This is the time to buy stocks,” said R.W. McNeal in the New York Herald Tribune after the first leg of the crash. “This is the time to recall the words of the late J.P.Morgan…that any man who is bearish on America will go broke.”

It is the “long slope of hope,” says Marc.

As it turned out, anyone who was bullish on America in October of 1929 went broke. Stocks did not return to their ’29 high until the 1950s – after more than 1,000 banks had gone bust…a quarter of the workforce had lost its jobs…and the Dow had given up 89% of its value.

And now, dear reader…the press may talk about depressions, bear markets and credit crises, but we ain’t seen nothing yet. When we get a real bottom, they won’t be talking at all – they will have lost interest. That’s what happens. When we get a real bottom, people won’t be interested in buying stocks; they’ll come to regard stocks as a rich man’s game. And they will once again view houses as a consumer item, not an asset class. As for depression…they won’t need the newspapers to tell them how bad things are.

We think that day is coming. How far out it is, we don’t know. As we often say, we don’t have a crystal ball.

*** More and more indications suggest that there is a kind of decoupling happening. That is, the new economy of the Far East (and to a lesser extent Latin America and Africa) is separating itself from the old economy of Europe and North America.

Prudential Insurance, Britain’s largest insurer, says that Asian sales are now more than half its business. The company can grow, it points out, even with falling revenues from Europe and North America.

Meanwhile, colleague Manraaj Singh tells us that China’s latest growth announcement masked an even more important detail. The headline number – GDP growth over 10% – is breathtaking. But what is more interesting about it is that it is happening while exports to the developed world are actually going soft. That is, the growth is being fueled by domestic demand not foreign buying. This is not to say that emerging markets no longer need their Old World customers. Just that they don’t need them as much as before.

*** Our India expert, Ajit Dayal, paid us a visit last week in London. In the first two and a half months of this year, the Indian stock market got hit hard – the BSE 200 lost 32% of its value. We checked Ajit’s wrists for signs of slash marks and found none.

“I’m not the least bit worried,” he told us. “The India Thesis still stands. Indian GDP should post average growth of 6% per year for the next 10 years. Our stocks will give investors a risk-adjusted return of 15% to 20% per annum. That will make it possible for an investor to multiply his investment 4 to 6 times over the 10 year period.”

Ajit points out that while Indian stocks dropped sharply, they were coming down from a crazy high. A big rush of foreign money in 2007 had sent the BSE skyward. Even after correcting by 30%, Indian stocks are still ahead for the 12 months ending March 19th by 45%.

“Look around your house,” Ajit suggests. “You will find few things labeled ‘made in India.’ India gained little from the housing boom in America. And it will suffer little from the housing bust.”

What does affect Indian equities, though, is the movement of foreign capital. But foreign investors are generally light on Indian shares, while local investors – especially mutual funds – are taking bigger and bigger positions.

Bill Bonner
The Daily Reckoning Australia

Bill Bonner

Bill Bonner

Best-selling investment author Bill Bonner is the founder and president of Agora Publishing, one of the world's most successful consumer newsletter companies. Owner of both Fleet Street Publications and MoneyWeek magazine in the UK, he is also author of the free daily e-mail The Daily Reckoning.
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Comments

  1. I’d like to see how hot China’s economy will be next year when everything really slows down and Olympics are over… I think we might get to see how reliant they really are on foreign demand

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  2. Previously 9% of 12% (Chinese growth) was domestically driven. Is it now 9% of 10%?

    Some indication of the % downturn in credit markets is given by an analysis of bank lay offs, as I assume that the retail arms are largely unaffected at this stage. I haven’t done the sums yet but it may be a good way of estimating the (otherwise concealed) metrics of this disaster.

    The DOW certainly anticipates 70s style inflation cycle. Rather than trying to contain inflation, the Fed is using inflation as a fiscal tool to socialise losses, save home owners, reduce US living standards and prevent the kind of riots that would have occurred had some of the major banks been allowed to fully implode.

    I agree with Robert C. The other key event is the US elections, particularly if the Democrats win. A new Democrat Administration would try to lay as much blame as possible on the Bush Administration by airing the dirty linen as early as possible.

    Coffee Addict
    April 22, 2008
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  3. Property! F… property!
    I’m no A grade mathematician, but I can tell you that the more houses in Australia go up in price, the bigger the mortgage, the more interest repayments long term. The house then, has to increase in value faster and faster just to get your money back if you sell it. I think that at this point in history, houses have way peaked. You buy in now and you buy a negative asset.People say just imagine what houses will be worth in 10 years? FFS! people are bustin now!I really don’t think that scenario will happen for a long, long time if at all.A massive correction needs to happen.

