Why property investing is like tumbling dice…

There is a dark and subversive 1971 novel named “The Dice Man”, in the plot of which a psychologist decides to begin making his life’s decisions based upon the roll of a dice, leading him into all manner of unseemly scrapes and awkward situations.

The novel became something of a cult classic – and it’s not hard to see why, for it’s such an arresting idea: what would actually eventuate if we left the outcomes of our lives purely to chance?

The novel, I recall with a wry smirk, was particularly popular with a large number of students cf. “Let’s roll the dice to see what we should do tonight! And the dice saaay…we must go to the pub!”…(again).

Strangely enough, I don’t recall the dice ever instructing us to “undertake diligent exam study” or compelling us to “retire to the library for a quiet sojourn”, so I suspect that the prescribed options were often somewhat loaded in their content.

In reality, you wouldn’t think that we would take important life decisions based on the flip of a coin or the roll of a dice, yet isn’t this how a great number of people invest today?

Heads or tails?

We’ve known for years that investment market commentary is dealing in ever shorter time frames.

The stock market is currently zig-zagging a little: down one day and up the next, which is sometimes a signal that a correction might be due.

Recently we heard that “the Cyprus bailout proves that the economy is doomed!” but today we are instead assured that “Cyprus is immaterial” – what was a bad investment yesterday becomes a good investment again today? We now have minute-by-minute market commentary and it’s indeed a crazy world we live in.

Market gurus love to have us believe otherwise, but the immediate future is not predictable (take a look at what they were saying 12 months ago…). The key thing to remember as an investor is this:

The more your investment plan relies upon the market moving in your favour in the near-term, the greater your chances of failure.

The financial press repeatedly reports share markets declining as a time to panic and the index appreciating as something to celebrate. But what if you had an investment plan whereby it doesn’t even matter whether markets move up or down?

 Investing without emotion

It was Warren Buffett who said that the best investors are those who create a framework for successful investing and then are able to prevent emotions from corroding that framework. This is why automated investing is so effective for people who have a regular income. By acquiring shares on a regular basis through buying a pre-determined dollar value each month or each quarter, the investor remains emotionally unaffected by market hype.

The strategy is known as averaging or cost averaging – if the market goes down you effectively buy a greater number of shares, and thus will profit over the long run. It makes sense in this instance to buy a well-diversified product such as an index fund or an LIC so that there is no risk of the investment falling to zero in value.

Averaging in property

Averaging works in property too, but due to the leverage the individual purchases tend to represent a more material part of your portfolio, it becomes more important for investors to avoid experiencing significant losses.

Similarly in the world of real estate, market gurus like you to believe that they can foresee outcomes that you can’t, which explains the “I envisage no growth for 22.5 months”-type poppycock and “a new milk bar is projected to open in 2014 which will fuel capital growth” baloney.

The good news for property investors is that unlike the bourse, which is priced rationally for much (if not all) of the time, residential property is a frequently imperfect market. Thus, there are a number of strategies that can be employed to outperform the median prices so beloved of the financial media.

The first thing you can do is buy counter-cyclically in a city which has not recently experienced a boom.

And in this article, Michael Yardney explains his further 4 stranded approach to ensure that you beat the averages:

4 Strand Strategic Approach

  1. Buy property below its intrinsic value;
  2. In an area that has a long history of strong capital growth;
  3. Look for a property with a twist – something unique, special, different or scarce about the property; and
  4. Buy the type of property where you can “manufacture capital growth” through refurbishment, renovation or redevelopment.”

By using these approaches, you can ensure that you aren’t simply leaving your results to the roll of a dice.

Keep an eye out for…

Of course, it still makes sense to track what is happening in the world.

I noted in my blog post last week that the Reserve Bank seemed notably unconcerned about house price inflation.

Two further speeches from RBA Deputy and Assistant Governors Philip Lowe and Guy Debelle in Sydney today have reinforced that view, particularly the statement that there prevails a “somewhat misplaced assessment of ‘deposits good, wholesale funding bad’.

These have been three remarkably telling speeches: the RBA expects to see the return of household leverage, and it looks likely that much will be funded internationally through offshore funding.

So we now have three consecutive speeches which deliver a clearly aligned message: the RBA is comfortable with house price inflation, and it minds not whether funding is sourced from overseas.

Expect to see bearish commentary about-face over coming weeks as house price increases are reported in March in each of the four major capital city markets, offset by further declines in Adelaide..

Meanwhile Sydney’s population is expected to increase to a scarcely believable 5.6 million over the coming 20 years and requires an incredible 545,000 new homes to be constructed by and 625,000 jobs created by 2031:

“Michael Darcy, director of the University of Western Sydney’s urban research centre, said where the jobs and houses were to be located – and the infrastructure that would connect them – was crucial. ‘

‘It’s one thing to set a target,” he said, ”but when you’ve actually got to put these things on the ground and make it possible for people to access them, that’s a whole other set of problems.”

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Pete Wargent

About

Pete Wargent is a Chartered Accountant, Chartered Secretary and has a Financial Planning Diploma. He’s achieved financial freedom at the age of 33 - as detailed in his book ‘Get a Financial Grip – A Simple Plan for Financial Freedom’. Pete now manages his investment portfolio, travels and works as a consultant in the finance industry from time to time. Visit his blog


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