Last week I attended my first in person wealth management symposium since COVID. It was so good to see people in IRL - to chat, query, debate, challenge, and learn. By far by favourite topic was the final leg of the symposium where the presenters discussed the domestic property market their outlook. I'm really curious about this asset class for a number of reasons - I have vested interest in my home, my investments, my developments, and it's such a large exposure for Australian's and the economy.
Here's how the Melbourne property market has performed over the last 20 years. I'll explain in a moment why I've selected this time frame. You can see the drop in values during the GFC, 2010, the regulators' tightening during 2017, and COVID during 2020. You can also see each and every subsequent climb in prices.
There was one slide that really took me by surprise. Nerida Conisbee, Chief Economist for Ray White put up this slide. It shows the top Victoria growth suburbs for the last 20 years (2001-2021).
60% of the top growth suburbs are in the Mornington Peninsula. Sure, your initial response would be COVID and the move to WFH. Now, I haven't crunched the numbers, however I would guess this trend was well underway before COVID. Think about it, EastLink, then Peninsula Link, affordability, and so on. This trend has been going on for some time. Red Hill!? Up almost 1,000% during this time. Who would have thought?
During our discussions, a number of attendees were somewhat skeptical as the numbers on the slide are gross, and they don't take into account any expenses. So I decided to crunch the numbers and take a look for myself.
Let's start by breaking down the enormous growth rates.
When you breakdown the absolute growth rates and take into account the annual compounding, the growth rates are a little less shocking - Red Hill growing at a compounding rate of 12.53% pa. Eh, seems not so outrageous, no?
I then decided to assume these suburbs were purchased as investments and started to take into account expenses that one would be incurred such as stamp duty, interest on borrowings, and land tax. For land tax I assumed 5% on the initial purchase price. For interest costs I averaged out the bank interest during said time, which comes in at 6.43% pa, and I assumed Interest Only (IO) repayments. I assumed the purchaser borrowed 80% of the initial price and calculated interest on this. Land tax I calculated using SRO guidelines. I did not take into account any ongoing maintenance expenses however, as this was too difficult, and I assumed this would be funded using rental income. I then took into account all these ongoing expenses to recalculate the absolute growth and annual growth rates.
What I found was a reduction in absolute growth by an average of -137.62%. This translated into an average reduction of -0.87% pa. Even after taking into account the said initial and ongoing expenses, these suburbs have well and truly grown in capital value. If I did the calculations as principal place of residence (PPR), the numbers would look a lot better for the following reasons: no land tax, and the initial loan would reduce over time as the repayments would probably be on principal and interest (P&I), and not interest only (IO) - as a consequence interest expenses would diminish.
The above work really underscored the importance of long-term investing to me. As human beings, it's difficult for us to compute and make sense of the initial, absolute numbers. Our first response is to dismiss them as bullsh*t. Yet when we pause, and start to think about them more logically, it starts to make a lot more sense.
The overwhelming advice and feedback from the professionals was that the Melbourne property was going to be just fine, driven primarily by immigration and growth in population. I'll talk more about this later.
For now, here's my conversation about the property market with Metricon Homes Managing Director, Ross Palazzesi on the Masters in Investing Podcast. Check it via the link below.