Dear Sirs & Ma’ams,
I present for your critique my latest thesis on house prices and debt. Some of you know well that I’m a devout sceptic of the ‘House prices double every seven to ten years’ theory, but to date I’ve been unable to sufficiently prove that house prices cannot and will not double over the next decade. This document sets out to change that problem. I believe I have finally found the ‘smoking gun’ if you will that precludes the theory from being anything but a logical and economic fallacy.Title: Australia’s Debt Mountain – Why house prices cannot double by 2016
Author: foundation
Date: July 2006The last decade has seen a remarkable and unprecedented boom in house prices across Australia. This incredible growth in house prices has come at a cost. The name of this cost is debt. Housing related debt has grown from 44% annual household income in 1995 to 130% today. While much of this increase has been enabled by lower interest rates which themselves were a product of a historically very low inflation rate, there is more to the story. Housing related debt servicing (the proportion of income required to make interest payments on debt) has grown at a rate far in excess of income growth, to the point that it is at record levels. Interest on housing loans now accounts for 7.5% of household wages, compared to 5.8% in 2002 and 4.5% in 1993. In itself, this is no cause for alarm. Certainly there must be a critical point at which debt-servicing ratios become, well, unserviceable, but the current low levels of loans in default (0.6% compared to 6% in 1991) suggest that most households are well able to service their debts at current interest rates.
In addition, foreign debt levels have risen massively over the last few years to $500 billion in 2006 from around $190 billion in 1996. This fact is not critical to our analysis, but may be discussed later. The cause of this rise is primarily offshore borrowing by commercial banks for the purpose of financing the house price boom.
Some facts and figures
2006 housing debt: $700 billion
2006 population: 20 million
2006 workforce: 10 million
2006 dwellings: 12 million
2006 average new mortgage: $215,000
05/06 dwellings turned over: 600,000
05/06 housing debt growth: $129 billion.
05/06 house price growth: <1%A startling consideration emerges from these simple figures; that total debt levels have grown substantially despite a very low rate of house price appreciation. The explanation for this is simple. Not all houses are bought and sold every year. The historical average turnover is around 5%annually, a level to which we returned last year following a couple of years peak above 7.5%. This implies that a change to house prices has a long-lasting effect. If house prices rise in one year, then stabilise, total debt levels will increase for twenty years.
Scenario A: House prices stagnate for ten years
What happens if house prices do not appreciate nominally over the next decade? Assuming that turnover continues at the historically unremarkable rate of 5% per year, total new debt will need to be added at a rate of $129 billion per year. This totals to nearly $1.3 trillion dollars, which if added to current debt, amounts to a staggering $2 trillion. Certainly, these are big numbers, but what do they mean? Are they realistic?If Australia’s total housing debt reaches $2 trillion, this equates to $200 thousand dollars for every working person in the country – an increase of over 200% from the current level of $70 thousand. Assuming the currently prosperous economic times continue, we can perhaps expect wages to rise by 4% per annum. A reasonable ‘best-case’ scenario would be steady interest rates. So how can the debt-burden be represented? We’ll use a simple Debt Servicing Ratio (DSR), representing the proportion of post-tax income required to make minimum interest-only payments. Note that this is not the same as the official (ABS) previously quoted DS/Household income, it is calculated from the above “Facts and figures” (rightly or wrongly!).
2016 DSR would be 34%. Currently this figure is just short of 17%. So if house-prices do not rise, the cost to the economy will be significant, as interest payments on home loans would remove 34 cents from every dollar earned. This means $143 billion dollars (up from $50 billion today) every year would be spent on interest, where it otherwise might have paid for personal debts, been consumed, saved, or invested. Remember, this cannot be considered investment, as regardless the purpose of the loans, this money is only paying interest, it yields no net improvement in total balance.
These are big numbers, but admittedly, they alone might not break the bank. In fact, the average worker earning $57,000 gross might be perfectly content paying $14,000 in interest. But it must be remembered that it takes not ten, but 20 years for the entire housing stock to be turned over. Let’s look further forward.
2026 DSR would have peaked at 37% of net annual income. The burden to the economy would have risen to $236 billion annually. Still, this may not be disastrous… or will it? A recession is considered to be 2 or more consecutive quarters of negative growth in Gross Domestic Product (GDP), and it’s a safe bet that if the total dollar value of debt servicing outstrips GDP growth, we can be sure that the DSR has surpassed its critical sustainable level. While GDP is subject to many variables, and much variation, the average GDP growth of the last decade (at 3.6% per annum) can be considered surprisingly strong, and therefore forms the base of our ‘best-case’ scenario.
Debt servicing at $50 billion currently represents around 5% of GDP. By 2016, debt servicing at $143 billion would represent around 10% of GDP. Probably not enough to bankrupt the country, but the billions of lost dollars must have a depressing effect on GDP, so the proportion may be much higher.
So this scenario is, although highly unlikely, possible, under ideal economic conditions. It should be noted that this relies on 3 volatile variables – sustained 4% wage inflation, sustained 7.2% interest rates, and sustained 3.6% GDP growth, and would be vulnerable to external shocks such as terrorism, pandemics, currency fluctuations and any number of other adverse actions.
Scenario B: House prices double over ten years
Now lets look at the effects of house prices rising by 7% annually. Once again, we’ll assume turnover of 5%, interest rates at 7.2% and wage growth at 4%. Total new debt will begin again at $129 billion per year, but by 2016, it will be over $237 annually. This totals to nearly $1.8 trillion dollars, or when added to current debt, $2.5 trillion. Again, big numbers, but how big? Surely this is just 25% higher than the previous estimate for stagnant house prices?2016 DSR would be 42%, and climbing. After 20 years, this DSR would take 68 cents from every post-tax dollar earned, and after 30 years… After 30 years, from every take home dollar earned by every worker, the banks would demand one dollar in interest payments. Every single cent would go to maintaining debt for our fabulous houses, which would be valued at a little over $1.7 million each, on average. Repayment of the loan would be impossible.
Conclusion and discussion
Ok, so perhaps this faux-semi-serious analysis has run off the rails and become a little silly. But it can be used to draw a few conclusions:– House prices cannot double every seven to ten years in a low inflation, low interest rate environment.
– House prices, at least over the long-term can only rise in line with wage inflation.
– A slow unwinding of current house price excesses will have a massively detrimental effect on our economy.The potential of the last point is predicated on the following requirements; the willingness of foreign investors to provide hundreds of billions of dollars in additional funds, the willingness of future buyers to purchase houses that are not going to appreciate in value for the foreseeable future, the willingness of negatively-geared investors to continue funding loans where expenses are higher than capital appreciation, and ongoing strong economic growth in excess of debt-servicing obligations.
Hopefully some readers will have had an “ah-ha!” moment somewhere along the way, and if not, here’s a prompt. Normally, only 5% of houses are bought and sold in any one year. If increased demand (enabled by low interest rates, government incentives, taxation changes or what-have-you) leads to house price appreciation in excess of wage inflation, we should collectively step back and think about what’s going on. If 7.5% of houses are traded at a 50% premium to the price that most of the remaining 92.5% of the stock were traded for, we should not assume every other house is ‘worth’ this premium. The true total value of every house can only be determined by a 20-year average. If you like, the true value of my house today is somewhere near the middle of its value in 1996 and its value in 2016. So if house prices can only rise at the rate of wage inflation over the long term, and my house has risen in price since 1996 by the magnitude of 20 years wage growth, the prospect of significant further price appreciation over the coming decade is fairly unlikely.
Unfortunately, very few people are capable of even such simple economic thought, and the banks prey on this fact. They are happy to let every single house-owner think that their house is currently worth whatever the market rate is, and take on debt to near that value. This has at least 4 notable effects:
1) a depressing of future economic activity
2) lower potential for sustainable long term house price growth
3) a high potential for further short-term house price inflation at levels unsustainable over the long-term.
4) increased buyer expectations of long-term high returns.Unfortunately, this can clearly become circular, and guess what? The banks don’t care. In fact, they encourage it, to the detriment of us all. It’s worth noting that the perception of the buyer (effect 4) is in complete contrast to the true situation as prescribed by 1) and 2).
So is there an alternative? Of course, there are a couple. The first is for lending controls, where valuations are either required to be averaged over a few years (thus defusing the circular reference where higher house prices allow higher lending enables higher house prices allow…), or even a cap on the number of loans and refinances allowed in any one year. About 10% would be enough. Both options are unpalatable, both politically and socially. Politicians don’t want to be seen to be controlling financial markets, nor do they want to lose the taxes they rake in from loans and turnover. The public wouldn’t like to think that the government was preventing them from getting rich through house investment.