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  4. If you think that houses always go up in price, just grab yourself a couple of old second hand newspapers from the 1930’s, and have a good read of them. You will soon find out that property does NOT always go up in price.

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  5. Can you tell that I don’t own a house;)
    By the way Christina, how the hell did you get your hands on papers from the 1930’s? I’d hate to see your magazine rack!

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  6. Zaphod, you are very smart, because you are here learning. One day you will own your own house because you are a learner. You can get and read copies of old newspapers online. Just do a google search of “old newspapers” National libraries around the world are creating digital versions of historic newspapers and making this rich source of national identity freely available nationally and internationally. Lots of big libraries have a newspaper room, or a media room, where you can go and look them up. It sure is fascinating. The ads from the 1920’s look eerily similar to the affluenza style ads that we are used to these days. Then of course came the bust, and the ads reflected that too. One old ad for vicks cough medicine from during the depression says that “nobody can afford to get sick this winter”, and another ad for saop suggested that poor people could have a bath with their brand of soap and daydream their money wories away.
    You should read the book “Secrets of the millionaire mind” by T. Harv Eker. And Rich Dad, Poor Dad by Robert Kiyosaki. I reckon you will love those books

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  7. “When we get a real bottom, people won’t be interested in buying stocks; they’ll come to regard stocks as a rich man’s game.”

    That may be true but in Australia 9% super contributions means that super funds have a continual stream of cash rolling on and need somewhere to stick it. Its going to go int a mix of property and shares unless they show some initiative and buy gold, oil and other commodities.

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  8. Zaphod, housing values are a cycle and Australia is reaching the top of the biggest cycle in history artificially fueled by the credit boom
    The delema we have in this country is home values are running at a ratio of 6.5 average income to average price of a home when it should be a ratio of 3;1. So how do we correct it, do we devalue assets by 50% or do we double the average wage? The next problem is we still do not have a oversupply of properties around our city centres! That may change over the next three years but for now we have a demand that is suspending values which only dip tempararily when a new batch of defaults come onto the market. Someone will have to lose at the end of all this but thats when the new opportunities begin. Keep this in mind to, the average suburbia loan is around $300,000 with interest only payments around $24,000 plus the liability of ownership on top, that kind of money can rent you a nice place with the flexiability of moving, either way its dead money!

    Diggin it!
    April 23, 2008
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  9. I’m Diggin that! I like to crunch the online calculators for compound savings and to compare that with mortgage repayments. the figures that are produced are amazing!I never underestimate the power of compounding interest.Going by your figures Dig,if your mortgage is $300,000 and I’m using the current NAB fixed rate of 8.95%. That’s $578 bucks per week minimum repayment.I’m renting for $220 per week so if I crunch in that extra $358 into savings.Man!!…..on top of my $30,000 deposit which I had for my house. Whack that in at 7.25% with my $578 per week over 25 years. I end up with $1,498,816.46 less tax.But, of course, we already know this don’t we?

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  10. Your a slick dood Zaphod!Hmmmm i see no children in your calculations they cost about $250k per head to raise less private schooling. Keep it in your pants man!!!!!!

    Diggin it!
    April 23, 2008
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  11. He He,thanks Dig. correction on that last calc:- $30,000 deposit in at 7.25% compounding, no fees, with $358 extra deposits per week, not $578.Equals same figure, and that’s not including rates, water, maintenance/reno’s, stamp duty.Yep,we have no kids either.

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  12. Zaphod: Adjusting for inflation, what do you think $1,498,816.46 will buy you in 25 years? (And yes, tax would affect your figure majorly, assuming your income tax rate would creep up from 30% to 45% pretty quickly – although I do not honestly know if you can claim the half CGT by holding cash for a year, I assume no, thats only assetts?)

    I too have been one to consider all these options in the past. I have found that it is surprisingly hard to find comparisons of “Mortgage vs Investing” for wealth creation purposes. Thankfully my own ability to think independently and not just blindly take the advice of SO many others saying “get a mortgage, you can’t go wrong…you’re silly if you don’t”, etc, has pushed me to find out a lot more information about these things.

    Some may even argue that house prices will go up with inflation, so who cares if you would have 1.5 million theoretical tax free dollars by 2033…thats still roughly how much houses will cost by then (minus the compounded rent you paid in those 25 years).

