Oh, I forgot. That thread mentions an appeal – the case did indeed go before the supreme court and the original finding was upheld.

Ha. Yes, every time I see a P plater buy a new or near new 6 cylinder car…

(When did they start doing this? Thirteen years ago, 'sweet wheels' meant anything less than a decade old that your nanna wouldn't drive… or an EH or FJ wagon)

Anyway, back to my point. I just want to shake them and say…

"Do you realise you could have bought a cheaper car, invested the difference, and retired 5 years earlier?"
Or if they bought the car on a 7 – 10 year plan, "10 years earlier"?

Not that I believe they shouldn't have the choice, just that I don't think they've been taught to think like this.

It's a disease. It's a social disease.

Talking about money marks you as greedy and scroogeish and 'rubbing one's face in it', especially to indebted people who go paycheque to paycheque. Yet they can live in an enourmous house, drive a horrendously bling-bling car (of course with a superflous 'rear-wing'), have the latest doodads, wear clothes that look like billboards and talk endlessly about expensive holidays…. notice any hypocrisy? One person can't talk about what they do with their earned and saved money, the other person can boast (or bling) about what they do with their borrowed money!

Don't get me started on budget shopping… briefly though :-p… for example I get all my toiletries, kitchen and laundry supplies for 1/4 to 1/2 price from a discount warehouse kind of shop. The look of horror that passes over the face of people when I tell them… why? The stuff is the same as in the supermarket, I just get to keep an extra $20+ per month. And when did supermarket shopping become classy anyway?

Then you've got the money/investment magazines constantly reviewing "the best credit card deals". Duh, stupid. The cheapest credit card is the absent one. I don't have one, won't ever have one, and don't need to read how many dollars I can "save" by switching to Virgin…

Just getting warmed up here…

F. [cowboy2]

To danniellee,

Your entire post has shown that you do understand the fundamentals. This sums it up perfectly:

But it doesn’t end there. If prices continue to rise faster than wages, they will take 100% of net wages, then 100% of gross wages, then 150% of gross wages etcetera. People continue to tell me that this is a plausible scenario. No wonder I’m intolerant!

Good for you, by showing you can think this through, you’re in a very small minority*! Just be sure to do your own thinking, don’t let important decisions be overly influenced by what some crazed lunatic with a calculator (me!) says anonymously on an internet forum! The only thing I can guarantee is that over a long period (many decades) house prices can not and will not rise more than wages. They certainly can over a 10-20 year period. That has been shown by the last 20 years. Check out this chart of Sydney house prices against wages for the period 1901-2001:
http://img71.imageshack.us/img71/9599/hpvwagesydneyqm1.jpg

“Would increase”? Think about why prices tend to rise over time. Inflation isn’t a fixed percentage that is added to prices each year. It represents the tendency of prices to adjust to the loss in purchasing power of money. Wages do the same, thus there is no real impact of ‘rising prices’ – the cost of a good remains much the same in relation to wages, only the number on the ticket changes.

Broadly speaking, wages rise on inflation expectations, then the price of goods rises to consume the added purchasing power. Why? Because they can, and because the labour cost of producing the goods for the consumers will have risen. House prices are similar, people tend to spend more as their incomes rise, because they can. Thus house prices rise – perfectly reasonable. Unless the cost is constantly eating more and more of their incomes…

The problem with assuming that “true housing value” (I’m comfortable with equity or net worth) will rise in line with inflation is this: we’ve already seen how much debt levels must rise this year for house prices to stay flat. $90 – $100 billion dollars. Assuming 5% wage growth:

2007 – Interest $65 billion – Wages $450 billion – 14.5% of gross wages required to pay for mortgages.

2008 – Interest $73 billion – Wages $473 billion – 15.4% of gross wages required to pay for mortgages.

See, even with zero inflation in house prices, the cost of mortgages is eating more than the increase in wages! This situation is not inflationary for house prices!

What it is reasonable to assume is that over time (as you’ve already pointed out), the proportion of wages required to service mortgage debt will fluctuate in a range from above zero to… the maximum. Do we know what that maximum is?

F. [cowboy2]

*Keep an eye on http://www.debtdeflation.com/blogs/
It’s still developing now, but will be a great resource for those who would rather hear uncomfortable truths than get sandy ears.

