how long is the long term ?

It’s paid well to be a ‘long term’ residential investor in australia in the past 10 years.

Things have deviated in a major way from the mean though, but because it has taken been with us for a decade, I think most people do not realise what an incredibly peculiar situation we are in. So are we in a residential bubble ?? Only you can decide for yourself. Here is my 2c worth and I would like to hear other people’s views. Personally I think property will decline in sydney by 50% inflation adjusted, melbourne less. It seems unbeleivable but then we live in an unbelievable time.

Arguments against a real estate bubble :
1. Cases where property prices fall by as much as 60% have happened in only a few places like HongKong and Singapore and Japan : Larger drops occur more uncommonly, but then so are price moves of 100%+ over 5 years. Why do you think people invested in these places prior to the big drop. Try to imagine it. Where prices have run up well beyond their sustainable mean, there has usually been a crash eventually (eg Florida 1929).
2. There is no trigger for the bubble to burst. Before a correction there is always a big trigger like a jump in rates or a recession : also not true. Ever heard of the phrase no one rings the bell at the top ? Well sometimes it’s true, when a bubble is big enough it is so stretched minor stresses can puncture it. Take for example the internet bubble, japanese real estate bubble, the real estate bubble of the early 1940’s etc. There is always something which could have been a trigger but in more buoyant markets this would have been quickly swept aside. People get hit when things change and this previously minor change KO’s the market in a big way.
3. There will be no distressed sellers without a jump in interest rates or a recession and there is no reason to think this will happen : also not true. In the past 3 real estate cycles after the peak, unemployment went up by 30% from base levels. It is a case of putting the cart before the horse : housing activity and houseprices are a large determinant of economic growth. When they turn around, this results in increased unemployment. If valuations and repayments are stretched, people will sell at the margins. This cycle is reinforcing just as the upward ascent of the bubble is self reinforcing. If property prices go down by 20%, there is a good chance of a recession in the next couple of years
4. Real estate in Australia is not cyclical : this is also incorrect. The current cycle (14 years since the last downturn) results in few people having an experience of a downturn. People extrapolate from this to conclude that it will always be like this. Look at the last 50 years.
5. Property investment is always a good long term investment : ditto above. How long is long term. Are we talking about 40 years here ? What about 1945-1965 ?? Things went nowhere for stocks and real estate for 20 years. Wow, it is hardly fathomable now. So they have been going gangbusters for the last 15. What does this mean – just that these cycles can be very long and people have short horizons even when they talk of investing for the ‘long term’.
6. Things have changed : due to the scarcity of land, technology developments, etc. This is usually an indicator of a bubble when people use a new paradigm type explanation to justify unrealistic valuation.
7. Real estate in australia is different from elsewhere : also a false argument. Yes every real estate market has different regional aspects. This does not mean it will not experience significant cyclical variations or that it is not subject to the same fundamentals that dictate all property markets in the medium term (and indeed possibly all markets)
8. real prices have never gone down in property in australia over a period of 5 years. If I am a long term investor I will make money in the long (15 year) timeframe : it is true that the aggregated average price of property has never gone down in real terms by a significant amount. This does not mean you will not lose money. The cost of holding the property will be significant over a 10 year horizon expecially if rental yield is low (as it is in most places in metropolitan Sydney). Also there is no average property – different cities will be at different stages in the cycle. This has counteracting effect on the average nationwide price. It does not mean that your property may not decline significantly over a period of years compared to the base year.
9. The average weekly income of people in sydney/ melbourne is more than other cities and this supports the higher valuations : the weekly income of people in sydney is very simillar to melbourne actually. The difference is less than 5% and cannot account for the 50% difference in price. The average income in hobrat is about 80% of what it is in melbourne and also does not support the current gap.
10. Even if it is overpriced, it can go higher – this is the definition of a bubble mentality – assuming that there will be a greater fool than you tomorrow.
11. There has been no blowoff phase of rises of over 30%pa in Sydney so it cannot be a bubble : there is often a blowoff at the end of a bubble but this is not necessarily the case. For example the real estate bubble in Japan 15 years ago.

The arguments for a bubble, I will be brief as you are all aware of them
1. median income : median dwelling values are astronomical. Through the roof. The ratio over the last 50 years has consistently been 4-6 (except at major turning points) it is currently 10 in sydney. The average person earns 50k in sydney and owns a 500k house. This is bedrock reality. The average person if they took out an average loan in sydney would take over 40 years to pay it off even at currently low interest rates. This is longer than the average person’s working life. This is unsustainable.
2. Real prices have increased by 120% in australia in the last 5 years. It is probably more than this in Sydney. We are number 3 in the entire world for gains over the last 5 years, this is despite other countries like h-k which came off a major correction. As an example, compare us to the US where they are wondering if they have a bubble and prices have gone up by 50% or the UK 90%.
3. This cycle has been exceptionally long. The period since the last recession has been very long. The average is 8-10 years. Things eventually revert to the mean.

So remember this junction in time well, it is an amazing period, we have never been here in terms of real estate valuations in Australia, ever ! You do not know how exceptional things are because you have lived in this ever expanding bubble for the last decade and gotten used to it. It seems almost normal. But it’s not. It is a greater than 3 sigma move from normal. But people cannot seem to imagine things differently. Bubbles breed financial genius before the fall and sometimes this is what blinds them.

Maybe this is not a bubble. Who knows. Anyway, bubbles are notoriously difficult to pick the top as they can persist for longer than anyone expected. Some people say though that there is always a correction. Either this year or next year or in 5 years. And this is what distinguishes them from people who can’t see a bubble. Bubbles are much easier to see in retrospect as following the herd has usually very positively reinforcing for a period of years.

My advice is to seek your own counsel. I am not a financial or real estate advisor so i relly know very little about what is prudent for you.

There are a million ways to make and lose money. All I see is many people, including some of my own friends and people who should be too old to be taking on big risk projecting the last 15 years into the next period and further whilst ignoing the other years of the past century.

‘if it looks like a bubble, smells like a bubble and feels like a bubble, then it probably is a bubble.’