Melbourne's Costly Hobby

If the property value goes up every seven or eight years and it doubles, which I understand, I agree – how many years do you have to hold the property for the property to make enough cashflow… to cover your mortgage, your rates, your water and all your outgoings?  Ladies and gentleman it’s sixteen years.  So the property can double in seven years, it can double in eight years but for you to walk away from your job it takes sixteen years… before it makes enough money for you to stop going to your job to support it… so what happens is we find people go ‘I’m worth a fortune’, and they are.  But they still have to go to the job every day at 6.30 in the morning because they’ve still got to put money into the fortune!”

That’s probably the most sense we’ve heard from a property “guru” in years.

Money Morning reader Pat brought it to our attention.  The words come from property financing whizz Rick Otton.

The fact is, most property investors are in the same financial position as the doddery old English Lords of the manor… asset rich, cash poor, and debt heavy.  The Lords have to sell off the family silver to stay liquid.

And property investors have to work harder than before to pay for what is no more than an expensive hobby.

Investments shouldn’t cost you money, they should make you money… that’s why they’re called investments.  If something is consistently giving you a negative return then it’s either a bad investment… or it’s not an investment at all.

The fact is, if you keep pouring in more cash into than you get in return you may as well take up trainspotting or stamp collecting.  At least you’d probably get some enjoyment from it rather than getting yourself deeper into debt with the bank.

Of course, we dispute the argument that properties double in value every seven years.  Simply because the numbers don’t support the claim.

I know you’ve probably seen the charts and numbers that “prove” it, but they don’t.  What you see is a neat number trick.

What the numbers actually show is that property prices have typically doubled every seven to ten years, but only since the mid-1970s.  Over the previous seventy years house price growth was broadly flat.  There were periods of price rises and periods of price falls.

“Ah,” you may say, “But if you take an average house price from 1900 and double it every seven years you’ll get to today’s average house price.”  That’s the other number trick the spruikers like to use.

Sure you do, but all the growth has been in the last thirty-odd years.  Averaging out a number over two distinctly different periods doesn’t provide a fair reflection on the true price action.

It would be like taking the price action of the Nasdaq market from 1998 to 2001 and saying stock prices always move up like that.  You and I know that would be misleading.

But what’s more important is Rick’s comment that it takes sixteen years for a property to be cashflow positive.  Just remember that’s sixteen years in which the house has supposedly doubled in value twice.

Yet it’s not until the seventeenth year that the property investor is able to walk away with a net profit!

Now think about what the payback will be when property values don’t double every seven years.  How long will you need to hold a property for it to be cashflow positive?  Twenty years?  Thirty years?  Seventy years?

I don’t know about you, but seventy years seems like a long time to wait in order to make a $1 profit on a several-hundred-thousand-dollar investment.

I know the stockmarket has been pretty crummy recently.  But at least the buying, financing and holding costs are low by comparison. 

And that wasn’t the only tip-off we got from a reader this week.

It was a tip-off that contains a bombshell backing our call for a house price crash – a house price crash that’s already started based on what we’ve seen of the housing market – even though the official indices claim prices haveplateeeeeaued.

What does it tell us?  Well, if we thought we’d put the stake through the heart of the housing shortage myth, housing index firm Residex has hammered the stake through to the table.

According to its numbers, far from there being a housing shortage, Melbourne has a surplus of 18,000 properties!  That’s right, surplus… not a shortage.  And that doesn’t take into account the huge land release promised by the previous Victorian state government.

If that wasn’t bad enough for the Melbourne market, get this… Melbourne also boasts the lowest rental yield of any Australian city at just 3.3%.

That’s the gross yield of course.

If it takes the average investor sixteen years to be cashflow positive on a property, and Melbourne has below average rental yields, just think how long it could take Melbourne property investors to be cashflow positive.

You’d clearly need the staying power of Methuselah to get any kind of financial benefit from buying a Melbourne rental property!

Boy, is the Melbourne housing market set to plummet once buyers figure out there’s no rush to buy into this over-priced market.

By our back-of-the-envelope reckoning, the Melbourne median price needs to drop about $150,000 (about 30%) just for the rental yield to reach the national average of 4.35%.

And, as you know, when markets fall they never fall to the average, they always overshoot.

Looks like we may have underestimated with our forecast of a 40% drop… who’s to say it couldn’t be a whole lot worse.

Not that the rest of the country is safe.  Another Money Morning reader sent us this email:

“I thought you might be interested to learn about Mandurah in Western Australia in respect of the so called “housing shortage” we have (that argument has been a bit quiet recently).

“…It has been interesting to see that the hundreds of apartments that had been completed when I was here last year are still vacant. I have had a walk around tonight to get a better gauge to see how many lights and flickering televisions could be spotted and my calculations are that maximum 25% of these waterside apartments have people living inside them. There are “for lease” and “for sale” signs everywhere as well as a couple of developments that have stopped half way through!

“Developers and bankers must be hurting big time sitting on these expensive and impressive looking buildings and bleeding heavily while waiting for gullible buyers!

“Moral of the story is that I would be steering clear of WA companies involved in construction related activities.”

As it happens, Residex calculates that Perth has a housing surplus of 6,000.

Our advice for today?

If you’re a property investor (but not necessarily an owner-occupier) then sell Melbourne and sell Perth… unless you’re planning on living to the age of 969… because that’s how long it’ll take to be cashflow positive on your so-called investment.