    I personally think that huge debt is a burden and will not only force you into a life of servitude, but will stifle your career and options. If you cannot afford to lose your job, change job or move country, etc, then you are at the mercy of someone else. Besides, I don’t know if some people realise that $300K is a lot of money! :O

    I am not disheartened by our current housing bubble. I feel very sorry for the people that will get hurt by it – they will get a hard lesson in maths and economics. If you have the cash (30K), and you can keep pace with inflation (or at least real estate inflation plus your compounding rent?) over the coming years, then I suspect that you may find some true bargains in the future.

    Diggin has it right about the kids though. But that’s 250K over a decent amount of time and could include private schooling, depending on how much you spoil the little buggers (I don’t have children).

    Speculating is fun isn’t it? :)

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  13. Let it be known that I do have other things to do with my time;)Breaking news! http://news.ninemsn.com.au/article.aspx?id=451767 Looks like another 0.25% rate hike soon guys.March quarter CPI increased 1.3% to bring up inflation to 4.2%!!! Uglier than a Monkeys bum full of rotten avocados!

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  14. Wow pete! your post just wizzed in about 1 second before mine did.Hey I’m just sittin tight for the moment.Today, in my home town Geelong. Chartwell just went down the tubes taking millions of dollars of investors money with them.Thankfully, I wasn’t one of them.There’s an article today in the DR about it. I feel that a financial storm is a brewin and the best place for my cash is just cash! in the bank at the moment.I’ll look at houses etc. in a couple of years I think.Until then I’m not trusting any snake oil merchant.
    Cheers.

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  15. Well, life is sweet if you use the CPI and the ‘official’ rate of inflation (I don’t trust the government or media to report anything honestly).

    If you are interested, have a search for the M3 money supply – it is an indication of the true rate of inflation – the growth of money supply in an economy – think about your definition of inflation, and ask yourself why it even needs to be complex. CPI only covers selected things.

    From ABS:
    http://www.abs.gov.au/ausstats/abs@.nsf/94713ad445ff1425ca25682000192af2/879DB00B063DBF64CA256CBF001721AA?opendocument&bcsi_scan_251D056966ED747A=KC2octe0Da7yv+5V1/+1OAoAAADtGPQG

    Another good article on M3:
    http://cij.inspiriting.com/?p=394

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  16. I am a qualified Financial Planner.

    Many factors seem to be left unrecognised here.

    rural areas seem to get affected the most with major cities being the most Resilient to any downturn, making the area that one is in another factor in whether or not to buy.

    Also zaphod you fail to recognise that you can only get high rates of return on cash in times of high inflation and high interest rates. What happens when rates are lowered in the future to the earning of your investment.

    As a matter of note you could increase the amount saved by contributing 1000 to your super and recieving 1500 co contribution from the Govt asa gift (dependand on income). put that into your compound calculator and see how good that looks.

    What about the tax concessions on investment property and the 7 k first home owners grant as well as other duty concessions. Also there is another distinction between debt and savings.

    It is highly unlike that someone would save $578 or watever in the age of the consumer society.

    When money is owed the person will reduce luxury items etc.. to meet those obligations. When a person is saving they are much more unwilling to give up the luxurys they are accustomed to reducing the amount saved in comparision to any obligation they might pay.

    Hence the large amount of Australian’s living from paycheck to paycheck. Owning a house may be the only way to hold any investment for many Australians.

    Australias low unemployment rate for the time being will place a hold on any runaway down turns in the housing market, while the rental prices increase (due to short supply in SE QLD anyways with %1 vacancys) will help stem this decline.

    This said, the risk of reduced demand (for everything) and increased unemployment being due to unusually high levels of private debt in Australia and around the world and a credit contraction

    Although there may be some market timing risk in entering the market right now I would not abandon ship immediatly if one was in the market.

    The people that have been singing this same tune for 18 months or longer would not have like to see the REIQ property figures from june 07 to june 08 with nearly all suburbs and towns of queensland increasing in value, some by %20-30.

    That said I myself have not purchased my first property. This does not mean its a bad investment for all. For instance there are many ways to get the best of both worlds.

    For example two brothers buy a house each get 7K and stamp duty concesssions. 6 months later they decide to move out into each other house. In essense they are renting each other house of them making all repairs and interest costs tax deductible, while still gettin their first home owner grant.

    PS I have only been watching the QLD house prices.

    This is not intended as advice or an offer of a service and is merely my personal opinion. Professional advice should be sought regarding your personal situation before proceding with any investment plan.

    regards

    Carl Cavallaro

    Reply

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