The other option is for house prices to make up a considerable (around 15-20%) component of the Consumer Price Index (CPI) indexed to regular (pre-boom + wage inflation) levels. The result would be interest rates that reacted to higher house prices by rising. This would increase the attractiveness of regular saving, while increasing the cost of speculative house buying. The whole show could still move up in line with wage increases, which is the only way house prices can sustainably rise over the long term. It would have a more important role in ensuring economic stability and prosperity. Funny enough, this is the whole point of the Reserve Bank and their inflation-targeting control of interest rates.
Pfft. Anyway, I’ve strayed far from the straight-line I intended. Thanks for reading. Please add any corrections below and I’ll incorporate them when I get the time.
Regards, F.[cowboy2]
Hey F,
You know I am a pretty big fan of yours when it comes to analysing “stuff” and getting hold of all sorts of quirky data.
But I gotta say, some of your high level macro economic theory is really interesting and all, but I simply cannot possibly see a way where I can personally benefit from reading it ?? It reminds me of listening to Paul Keating when he was in full flight back in the late 80’s. He could bang on all week about that high level stuff, and I wouldn’t be able to profit from any of it.
It’s akin to the poor, dishevelled economics lecturer at University. Knew all of this high level stuff backwards, but couldn’t actually see how to invest himself and ended up poor as a church mouse.
We have houses that have doubled over the past 3 years, and some that have quadrupled in the past 8 years, so when you talk about houses not being able to double in 10 years, it just doesn’t make any sense to me….maybe that’s your whole point ??
Warren Buffett has been diligently grinding out about 22.8% compounded over the past 41 years, so I know it (investing) is sustainable if you have something special going on.
So, now that you have written all of that, what is your personal economic plan for taking advantage of that knowledge ?? Or do I take it, that you are saying investing in houses is a mug’s game and there is something better out there. You won’t get any argument from me on that score.
A fair question Dazzling. Perhaps I should have given more thought to that question before I posted, but that was never my aim. You see, I’m the kind of kid who would rather pull apart the toy and find out how it works… then once satisfied, leave it in pieces. I will address your question later, but for now, I’d just like to thank you and the other moderators for their tolerance of my ramblings.
Some additional data on the composition of recent household expenditure. Remember, if house prices do not rise over the next decade, around 17% will need to be added to housing costs, and the same amount removed from other components.
Source: 6530.0 – Household Expenditure Survey, Australia: Summary of Results, 2003-04
Essential
Current housing costs (selected dwelling) – 16.1%
Domestic fuel and power – 2.6%
Food and non-alcoholic beverages – 17.1%
Clothing and footwear – 3.9%
Household services and operation – 6.1%
Medical care and health expenses – 5.1%
Transport – 15.6%Non-essential
Alcoholic beverages – 2.6%
Tobacco products – 1.3%
Household furnishings and equipment – 5.8%
Recreation – 12.8%
Personal care – 1.9%
Miscellaneous goods and services – 8.9%Cheers, F.[cowboy2]
Foundation, thanks again, one part of me agrees with it, and another part thinks there must be a fallacy….somewhere.
This boom has been triggered by many factors, including political tinkering, (dereg and home buyer grants..some of this was over due some just to save furry butt after GST). The spruikers (hey Steve) had a accelerating effect, with the result that the Hot Issue in Sydney now is child care. Why because women who would drop out for 2 -8 years out of the workforce now give birth during lunch hour and are back by three.
It was not natural growth. Don’t know if your figures prove it, (still looking for the fallacy…..can’t find it) but feel it’s true.
The big question on this and not sure how you factor this in is the generational wealth shift from the boomers.
Read what I can on it but, can’t get a feel for what it will do. Some articles talk about large figures handed down others factor on the grey nomads spending and health costs.
One alarming figure was that many still expect to be in debt in there 50’s (but again was this home debt or investment debt)
Without knowing why I think you are on the right track, …… I keep thinking Japan,
Originally posted by foundation:A fair question Dazzling. Perhaps I should have given more thought to that question before I posted, but that was never my aim. You see, I’m the kind of kid who would rather pull apart the toy and find out how it works… then once satisfied, leave it in pieces.
OK, so what exactly is the aim ??