Sigh.

No AUSPROP, you’ve created $200 million in perceived value. And that’s just the problem. Everybody feels richer, but it’s not until every house has been sold at the higher ‘value’ that the new price is confirmed. And once each house has either been resold at the higher price or the owners have cashed out the equity, the new level of equity (net wealth) will be:

$200 million minus the debt

Which will equal whatever amount of equity they had before house prices went up and everybody ‘got richer’!

A change in pricing level that is 100% funded by debt makes us worse off than before on aggregate! The total impact on the economy is a net loss of wealth because we end up with the same amount of equity but paying much more in interest on the loans!

Pre-boom we had ~$900 billion worth of houses with ~$300 of housing debt. Now we have $3.4 trillion of housing with $850 billion of debt. See how we’ve turned $550 billion of new debt into $2.5 trillion of perceived wealth? That’s the same as your example. So far, a relatively small proportion (20-25%) of all houses have been sold or borrowed against at their new ‘values’. We have decades left to pay for the last boom (by taking on more debt) and in the end the current $850 billion of housing debt will have risen to around $2.8 trillion!

Why $2.8 trillion you ask? Because the current percieved value of all Australian residential real estate is $3.4 trillion.

Pre-boom it was $900 billion, versus $300 billion in housing debt. We have not REALLY added $2.5 trillion in value to the housing market, we’ve just inflated it with debt. Because the change in ‘value’ is the product of debt, our final equity will remain at around $600 billion (if the house of cards remains standing), so we’ll have $2.8 trillion in debt and $600 billion in equity.

Say interest rates stay the same, $2.8 trillion dollars of debt will cost $218 billion per year in interest payments alone. That’s equivalent to housing debt staying at $850 billion and interest rates rising to 25%. Not that I’m claiming this will happen, I’m just putting it in perspective.

Now if you’re still following, understand that that is the situation if house prices stay at their current level, not even rising by the inflation rate over the next 20 years. If you’re betting on another boom of similar magnitude to the last, you can triple all these figures.

Sure, wages will go up a bit, but not nearly enough to negate the rising costs. And certainly, as we enter the near-inevitable deflationary spiral, interest rates will come down, but then again, so would house prices…

And finally, remember that even for house prices to remain flat this year, housing debt will have to rise by $90 to $100 billion. The cost to the economy, and our collective wallets will be around the same as a 1% increase in interest rates by the RBA. We all know how the piggies squeal at the thought of just a 0.25% increase…

F. [cowboy2]

PS – 13% because it takes an average of 15.7% increase in housing debt to achieve a 7% increase in house prices.

That ‘picture of the future’ would require Australians to increase the debt owed on housing by around 13-14% per year, indefinitely.

Look at it like this:
– current housing debt = $850 billion
– current interest rates = 7.65% (average)
– current annual cost = $65.0 billion per year (interest alone)

if this figure grows by 13%:
– 2007 housing debt = $960 billion
– 2007 interest rates = 7.65% (average)
– 2007 annual cost = $73.45 billion per year (interest alone)

The more switched-on investor will have noted that the 8.45 increase in interest cost will have much the same impact on our economy as a 1% hike in interest rates ($8.5 billion).

The next year, the same again, but this time the total burden will equate to IRs rising from 8.64% to 9.77%. The third year, to 11.04% and so on. Year 4 12.47%, year 5 14.09%.

Imagine if the RBA decided to raise interest rates to 14% over the next 5 years. Would you expect everything to remain peachy? I wouldn’t.

The impact of 5 years of 6% house price appreciation would be the same on a broad scale as 5 years of massive interest rate hikes. The debt servicing ratio would obviously have risen too, with mortgage interest eating up an extra 6% of our gross household incomes (even allowing for 4% wage inflation and 1% population increase). In just 5 years!

Just one more way to look at the big picture.

If this is all too much for you, take this one statement.

House prices can not indefinitely continue to increase faster than incomes.

There can be no argument about this point. It is simply a fact. Sure, they’ve done so over the last 10 years (and much of the last 35 years), but only because of our insatiable appetite for debt. Household debt has grown from about 30% of our national income (GDP) in the mid-90s to almost 100% today. This is what has enabled you to form an opinion about “average metro growth” and the “picture of the future”.

