Location, Timing, Location – Bringing it all together
There are a lot of ideas in this book hopefully that have got you thinking about how and when to make your next investment, and make it succeed. I want to leave you with one idea that hopefully brings this all together, before finally dealing in the next chapter with selling of an investment.
So, let’s run off at a tangent for a bit. Something recently reminded me of my days spent in the military and the type of training were put through. One of the training courses, and it was done on an annual basis, was concerning the fighting of fires and the trainers successfully turned an interesting subject [lets set things alight] into one of the dullest experiences, year in year out. I do remember on the feedback form which was duly passed around after a particularly dull session, some bright spark had written:
“If a nuclear war is announced, and we have a hour to live, I would like to spend it with Corporal Jackson [the trainer] as this was the longest hour of my life”
The crowning joy of the fire training was the obligatory “fire triangle”, you are probably familiar with it but I put it below in any case:
The idea is that, for a fire to start and take hold, the 3 elements around the fire need to be in place. Take one away, and the fire cannot start or is extinguished. A useful little idea perhaps, but oh did it get painful on my 20th annual training day when the Corporal first asked us the 3 elements, and then removed one at a time and asked us what might happen. This was always delivered in the style of a magician, the instructor believing he had some passed on some hidden truth or indeed “Fire Station” Alchemy. All very tedious.
Anyway, property.
Well, as it is a useful model [and I know it fairly well] let’s use it for our work to summarise the book. Lets transpose our ideas into the diagram overleaf:
Fuel - Investor Confidence
We can think here about the conditions which put the investor confidence “fuel” in place. Conditions typical for this are:
Recent capital gains, which are well-published in the media in the later stages Economic improvements, unemployment falling or wage rises
Increasing population, often characterised by rising rent levels after a time Investor successes in other markets, and looking to replicate their success
A sure sign that this is in place can be when conducting property viewings. In extreme cases, you could be joining a line of ready buyers all looking around the same property. And the auction houses are either empty, or auctions are being used to bid buyers up well above usual levels. Estate agents in this period get lazy, and often don’t call you back. That sort of thing.
Oxygen - Positive Yield Reward
This element is provided by the ideas we covered in Chapter 4. When a strong positive yield reward is in place, monthly cash returns from day 1 are good, sometimes very good. Interestingly, when yield rewards are very high, it really is a buyer’s market. Auction houses and full of stock and empty of buyers. Estate agents welcome your arrival with red carpet treatment, and you have the pick of an abundant stock. Great times. As the market reaches a more stable state, yield rewards drop and usually go below zero for a long period, a good period to hold a property perhaps but not such a great time to be entering the market.
much “heat” is characterised by the 100% lending, on sometimes questionable property values. A sure sign of things to come, as we all know from the financial crisis of 2008. Another good sign of overheating is the number of new dwellings being completed per1000 inhabitants, per year. In Europe, 20 new dwellings per 1000 is about normal. When new dwelling completions go much above this, it is a good indication that lending to developers has extended beyond demand and are backed by over-exuberant banks. In Ireland for example in 2006, there were 430 new dwellings being completed per 1000 inhabitants. This was 20 times the European “norm” and a very good indicator that finance had overheated, and a very useful “sell” indicator.
Fire - Capital Gain
We place this in the middle of the model, as it needs the supports, to some extent to initiate it. Without all 3 outer elements in place, the capital gain will not start. If the 3 elements are in place but weak, then the capital gain may start but frequently die down. Perhaps the fire can keep going, and even roar for a time without other elements but soon goes out dramatically. We will look at this case in a moment.
So, can we use this model in helping us discern different markets and investments within markets and make better decisions? I think so. I think you can use the ideas in this model to analyse any particular market you are looking to invest within, and it is a model I use when considering new investment areas in which to operate.
Lets look at the case of the UK, set out in Chapter 4, and also at Germany and the USA which are dealt with in more detail within the Annexes to this book, set against this model.