You are trying to prove that a “smoking gun” exists to shoot down the ‘theory’ of the houses double every 10 years….
OK, no problems, but what are you going to do with the smoking gun when you do find it ??
Surely this isn’t a highly technical “I told you so” session. Even if it is, I cannot for the life of me figure out where the end of the line is with this ??
Footnote : Both you and I have been members of this forum now for about 18 months now F, and you have consistently maintained this line. 100% for consistently. In that time, we’ve seen substantial growth, well above the “median” figures presented above. In that time, have you also managed to capture large capital profits from your obviously profound house market knowledge.
P.S. How much would you want to be a full time property researcher for our group ??
Cheers matey.
Ok Foundation,So what do we invest in then?
I’ll put a more positive spin on things.
You could start investing in commodities like Silver which is predicted to rise further.
current stocks are getting lower all the time.
The government after flooding the market years ago has started to buy it back.so let’s hear 1 from you, so we will all be able to sleep at night and not worry about the horrendous property market.
Cheers
Dazzling, I will get back to your questions shortly, promise.
Flash, I bought a few dozen bullion-grade fine silver one ounce coins over 2004 & 2005. Also some Unc Australian Mint silver coins ranging from an ounce up to a couple of 10oz’ers. All bought when silver spot was less than US$7. None for more than AU$10.50. Currently up around 66%.
I also bought gold coins during ’04/’05. 1/10th, 1/4, 1/2th oz Maples mostly plus a couple of handfuls of Australian sovereigns, half sovereigns, a couple of 1/4oz Panda, and my fave – a mongolian 1oz decorated with cartoon-style chickens. My cheapest oz was IIRC AU$511, and my most expensive was $600. Currently up around 48%.
So I’m hardly a stranger to such ‘alternative’ investments. If you searched for some of my older posts you’d find references to this. I’m happy to talk about what I’m doing, but you won’t get anything out of me that could be considered investment advice. So I can’t directly say things about buying shares in debt-collection agencies like CLH*. Or things about food commodities*. Or gold* and silver miners. Or oil producers*.
Cheers, F.[cowboy2]
* Disclosure: The author holds shares in each of these companies and/or sectors.
Theres a number of worthwhile considerations which haven’t been made which would affect the outcome of the scenarios. Unfortunately, a lot of them are unpredictable and hard to enumerate. Such as:
1. Population growth – Australias population will continue to grow. This means demand for more housing. Also, if more people are of working age and earn the average wage, the amount of money available to spend will increase. There are both positive and negative impacts of this on house prices.
2. Living trends – people may prefer to live in smaller dwellings with less people per dwelling. This creates an impact on property.
3. Global Money market – As long as interest rates in parts of Asia are around 0.5-1.0% banks will want to lend money to Australians who will pay 7%
4. Generational changes – Some say Gen X’ers are quite greedy and Gen Y’s are more determined to delay gratification to save money to buy a house, or not spend as much generally.
While a lot of these can’t be quantified, thats what makes analysing the property market so interesting. If we all knew what was going to happen, there would be no opportunities. If I were you I’d spend less time worrying about that and more time finding them. Or don’t, all the more for everyone else. [aacool]
Chris
Originally posted by chrisconuts:Theres a number of worthwhile considerations which haven’t been made which would affect the outcome of the scenarios. Unfortunately, a lot of them are unpredictable and hard to enumerate.
Too true, Mr Conuts. That is why I deliberately simplified the numbers, and assumed ‘best case’ scenarios for wage growth, economic climate etc. For what it’s worth, I also forwarded my thoughts to a number of economy lecturers, writers and forecasters. Will be interesting to see what they think. I’ll address your issues one by one.
1. Population growth – Australias population will continue to grow. This means demand for more housing. Also, if more people are of working age and earn the average wage, the amount of money available to spend will increase. There are both positive and negative impacts of this on house prices.The number of ‘working age adults’ (my definition – age 18-65) will be in decline within 7 years, regardless of immigration. This implies a falling real gross aggregate household income.
2. Living trends – people may prefer to live in smaller dwellings with less people per dwelling. This creates an impact on property.Agreed, although I’m unsure whether this trend is set to continue. Rising rents, for example, would encourage larger households. Regardless, smaller households do not add to aggregate incomes, and cannot therefore support higher house prices over the long term – which is the whole point of the OP.
3. Global Money market – As long as interest rates in parts of Asia are around 0.5-1.0% banks will want to lend money to Australians who will pay 7%Not quite. Interest rates are set to rise in Japan (as confirmed by bankers). They are already rising in most parts of the world. This must lead to lower liquidity levels worldwide – Ie, borrowing $100 billion per annum to buy unproductive assets is less likely in future than today, given the competition from other investments. I have a whole other 4-pager on this issue…
4. Generational changes – Some say Gen X’ers are quite greedy and Gen Y’s are more determined to delay gratification to save money to buy a house, or not spend as much generally.Once again, intention/propensity to save really can’t benefit aggregate income. In fact, lower consumption spending will/does impact negatively on an economy founded on debt-spending (especially for home-buyer types working in retail/debt finance etc). Thus, less jobs, lower incomes….
If I were you I’d spend less time worrying about that and more time finding them. Or don’t, all the more for everyone else. [aacool]You’re welcome to ‘them’. Just keep away from the assets that actually have the ability to appreciate in excess of inflation over the next 20 years while I’m still in my ‘accumulation phase’.[biggrin]
Cheers, F.[cowboy2]
PS – you forgot one, so here’s a free kick:
5. Australia has abundant resources. These are in massive demand from the emerging economies of China, India, Pakistan ect. This will support higher prices and perpetuate the ‘commodities supercycle’.Sure, but current estimates place Aus’s total economically viable resources (current, proven and estimated) at a little under $15k per person (RBA figures). Even if we dug them all up and sold them tomorrow, they’d pay for less than half our current housing debt. Double them in both quantity and value as an assumption of our ‘supercycle’ theory and they still can’t support entirely the additional debt required to sustain current house prices (in real terms) over the next 20 years, let alone double….
Hey…. what’s the go Chief ??
I ask one simple question and get put on the backburner….Yeah yeah, I “will” get back to you later he says.
Then, much later, Mr Coconuts asks 4 or 5 questions and he gets 5 or 6 quick detailed replies….with a free one thrown in for good measure. [eh]
Oh well….sitting here twiddling those thumbs….I’m sure there is a point to all of this !!!!
[baaa]
great read foundation,
I agree with many of your thoughts and share the same opinions!!!!!!!
P.S just ignore dazzling everyone else does[biggrin]Originally posted by Dazzling:
[navy]OK, so what exactly is the aim ??
Surely this isn’t a highly technical “I told you so” session.No. And a little bit of yes. I would have kept looking at this until I worked it out to my own satisfaction. I posted it here to a) share information, b) as an opportunity to accept criticism and corrections and c) because I’m sick of writing “No they won’t” AND an explanation every time somebody plugs in their keyboard, switches off their independent thought capabilities and bleats “House prices will double…” etc. Now I can simply post a link to this thread, rather than detailing my reasons.
Should I be content to let people make statements that I believe are false, or misleading? For healthy debate, the person espousing the theory holds the burden of proof that the theory has some basis. Unfortunately, this theory is oft repeated, and rarely challenged. When challenged, the proponents can provide no better answer than “because over the long-term, they always have.”
There’s an old Chinese saying that “three men can make a tiger”…
Footnote : Both you and I have been members of this forum now for about 18 months now F, and you have consistently maintained this line. 100% for consistently. In that time, we’ve seen substantial growth, well above the “median” figures presented above. In that time, have you also managed to capture large capital profits from your obviously profound house market knowledge.The short answer is no, but rarely is an answer short for me. In the past 18 months I’ve watched the building progress of 2 houses. One was built to CofO, and required me (with a little help from some friends) to just paint & decorate. 12 months after completion I’ve still got a few bits of trim and a couple of doors to paint. I also constructed some 80m of paling fence, a deck, concrete paths and gardens (these jobs all single-handed). Meanwhile, the other house was constructed to lock-up plus internal walls, leaving the g/f and myself to install skirting & architrave, cornice, cupboard shelving, bath & showers as well as painting and organising contractors to install plumbing, electricity, kitchen etc.
Now for the figures:
House 1
600m^2 of dirt for $60k (2003)
87m^2 of house for $85k
Current market value around $235-250k. 2 similar style houses on the same street (both 3br vs my 2) are advertised at 315k and 330k. Cheapest vacant block within residential boundary (which is strictly controlled due to coastal communities policy) is $130k for 600m^2. All told maybe 100k paper profit?House 2
2000m^2 of dirt for $20k (2001)
170m^2 of house for $160k
Current market value minimum $330k. Closest vacant blocks selling fast at $90k for 700m^2, with none of our uninterrupted views. It’s a real ‘character house’ too. The sort where if we’re having a cuppa on the verandah, complete strangers will stop to say “Oh we just LOVE your house!”… which is nice. More rewarding than a $150k paper profit. Now it’s officially hers not mine, but I think it still fits the criteria for ‘capturing large capital profits’, given the time, energy, skills, tools etc. invested.Err, that’s the extent of it. I know these kind of numbers are pin-money to many people on this board (and perhaps even amusing) , but neither of these houses were constructed for profit motives. The whole aim was to improve lifestyle. The big house is a place where we can live comfortably and perhaps think about having a family. The beach house is somewhere to get away from it all, unwind and enjoy the sand, sun and ocean.
P.S. How much would you want to be a full time property researcher for our group ??Thanks but no. I have a rewarding job just now, but I can do you one better. How’s about if you’d like a bit of research done, a question answered or another viewpoint you let me know, send me any specifics for the task and I’ll look it over for free? Either PM me or post here. If it interests me, is within my capabilities and I have the time, I’ll get back to you with a short report/opinion/relevant stats. If not I’ll let you know. What is more I will merrily do the same for anyone whom has a quality question. And nothing that requires travel / phonecalls / broadband / subscription-only data.
Cheers,
F.[cowboy2]Foundation,
I am also someone who likes to pull things apart to see how they work. I am a keen fan of modelling housing scenario’s. I could quite happily blow a whole Saturday modelling how to take over the world. Its great fun.
Ur post when I read it on Friday quite interested me, and I said to myself, “on Monday I’ll have a play with that …a very interesting post indeedâ€.
Well todays Monday and I’ve had a play and I’ve gotta say I’ve a serious issue I’d like to bring up. I think what u have written comes unstuck because u have forgotten one very important factor.
What about the people who have just sold a house? … there seems to be no balance in ur argument.
U say there are 600,000 dwellings turned over each year, with the average mortgage being 215,000. Ur $129 billion housing debt growth number comes from 600000 x 215000. This number is actually the total value of new mortgages issued… not housing debt growth.
What about the people who have just sold a house? What do they do with the 245k they have just received for their property? (215K + 45K deposit – 15K selling costs)
If ur saying it takes 20yrs for a house to turn over… I assume the owners would have paid off most of the existing loan’s principle during those 20 yrs.
But lets assume they haven’t. Lets assume no principle has been paid in Australia for 20yrs (untrue). Lets also assume the seller owes the entire value of the house (again untrue due to 20years appreciation). When he/she sells, the money would go to the bank, and the bank would pay off its debt to whatever international institution provided the money to start with.
Assuming no principle paid off (ever) and no appreciation over the past 20 years, I’ve run a rough scenario of housing debt increase between now and 2016 at the following (ur assumptions):
Initial debt – 700bill
Interest rate – 7.2%
Turnover – 5%
Future appreciation – 7%I get a 18bill increase in housing debt in yr 1 and a total housing debt of approx 900bill by 2016.
In reality, it would be less than that, as the average person selling a house would have some equity in it, and that cash (equity) would stay in the country.
Am I on the wrong track? I look forward to thoughts on this…
Cabo Wabo
Originally posted by Cabo Wabo:U say there are 600,000 dwellings turned over each year, with the average mortgage being 215,000. Ur $129 billion housing debt growth number comes from 600000 x 215000. This number is actually the total value of new mortgages issued… not housing debt growth.
Ah, thanks and well spotted Cabo. That explains why the RBA statistics show the following aggregate housing credit figures (April):
Year__CredtGrwth_Total
2000__+44_billion_297_billion
2001__+47_billion_344_billion
2002__+59_billion_404_billion
2003__+73_billion_476_billion
2004_+103_billion_581_billion
2005__+89_billion_669_billion
2006__+84_billion_753_billion
Source: http://www.rba.gov.au/Statistics/Bulletin/D02hist.xls
A fair bit lower than $130 billion, admittedly.What about the people who have just sold a house? What do they do with the 245k they have just received for their property? (215K + 45K deposit – 15K selling costs)Well, if we break it down roughly:
5% of houses turned over annually.