Regards,

Kris Sayce
for Money Morning Australia 

The Price of Malaysia's Racism

By JOHN R. MALOTT

Malaysia's national tourism agency promotes the country as "a bubbling, bustling melting pot of races and religions where Malays, Indians, Chinese and many other ethnic groups live together in peace and harmony." Malaysian Prime Minister Najib Tun Razak echoed this view when he announced his government's theme, One Malaysia. "What makes Malaysia unique," Mr. Najib said, "is the diversity of our peoples. One Malaysia's goal is to preserve and enhance this unity in diversity, which has always been our strength and remains our best hope for the future."

If Mr. Najib is serious about achieving that goal, a long look in the mirror might be in order first. Despite the government's new catchphrase, racial and religious tensions are higher today than when Mr. Najib took office in 2009. Indeed, they are worse than at any time since 1969, when at least 200 people died in racial clashes between the majority Malay and minority Chinese communities. The recent deterioration is due to the troubling fact that the country's leadership is tolerating, and in some cases provoking, ethnic factionalism through words and actions.

For instance, when the Catholic archbishop of Kuala Lumpur invited the prime minister for a Christmas Day open house last December, Hardev Kaur, an aide to Mr. Najib, said Christian crosses would have to be removed. There could be no carols or prayers, so as not to offend the prime minister, who is Muslim. Ms. Kaur later insisted that she "had made it clear that it was a request and not an instruction," as if any Malaysian could say no to a request from the prime minister's office.

Similar examples of insensitivity abound. In September 2009, Minister of Home Affairs Hishammuddin Onn met with protesters who had carried the decapitated head of a cow, a sacred animal in the Hindu religion, to an Indian temple. Mr. Hishammuddin then held a press conference defending their actions. Two months later, Defense Minister Ahmad Zahid Hamidi told Parliament that one reason Malaysia's armed forces are overwhelmingly Malay is that other ethnic groups have a "low spirit of patriotism." Under public pressure, he later apologized.

The leading Malay language newspaper, Utusan Melayu, prints what opposition leader Lim Kit Siang calls a daily staple of falsehoods that stoke racial hatred. Utusan, which is owned by Mr. Najib's political party, has claimed that the opposition would make Malaysia a colony of China and abolish the Malay monarchy. It regularly attacks Chinese Malaysian politicians, and even suggested that one of them, parliamentarian Teresa Kok, should be killed.

View Full Image

Associated Press

Ethnic Indian Malaysians protesting in 2007.

This steady erosion of tolerance is more than a political challenge. It's an economic problem as well.

Once one of the developing world's stars, Malaysia's economy has underperformed for the past decade. To meet its much-vaunted goal of becoming a developed nation by 2020, Malaysia needs to grow by 8% per year during this decade. That level of growth will require major private investment from both domestic and foreign sources, upgraded human skills, and significant economic reform. Worsening racial and religious tensions stand in the way.

Almost 500,000 Malaysians left the country between 2007 and 2009, more than doubling the number of Malaysian professionals who live overseas. It appears that most were skilled ethnic Chinese and Indian Malaysians, tired of being treated as second-class citizens in their own country and denied the opportunity to compete on a level playing field, whether in education, business, or government. Many of these emigrants, as well as the many Malaysian students who study overseas and never return (again, most of whom are ethnic Chinese and Indian), have the business, engineering, and scientific skills that Malaysia needs for its future. They also have the cultural and linguistic savvy to enhance Malaysia's economic ties with Asia's two biggest growing markets, China and India.

Of course, one could argue that discrimination isn't new for these Chinese and Indians. Malaysia's affirmative action policies for its Malay majority—which give them preference in everything from stock allocation to housing discounts—have been in place for decades. So what is driving the ethnic minorities away now?

First, these minorities increasingly feel that they have lost a voice in their own government. The Chinese and Indian political parties in the ruling coalition are supposed to protect the interests of their communities, but over the past few years, they have been neutered. They stand largely silent in the face of the growing racial insults hurled by their Malay political partners. Today over 90% of the civil service, police, military, university lecturers, and overseas diplomatic staff are Malay. Even TalentCorp, the government agency created in 2010 that is supposed to encourage overseas Malaysians to return home, is headed by a Malay, with an all-Malay Board of Trustees.

Second, economic reform and adjustments to the government's affirmative action policies are on hold. Although Mr. Najib held out the hope of change a year ago with his New Economic Model, which promised an "inclusive" affirmative action policy that would be, in Mr. Najib's words, "market friendly, merit-based, transparent and needs-based," he has failed to follow through. This is because of opposition from right-wing militant Malay groups such as Perkasa, which believe that a move towards meritocracy and transparency threatens what they call "Malay rights."

But stalling reform will mean a further loss in competitiveness and slower growth. It also means that the cronyism and no-bid contracts that favor the well-connected will continue. All this sends a discouraging signal to many young Malaysians that no matter how hard they study or work, they will have a hard time getting ahead.

Mr. Najib may not actually believe much of the rhetoric emanating from his party and his government's officers, but he tolerates it because he needs to shore up his Malay base. It's politically convenient at a time when his party faces its most serious opposition challenge in recent memory—and especially when the opposition is challenging the government on ethnic policy and its economic consequences. One young opposition leader, parliamentarian Nurul Izzah Anwar, the daughter of former deputy prime minister Anwar Ibrahim, has proposed a national debate on what she called the alternative visions of Malaysia's future—whether it should be a Malay nation or a Malaysian nation. For that, she earned the wrath of Perkasa; the government suggested her remark was "seditious."

Malaysia's government might find it politically expedient to stir the racial and religious pot, but its opportunism comes with an economic price tag. Its citizens will continue to vote with their feet and take their money and talents with them. And foreign investors, concerned about racial instability and the absence of meaningful economic reform, will continue to look elsewhere to do business.

Mr. Malott was the U.S. Ambassador to Malaysia, 1995-1998.