The fears that stop people investing – The market

Today we're going to talk about one of the biggest fears first-time investors have – "What if the market goes down?"

In fact, throughout all of the hundreds of episodes recorded through the Property Academy Podcast, this is one of the most downloaded topics.

Today you'll learn:

• what the fear of the market is
• real tactics you can use to mitigate the market turning bad on your investments.

Let’s dive in.

You might be thinking: "I'm scared that the value of my property is going to go down"

In short: It will at some point.

When you buy a property, whether for investment or to live in, its value will increase and decrease with the market. That's a fact of life. So your first step is to accept this will be a reality.

Remember that property as an asset class tends to be a little more risky than bonds or mutual funds, but a little bit safer than shares.

What that means is that over time you can expect some ups and down (volatility) in the value of your property, but over the longer term property prices will tend to go upwards.

The benefit you get from weathering those slightly rocky periods is the higher returns in the long run.

The reason I tell you this is I want you to be comfortable with the idea that the value of your property will decrease at some point, but it is likely to increase much more over time to compensate for this.

Most people already know this, but it's important to be reminded of what you already know.

You might also be thinking ...

"I know that property values increase and decrease over time ... but what if this time is different"

In her book Rich Enough?, Mary Holm, one of New Zealand's most trusted financial commentators, wrote that you should run away any time an advisor says: "But this time it's different."
That's true for advisors promising ridiculously high returns, and it's also true for those predicting doom and gloom where it hasn't been in the past.

It's easy to read articles like this one from 2009 that predicted the Auckland market would decrease in value 10% year on year, by a total of $100,000 (21.5%).

But in reality prices historically haven't moved that much. Instead of dropping $100,000 as predicted, the median house price only fell $45,000 in total and recovered more quickly than market commentators predicted.

Often these commentators and economists aren't right. Let's look into that 2009 article from Stuff.co.nz:

Back then, Stuff interviewed top economists from the major retail and investment banks. These are professionals whose job is to look at data and make an accurate assessment of the future.

So what did they predict and how did they fare?

Dominick Stephens, an economist at Westpac, was reported to say he "expects the decline in housing prices to continue through 2009. He's picking it could be 2012 before they regain their 2007 value. `Prices are too high relative to rents and incomes'.

“I'd sell now. Prices are still over-valued.''

Was he right? Take a look at the graph:

The median house price in Auckland peaked at $465,000 in December 2007. Less than 2 years later (November 2009), a new record median house price was set at $475,000.

By the time we got to December 2012, the median house price was $542,500 – $77,500 above the previous peak.

If Stephens had owned the median house, and sold at the time he advised New Zealanders too, he would have lost out on $77,500 worth of growth.

This isn't to dismiss the value of economists, but rather to make it clear that you can't make your investment decisions based on one commentator’s view. The truth is that the market recovers.

If your property goes down in value this time, the same thing that happened last time ... and the time before will likely happen again – house prices will recover.

What's also likely to happen again is that if there is a small dip in the property market, financial commentators, economists, the papers and humans in general will work themselves up into such a state that we think property is all of a sudden a bad investment.

It's not.

Property prices are likely to rebound and that's primarily because of New Zealand's strong property fundamentals.

Our country is reasonably prosperous, has high net migration, high population growth, high costs to build houses and not a lot of land to build on in the main centres. Expect dips in the property market, but then ride through them knowing how the eventual outcome is likely to turn out.

"But what if the price of my property is lower when I come to sell?"

If you look at every region in New Zealand that has increasing population growth (that's everywhere expect the West Coast), over any 20-year period, every region that increased has had significant increases in value.

A well-positioned and well-chosen property has never failed to rise in value over a sustained 20-year period.

What are the main factors that impact house price growth?

• income
• population growth
• interest rates
• property being bought.

Over a 20-year period:

• incomes are likely to keep increasing by 2% per year, which is 48.59%.
• population in Auckland is expected to increase by over 30%.

If interest rates stay the same, there will be more people, each with more money competing for a supply of houses that's already failing to keep up with demand.

Over that long term, how can there not be house price inflation?

Strategies to mitigate market fluctuation risk

Nobody wants to see their property go down in value. So what can you do to ensure the value of investment property remains as stable as it can even when the market is sluggish?

Invest in a major city centre

When you look at the data, the regions that tend to be the most downturn-proof are the major city centres. These areas have the most stable and diversified economies, good job markets with high incomes and the most developed infrastructure.

Conversely, the areas that tend to do poorly are smaller, one-horse towns and regions that have a lot of farmland surrounding the towns. These areas have an abundant supply of land, and consequently prices tend to be more volatile.

Buy 'the median property'.

Similarly, the properties that tend to be valued consistently are those priced in the middle of the market, because that's where most of the buyers are.

If you buy a premium property that is 2-4x the median house price, then you'll only ever have a limited number of potential buyers who can afford to purchase. This means you can make above average returns over the long run and when times are good, but you will also see much more volatility during economic downturns when that market isn't as active.

Stop listening to your brother-in-law

Study after study shows that humans are not very good at thinking long term. It doesn't come natural to us when we're hungry now, or want the big increases in value now.

As mentioned earlier, when house values head into a slump it's easy for us to work ourselves into a state, thinking that it's the end of property investment as we know it ... especially since New Zealanders love to talk about property.

The best advice is not to listen to your brother-in-law, colleague’s husband, or sister's aunt's dog's carer, who think they're an expert because they've read the New Zealand Herald that day.

Most people have never looked at the graphs you've just looked at and analysed. Most people haven't seen the data.

You need to tune them out and focus on the long-term benefits that property investment can bring to you and your family