– 1% = First home buyers (20%)
– 3% = Existing home owners with existing mortgage (60%)
– 1% = Investors (20%)
Ok, now despite the recent investment boom, investors still only own only around 20-30%(?) of all dwellings. This indicates that there is a reasonable balance between investors selling and investors buying. Existing home-owners generally move house – either to trade-up, trade-down or move locations. The proceeds from the sale of their old house is reinvested into the new house (and an average $100k extra loan was acquired in 2004). So the only place where any scale of profit enters/leaves the system is FHB buying or retiree/deceased estate selling. Sure, there are a very few people who have ‘sold to rent’ either by design or accident, but I doubt the numbers are significant.If ur saying it takes 20yrs for a house to turn over… I assume the owners would have paid off most of the existing loan’s principle during those 20 yrs.Which is why I ignored the value of loans outstanding at the ‘other end’. A house bought 20 years ago will have next to no debt secured against it. If it is re-sold today, it will have debt secured against it up to whatever value the market will allow. I get your drift though – do you think it should be added to aggregate income?
But lets assume they haven’t. Lets assume no principle has been paid in Australia for 20yrs (untrue). Lets also assume the seller owes the entire value of the house (again untrue due to 20years appreciation). When he/she sells, the money would go to the bank, and the bank would pay off its debt to whatever international institution provided the money to start with.I disagree. If they are the 3% of sales per year that sell one house to buy another, there is no cash to deposit in the bank. Investors are also a closed loop. And in the remaining 1% of sales where cash does leave the system, this cash is often diluted through multiple benefactors or handed over to an expensive nursing home or used to fund the final fragile years of one’s life. In other words, consumed, not saved. Generally.
Assuming no principle paid off (ever) and no appreciation over the past 20 years, I’ve run a rough scenario of housing debt increase between now and 2016 at the following (ur assumptions):Initial debt – 700bill
Interest rate – 7.2%
Turnover – 5%
Future appreciation – 7%I get a 18bill increase in housing debt in yr 1 and a total housing debt of approx 900bill by 2016.
Yep, but here’s the thing – the whole crux of my argument. That $700 (actually, $753 billion) billion is the current aggregate debt secured against current aggregate asset values of over $3 trillion!
I’ll break it down:
– if 600k houses bought with an average $215k loan in the year
– then even if they were ‘maxed on credit’ at 80% LVR^
– implied average value of houses sold is $269k
– implied aggregate value of houses sold is $161 billion
– if this represents 5% of all houses* then implied total value of all houses is $3.23 trillion
So you’ve looked at 7% appreciation on $700b debt, which comes to $18b, but 7% appreciation on $3.23 trillion valuation comes to $226 billion in year one!^ As you pointed out, most buyers (the 60% OOs) bring some cash to the deal, so actual valuations are likely to be considerably higher!!!
* Here’s another thing you can perhaps look into. How many dwellings are there in Australia? Figures from REIs have current turnovers at around 5% at 596,000, which implies a total dwelling stock of 12 million as used in my initial musings. This is easily supported by ABS figures showing, in April alone, $13.2 billion (OO) and $5.9 billion (IP) was loaned against 59,500 dwellings. However, the 2001 census only estimated 7.8 million dwellings. I doubt there are 4 million holiday houses…
Then back to the RBA figures 12 months to April:
– 482k new mortgages (excluding refinancing)
– $108b new mortgages (excluding refinancing)
– 689k new mortgages (including refinancing)
– $149b new mortgages (including refinancing)
So perhaps their 5% turnover = 482k dwellings? For a total of 9.6 million dwellings and a total current value of $2.7 trillion ($108b x 20)?Anyway, good to be mulling this over with you! And thanks for catching me out with $130 billion. I might run through the sums at $84 billion and see what it turns up.
Cheers, F.[cowboy2]This is good fun. I’ll get back to u.
Stay tuned.[suave]
PS. Have u guys read Macquarie’s latest 06 property report called “The World Squared” (free on their web site)? If not, do me a favour & read it!!…. or more to the point, read the 3 chapters on residential (especially residential), China, and the USA….. I WANT TO DISCUSS those 3 chapters.
Cabo Wabo
I’m enjoying this topic, nothing like a healthy (non aggressive) argument.
If you want an extremely basic opinion from someone much younger, I simply reckon that free money is unsustainable and tulip mania is in motion.
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