As we see many markets in Australia building up a head of steam it is a good time to remind ourselves what it is that actually drives up property prices.
There are two things that will enable people to pay more for your property. One of them is sustainable and the other is chance. Which would you choose to target?
Often we can get caught up in a market that is full of emotion. I was at an auction on the weekend where this was definitely made clear. I was looking to bid on the next development property and had prepared all my numbers beforehand. The particular property needed a significant amount of work to complete and from our evaluation was an OK buy up to $800K. The scene was set, huge crowd, no rain, and chequebook in hand. So what happened?
Well the general whispers amongst the crowd suggested we were on the money with our budget but we were soon to be set straight. The property went from $600k to $1 million in 3 bids and continued to race all the way to over $1.25 Million. The vendor’s gamble had paid off. Just by chance they had found themselves with 2 buyers with much more money than the market who got stuck in an emotional battle for the property. With the locals having dropped out after the second bid and left shaking their heads, the property sold for 50% higher than my assessment. Everybody discussing the auction afterwards said they were mad and will need to be there forever to warrant the price but we see this happening every weekend at the moment. Why?
The neighbours I spoke to after the auction thought this was a great result, as they now believed their houses were worth 50% more because of one auction result. But I ask how sustainable is this really? If everyone in the street now tried to cash in on the jump in the market by selling their houses they would soon find out that the amount of buyers with incomes big enough to pay the mortgage on this new high price may be very small. In fact only the one buyer who was the under-bidder on this property may be able to afford it, because you would need double the average income for the suburb to pay this price.
So while in this situation, it was just one emotional tussle that massively lifted a price, it will also take the same chance and emotional battle for the new owners to ever see growth in their property. Well at least until the average income in the area has doubled and people can afford the price.
We face this choice every time we invest. We can try to guess the market and chance our luck or we can put our hard earned capital where the numbers say there is real value. It may not be as exciting but at least the choice is ours.
After seeing what I saw on Saturday, I can tell you I’m very glad I didn’t get caught up in the emotion of the day.
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