UK
Using the ideas of the fire triangle, perhaps best to look at is property in Aberdeen, Scotland. After all, we had very strong positive yield rewards from 1998 – 2004, but no capital growth. Well, we can say that this micro-location enjoys confidence on one big factor – oil price. Aberdeen is the capital of oil exploration in Europe and the local economy relies heavily on the price of oil, which is expensive to extract from the North Sea. Yield investors in
the market would have been buying quite happily from 1998, enjoy positive monthly cash returns but flat capital values. That’s not a bad place to be. With finance in place to around 80%, 2 sides of the triangle were very much in place, and investors from other parts of the UK, having enjoyed good growth in other cities such as London had confidence to buy, as I did. But it was not until the third side of the triangle, investor confidence brought about by higher oil prices as they rose from $30 to over $100 from 2004-05, that capital growth really was “set on fire”. The timing of any investor to buy around 2005 was almost perfect in hindsight, although the model makes this quite clear. It is just a case of working out what will bring investor confidence to any particular market. The model also makes the point to sell clear in this market. All 3 sides of the triangle fell, first the yield rewards went negative in 2006, next access to finance started to fall away in 2007 and finally the fuel of investor confidence dropped off in 2008-09 as oil prices plummeted and finance more difficult to obtain for investors. So the model gives us some ideas for the timing of a sale also, well done to the investors that cashed-out in 2007-08. I wished I had this model to hand, and understood it in 2007. I still hold most of my Aberdeen portfolio, and watch its value drop each month, although of course I still have a good yield based on my good fortune to enter the market at the right time.
Germany – Berlin
Well, the story of Berlin and its property market is fascinating and could fill a whole book. Lets restrict ourselves to the property depicted in the graph, a typical 50sqm in a suburb close to the centre.
Firstly, we can see the yield rewards have been positive for most of the last 20 years. The collapse of the wall delivered property initially at a very low price level, and is still very cheap today [50.000 Eur for a nice apartment in a European capital city anyone?]. So, yield investors have enjoyed themselves here for 2 decades with few exception. Next, access to
is not surprising that capital growth has been steady and in some cases very good. Finally, investor confidence is very interesting here. Confidence was very high between 1990-1997, the optimism for the re-born capital was the story. But reality set in for some over-exuberant investors in the late 90s, finance payments were high and the support for the plethora of new builds from a steady or declining population not in place. Local buyer confidence dropped heavily, and growth flattened or went backwards. However, a second wave of confidence was brought to the market in 2000 onwards from international buyers, increasingly priced- out of their markets back home. The 3 sides of the triangle were again in place and capital growth took off again, until the financial crisis took hold. Today, you can say that all 3 sides of the triangle are in place, albeit yield rewards are low. However, the chronically low rents that are typical of the city [around 200-400 Eur per month for a city centre apartment is typical] are bringing new upward pressures to yield reward and it should be an interesting market for many years to come.
USA
Oh my god. Where to start? Well, it is interesting to note first off that the USA property market does not normally do a great deal to excite. Prices are fairly predictable and rise with the general economic conditions. More on this in the Annex on USA. The period 2000-2006 famously did not follow this path!!
The chart above shows yield reward over the last decade for Orlando property, an average value of rent and capital value has been used as there are huge variations in this market. What a sorry read it is too for any yield investor. With rent levels moderate, but costs of ownership such as taxes and home owners associations and the like, net rents are really not great. This all translates into a negative yield reward for the whole decade pretty much. That is to say, any property bought here for the last 10 years will have been taking money out of your pocket month in and month out, and capital values have collapsed into the bargain. But what of the stellar price increases in the period 2001 – 2006 - 100% capital increase!! Well, using the idea of the triangle, we would have predicted no capital growth, as yield
rewards were negative during this period. But when we remember the financial policies of the time, 120% finance was available, and investor confidence sky high then the lack of “oxygen” of high yield reward made no difference that it was absent. Perhaps stretching the model a little too far, but we know that some fires, depending on the chemical of the fuel, can burn without oxygen for a time. But this chemical fuel is not real and does not last for long!! Capital gains during the period of strongly negative yield rewards always tend to get wiped off or “corrected” eventually, and the market here is no exception. Capital values have dropped like a stone, below that at the start of 2000. So is it a good place to go shopping for an investor now? Well, yield rewards are now positive, and in some cases very good now in Orlando and many parts of the country. So that’s one side of the triangle. In terms of investor confidence, this is still weak, but again in parts of the country the real economy is doing “okay” and populations are still on the up, as are rents. So, in places, 2 sides of the triangle are in place. However, finance is really not available to investors to this day or is taken on very high terms, wiping off any yield reward. Perhaps somewhere to watch and research and await the creeping back of finance to investors as a sure sign that the market is worthy of consideration.
So, hopefully this model has served as a useful summary to the ideas in this book and at least give you some new thoughts and tools when considering the timing of a purchase or of a sale, more of which in the next chapter.