You can’t have one without the other. If you’re expecting a repeat of the last decade’s house price appreciation, you can expect a repeat of the last decade’s unsustainable pattern of debt accumulation. And then some, given we still need to take on another $1.6 trillion dollars in debt before the last bubble will have fully worked its way through the system.

I’d still love for somebody, somewhere to back up their claims about future growth with an estimate of what it will mean for future debt, and how this level of future indebtedness will not force our country into a long dark recession. It doesn’t have to be based on sophisticated models, guesstimates are fine providing they’re within the realm of possibility.

Cheers, F. [cowboy2]

[edit] Here’s a chart showing household debt growth. Remember, a repeat performance of the last decade (housing % wise) would require a repeat of the debt accumulation. Repeat of magnitude, not size.

http://www.debtdeflation.com/blogs/wp-content/uploads/2007/03/US_v_Aus_HHDebt2GDP.png
[/edit]

Underperforming? Many suburbs of Sydney and Melbourne have lost 10-15% since 2003! I’d say you’ve got an overachiever there!

Seriously, there are so many other factors to consider. Income, holding costs, location etc should all factor into the decision.

F. [cowboy2]

That’s a pretty expensive way to fund a lifestyle!

I assume you’ve been living in this property as your PPOR? If you “re-rent” it, do you have somewhere else to live? “Re-rent” implies that it has been rented previously? These factors are important because you might owe capital gains tax for the time it was rented.

Final question – why would you sell it if you’re going to need to buy again in 6 months? The costs associated with buying (stamp duty, legals etc) can be huge.

Sorry I don’t have an answer for you, but thinking about some of these things might help you choose your own path.

Cheers, F. [cowboy2]

Marc said “in this day and age of 90 and 95% LVR’s, and 100+% loans, it seems to me that the market will become so highly geared that there will be a flood of forfeitures and bankruptcies from people with neg equity and loan repayments far above their capacity to repay should there be the inevitable correction.”

Agreed, but neg equity and high LVR is all that’s required. Even if people can afford to pay, if they’ve no skin in the game and their only asset is in the red, they’re far more likely to just walk away. This is happening in parts of the US as we speak.

Anyway, I’ve changed my tune. This is a great product!

Qualification – under one scenario and one scenario only – Zero percent growth in house prices. In this situation, the buyer saves 20% of interest costs, and loses nothing.

If prices fall, the buyer loses big time. They’re faced with either holding on to the house for 25 years if they want the ‘equity partner’ to share in the loss, or selling sooner and copping the whole loss. But if prices rise, the buyer also loses. How so?

For ease of example, let’s assume 100% financing. Say the buyers get a $200k house with $40k from the ‘equity partner’. Prices increase – say they double over fifteen years, during which time the owner has repaid the original loan. The owner gets their $160k back plus 60% of the $200k gain for a total of $280k.

Now what? If they want to move to an equivalent house, it too will be worth $400,000. They are $120k short, whereas if they had used a traditional mortgage they would be able to buy it with cash.

Same scenario, but they don’t repay the original loan. Now they get their $120k gain, but the equivalent house is $280k more. If they’d used a traditional mortgage they would have only been $200k short and could have transferred the original loan.

Oh sure, they could use this scheme to buy a bigger/better house than they could otherwise afford then refinance out of the ‘equity partnership’ a few years later. Let’s see how that works.

5 years later, the $200k house is worth $250k. Hooray! Big gains, let’s refinance out of the deal! All they need to do is pay out the $40k equity loan, and hand the ‘equity partner’ another $20k. If the bank wouldn’t lend them more than $160k a few years back, is it now going to lend them $220k to refinance? Have their wages increased 38% or are they stickety-stuck?

Seriously, if you’re even moderately bullish on the long-term prospects for real estate, don’t buy houses, buy ‘partnership equity’ (assuming such product becomes available retail). This would be such a money-spinner. Houses up 10%? You’ve scored 20%ROI. Up 4% and you’ve scored 8%. Why buy for a 4% yield when this product gives similar gains from just 2% house price appreciation? That’s less than inflation!

The only danger is that the borrowers might default while house prices have simultaneously fallen. The sub-prime mortgage fiasco in the US makes a good analogy…

F. [cowboy2]