Ok, you’ve read the scary headlines and called us to discuss the impact falling property prices will have on your mortgage. Even though you were calmed by the end of the conversation, the panic attacks soon started again. These scary feelings were getting the better of you.
We referred you to our initial conversation where we told you that property prices were looking quite high. You didn’t recall.
Panic!
We then referred you to an email we sent to you about the same topic. Strongly urging you (in bold underlined text) to get independent financial advice about investing everything you have into residential property. Again, your recollection was fairly dim on this topic.
Anxiety!
Now, all you can think of is the high level of debt that you have relative to your perceived new lower value of your property. You worry that you’re now at serious risk of your debt being higher than the value of your investments. Yet when you took out the loan, we recall you stating categorically that all you had to do was sit back and let the property market do what it does. Well, it’s doing what it does.
Heart palpitations!
You worry that the banks may begin a process of getting people to top up the equity in their investments to ensure the maximum LVR’s of 90% are maintained?
Fear!
If they do, you don’t have any more money to invest.
Insomnia!
You ignored our written advice to take out a principal and interest loan and instead opted for interest only. Even though we highlighted the fact that you pay considerably more over time and that – by taking out a principal and interest loan – you would slowly increase your equity in the property.
Regret!
We could go on and on. The reality is that none of the above bank actions are likely to occur. The rise and inevitable fall of property values is all part of the investment cycle. In fact, I’m willing to bet that in a few years time you will have forgotten the way you feel now and will see value in property again and will repeat the cycle that you’ve just been through. Not because it’s the right or wrong investment decision but because of the way you feel.
The way you feel – banks even have a measure for it – is called consumer confidence. It can make a significant difference to the way the economy functions. If consumers are feeling wealthy (usually because their property has gone up in value), they’re more likely to go out and spend. If consumers are feeling like the above example (all panic-ridden and concerned about their ability to survive), then…spending comes to a grinding halt. Although it’s not as simple as that. The RBA has some misgivings about this simplistic approach. But for the purposes of this exercise, I will ignore the noise and lag issues and correlation suspicions that they raise and focus on the generality that positive consumer sentiment has a positive effect on consumption.
The charts at the above RBA link seem to suggest that this is the case. Consumer sentiment one quarter appears to lead to an uptick in consumption growth eventually.
Enough about your feelings already. As one customer put it to me, “how am I ever going to relax again”. He hadn’t slept for a few nights.
He asked me how I knew about his symptoms as I prattled them off (as above). My response was “experience”. I’ve been down that road and I know how he feels now. I also know that it will pass. But as was the case when we were trying to get him to seek independent advice about him putting all his eggs in one basket, he was ignoring that part of the conversation. Call it selective hearing, call it what you will.
So, I highlighted it to him. Quite emphatically in a manner that I knew would get his attention.
He listened and calmed down almost immediately. It was almost as if he’d undergone an epiphany.
“Tell me more about this cycle…” he almost yelled at me. I showed him an article by a prominent economist about the economic cycle, compound interest and other economic tid-bits.
An hour later he walked away a new man.
So, if you own your own home or you have an investment portfolio of homes funded by debt try and avoid the panic-stricken articles about property. Just remember it’s all part of the economic cycle. More importantly, remember that (usually) property is a long-term investment and there is no way to accurately value your property unless you put it up for sale. It’s not like the share market where you can value your investment every second (during working hours).
As we’re all aware, property prices have risen quite dramatically in the last few years so it’s normal cyclic behaviour to experience some kind of correction (that’s economic speak for fall) in the next period (really, I don’t know how long they will fall for – if I did I’d be making far more than I currently am but I digress).
It’s not too late to adjust your finances. If you’re paying interest only, we strongly recommend that you switch to principal and interest payments. Yes, the monthly repayments will be higher but we can show you calculations where paying P&I cuts your interest bill by up to 50% over the term of the loan. More importantly, you will eventually own the property outright.
So, don’t panic. Go about your business as you normally would. If history is any guide then all will be righted in time. Unless of course there’s an economic cataclysm. But that’s another story.
Sweet dreams all.
Disclaimer: The writer of this article is not an economist. The observations above are anecdotal from selected clients and do not constitute a sample size. The views expressed are the writers own and may have no basis in economic fact or reality. Should you be interested in an economist’s point of view the writer recommends the works of the following Australian economists: