Here’s how to tell if property prices are crazy – or not
In today’s world of rising real estate prices, it’s common to hear commentary about bubbles or that “prices are crazy”. That’s a great way to get a> READ MORE
In today’s world of rising real estate prices, it’s common to hear commentary about bubbles or that “prices are crazy”. That’s a great way to get a> READ MORE
Recently I met with the senior fund managers from one of North America's largest pension funds. This fund has a US$350 billion portfolio. Like most pension funds,> READ MORE
Around the world, the media is constantly filled with articles and opinions on housing – and its affordability. Following the global financial crisis (GFC) in> READ MORE
Last year, China laid out a big, visionary plan to drive economic growth and social development to one “bay” area… The Greater Bay Area (GBA) initiative> READ MORE
I know you didn’t sign up for Peter on Property to read about cryptocurrencies… but please, just this once, hear me out. As a veteran financial market and real> READ MORE
From the early 1990s, my trips abroad (as the Asia head of equity research and regional strategist at Morgan Stanley) to share Asia's financial secrets and> READ MORE
One time I bought real estate without even laying eyes on it. It was a small property. I ended up earning a decent return on my investment. I was lucky. I’ve> READ MORE
Cornelius Vanderbilt might have been the greatest capitalist in history. When Cornelius was just 16, in 1810, he borrowed US$100 from his mother. Using that money,> READ MORE
In today’s world of rising real estate prices, it’s common to hear commentary about bubbles or that “prices are crazy”.
That’s a great way to get a headline. But just because the talking heads think a real estate market is nearing bubble territory, that doesn’t make it true.
And in today’s low-interest rate world, many prices aren’t what they first seem.
So how can you tell if property prices are crazy – or not as irrational as people think?
I suggest looking at yield.
Yield is not a complicated concept, but it does have a few twists and turns.
Yield is a term applied to lots of things that people do. Farmers talk about yield – how many bushels of wheat (corn, sorghum or whatever) can be produced per acre of land. Miners will discuss yield in terms of ounces of gold, tonnes of copper and tin per thousand tonnes of earth dug up. Bitcoin miners might talk in terms of bitcoins mined per unit of electricity consumed, for example.
This notion also applies to stocks and bonds. What is the dividend income I can expect to get from buying a certain stock or bond?
In simple terms, yield expresses the relationship between output gained from a given amount of input.
In real estate, yield refers to rental income generated per unit of capital invested. Say I buy a property for US$1 million and it produces US$60,000 rental income per year. Then the yield is 6 percent (60,000/1,000,000 = 0.06 = 6 percent).
Of course, this is a very simple notion of yield. A property investor probably has certain costs that need to be met during the year. Some management fees or some local authority taxes. So the initial calculation is a gross yield. The net yield is what is left after paying the necessary expenses that the landlord has to bear.
When I am looking at a property that is going into an investment portfolio, the existing (or likely future) yield features strongly in my investment decision.
I might ask, “What is the yield that I should expect from my property investment?” Or put another way, “How much am I prepared to pay for a property to get $X per year in rentals?” If I am prepared to pay more, I am saying that I am comfortable generating a lower annual return on my capital investment.
First… how does the yield on this investment compare to that from a similar real estate investment in that market? Is this investment in line with current market conditions?
Second: Risk. A higher yield normally goes hand in hand with higher risk and vice versa. Retail real estate, for example, is often considered riskier than most high-end office property. Therefore, investors expect to receive a higher rental yield to compensate for the perceived higher risk. The investor is prepared to pay less per dollar of rental income for riskier assets than for lower-risk assets. Location differences can also account for differences in yield.
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Comparisons can also be made across asset classes. For example, comparing yield on real estate against yield on corporate or government bonds.
Third is the cost of capital consideration. How much does it cost to borrow money for investment? If my expected yield from a certain real estate investment is, say, three percent, but my borrowing cost is six percent, I may be cautious about making such an investment. Where cost of capital is substantially higher than the anticipated rental yield, more focus might be placed on the likelihood of capital gains on the property.
Whenever I see a market where the rental yield is substantially lower than the interest rate, a warning bell rings. This has often been a signal that property prices are going to come down. In such circumstances, for yields to come more in line with interest rates three things can happen: 1) Prices come down relative to rentals. 2) Rentals go up relative to prices. 3) Interest rates go up. That third possibility may be a signal for property prices to come down also.
Often, when a property market has been rising, we hear endless commentary about bubbles, that “prices are crazy”, and similar claims. But if we compare cost of capital with property rental yields, then perhaps things are not as crazy as they seem. For example, in recent years, interest rates have been very low and prices in many markets have gone up substantially more than rentals. So yields have come down.
When I hear the “crazy prices” commentary, I stop and look at prevailing yields in the market. For example, many real estate investments in Hong Kong, widely known to be a very hot market, can give investors a yield of around 4 percent or more.
When the cost of borrowing is around about 2.3 percent, that yield of 4 percent may seem perfectly reasonable. So prices are not so “crazy” or irrational if the rental yield is substantially higher than the cost of capital.
But when I see the equation going the other way, as we have on various occasions over the years, then the alarm bells start ringing.
So if you happen to be looking at buying real estate in a market where people are talking about a bubble, take a look at the yield in relation to cost of capital and you might find the prices are not as irrational as people are saying.
Recently I met with the senior fund managers from one of North America’s largest pension funds. This fund has a US$350 billion portfolio.
Like most pension funds, it follows certain conventions in the fund management industry.
First, these funds have a diversified portfolio of investments covering most major asset classes around the world.
Second, these investors tend to be longer-term thinkers, reflecting the long-term nature of their pension obligations.
Third, income generation, not just capital growth, is important to these investors.
Fourth, the mix between equities and bonds tends to be fairly evenly split, at a roughly 30 to 40 percent split for each.
Fifth, real estate investment is often a significant part of the portfolio, around 10 percent of total assets.
This particular fund, being a large one, follows the general pattern in most ways. But it also has investments in Chinese and Indian real estate.
That’s why the management team wanted to hear my thoughts on Asian real estate.
What follows are some of the thoughts that I passed on to them…
Right now, there are certain secular, long-term trends prevailing in Asian real estate.
For example, six large countries in the region (including China, India, Indonesia, Thailand, Philippines and Vietnam) will see some 300 million people move from rural areas to cities over the next decade.
This migration will come on the back of the growing middle class in Asia.
We’ve talked a lot about how China is seeing a massive middle-class boom. Back in 2000, just 4 percent of China’s urban population was considered middle class. By 2022, that figure will be a whopping 76 percent.
In short, there are expected to be 550 million middle-class people in China. That would make China’s middle class alone big enough to be the third-most populous country in the world.
And India’s not far behind…
According to the World Economic Forum, India’s middle class could be larger than China’s by 2027.
Think tank Brookings Institute suggests that by 2030, two-thirds of the global middle class will be living in Asia.
As a result, the demand for housing, offices, factories, shops and a wealth of public facilities, not to mention infrastructure of all types, will be truly staggering in scope.
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About 67 billion square feet of housing will need to be built to meet the needs of these rural-urban migrants. This is equivalent to building about 28 Londons over the next decade.
And around 2.5 billion square feet of new office space will be needed over this ten-year timeframe. This is equivalent to building around 35 Singapores.
Similarly, billions of square feet will also be needed for retail space. Online shopping is a growing phenomenon in Asia – but the need for bricks and mortar retail is still massive in these markets.
Like most observers of, and investors in, China, these investors wanted to know about China’s debt, and its potential to trigger a financial crisis in the country.
You see, a lot of people have been sounding the alarm about China’s credit situation. Since 2008, the country’s debt as a percentage of economic output has increased from around 160 percent to around 280 percent at the end of 2016. (By comparison, the total debt in the U.S. as a percent of economic output is upwards of 300 percent.)
On its face, this increase is worrying. And if China suffers a financial crisis, the contagion effects will spread far and wide.
So global investors are focused not only on China – but on the much broader potential impact of a China financial meltdown.
But I told the pension fund managers the same thing I’ve told you here. While the rise in debt in China is cause for concern, it is not cause for panic. And it’s not a reason to stay away from Chinese investments. The issue of China’s corporate debt burden is well documented and well understood by the government. And whilst non-performing loans at Chinese banks are likely higher than reported, these banks are still extremely well capitalised.
Asian real estate offers enormous potential growth. And this particular pension fund is far from alone in investing in in high-growth Asian markets.
But it still surprises me how few of the big pension funds around the world are choosing to participate in this opportunity.
It allows you to diversify, seek growth opportunities, take advantage of big-picture secular trends and reduce the risks of more narrowly-based portfolios. That’s why this is such a great opportunity for investors of all kinds.
And even if you’re not part of a pension plan investing in an opportunity like this, you can still set yourself up to profit.
For example, the Guggenheim China Real Estate ETF (New York Stock Exchange; ticker: TAO) is invested in a basket of Hong Kong and mainland Chinese real estate developer stocks and REITs. Around 80 percent of the ETF is in Hong Kong real estate stocks, with mainland China taking up the other 20 percent. The fund is already up more than 30 percent in the past year. And it will continue to benefit from the massive urban migration in the years ahead.
Around the world, the media is constantly filled with articles and opinions on housing – and its affordability.
Following the global financial crisis (GFC) in 2008, housing prices in many countries fell sharply. But in a great number of places, house prices have now recovered and are handily surpassing the peaks of pre-GFC times.
Even with low interest rates, affordability is being stretched for many home buyers. The situation is made worse with government and bank policies that have limited loan-to-deposit ratios for home buyers. In many markets, buyers now need to find 30 percent to 50 percent for a down payment. And higher stamp duties have been part of the policy mix in many places, further adding to the affordability problems.
So even if a family can service the mortgage, the down payment (the other part of the affordability equation) is so high it makes a home purchase unattainable.
That’s why you’ll so often see the media waxing lyrical about this situation… and accusing governments of “colluding with developers” in a scheme that makes housing unaffordable.
The latest example comes from an article in Hong Kong’s leading English language newspaper, the South China Morning Post. The article, “How Hong Kong’s greedy property tycoons can redeem themselves”, makes some reasonable points and opinions.
But then the writer launches into a rant about property developers, describing them as “bloodsuckers”, and “vultures who feed on Hongkongers to fatten their wallets”. The writer also says, ” the names of our tycoons are synonymous with greed”.
This is all very emotional stuff that tells you more about the political views of the writer than the facts of the situation in the market.
But there’s a far more serious contention. And it’s something that is frequently said in articles in the real estate space in many countries.
Here’s the line:
“(Hong Kong Chief Executive) Lam’s so-called ‘starter homes’ proposal for young first-time buyers has already sparked suspicion that it’s just a cover for yet more collusion between the tycoons and the government. ”
The accusations of collusion are problematic. Journalists are treading on dangerous ground by making statements about collusion between government and private developers.
The definition of collusion includes the following:
“Secret or illegal cooperation or conspiracy in order to deceive others”.
“A secret agreement, especially for fraudulent or treacherous purposes; conspiracy”
“Agreement between people to act together secretly or illegally in order to deceive or cheat someone”.
“A secret understanding between two or more persons to gain something illegally, to defraud another of his or her rights, or to appear as adversaries tough in agreement”.
The essential ingredients here are “a secret agreement to cheat or defraud someone”.
When I see the pundits talking of “collusion between government and developers”, I have to ask if the writer is accusing the government and developers of engaging in secret deals with the aim of defrauding people, or cheating them – that is, of blatantly illegal behavior.
In all my years of anlaysing, studying and researching markets in Asia and other major markets, I have never seen evidence of collusion as defined by the above. There have been some examples of outright corruption, but not of collusion.
Developers may be greedy and uncaring, but this is not illegal. And government bureaucrats may be incompetent, ill-advised and afraid to make a decision for fear of repercussions, but none of these things are illegal.
If journalists are actually accusing government officials and developers of illegal, secret deals aimed at cheating or defrauding people, then they should be prepared to show some evidence. Otherwise, they could quite possibly find themselves in a court of law defending charges against accusing people of illegal acts that they have not engaged in.
So the next time you see media articles accusing people of collusion, just ask this question: Is the journalist making accusations of underlying illegal cheating and fraud, or is he simply trying to make political points?
Probably the latter. And the “charges” of illegal behaviour should be dismissed.
Last year, China laid out a big, visionary plan to drive economic growth and social development to one “bay” area…
The Greater Bay Area (GBA) initiative includes nine cities in Guangdong Province immediately to the north of Hong Kong, plus Hong Kong and Macau.
The GBA is meant to evoke images of other dynamic, successful bay areas… such as San Francisco, Tokyo and New York. This initiative is meant to drive economic growth and social development through a series of practical steps and processes that will help stimulate business, investment, social development and tourism in what is already a hugely dynamic region.
I was initially sceptical of this big, grandiose plan. But I recently attended a big seminar event on the GBA by Hong Kong’s chief executive as well as other leaders in business and policy in this area.
And now, I’m more convinced than ever that it’ll happen.
The GBA is already huge. It embraces some 66 million people – more than the entire population of the U.K. The region currently has a combined GDP of roughly US$1.4 trillion, representing around 12 percent of China’s total GDP, a GDP roughly equivalent to that of Australia. It is also the most international region of China.
It contains one of the largest ports in the world… It is the world’s largest agglomeration industrial development and manufacturing output… And it ranks in the top league of global financial centres.
Macau is also the largest gambling centre in the world, many multiples ahead of Las Vegas, the next largest. And the area is a globally important technology centre, both in terms of research and development and production of technology-led products and services.
So why is there a need for a government driven initiative to boost the region’s economic and social development? It is already immensely successful.
The GBA straddles three international borders. Yes, Macau and Hong Kong are technically Special Autonomous Regions of China, but they operate functionally as three separate countries. There are more restrictions on flows of people, goods, services and capital between these three “nations” than there are between the 27 countries in the European Union or between the 50 states of America.
These three “countries” have different legal systems, different currencies and different rules and regulations on everything from tax to transport to accounting to health care, pensions, education and data and information. They also have different customs regulations, environmental rules and municipal services. And even within China, there can be different rules and practices between cities in this sub region. These differing conditions act as barriers to development of the region.
Put bluntly, there is a lot of friction in the system between these three jurisdictions. These frictions add to the physical difficulties of doing business and liaising across the borders, as well as the cost. They also limit the ability to “do stuff”.
The GBA initiative is aimed at reducing these frictions, easing the restrictions, cutting costs and making the free flow of capital, labour, people, ideas, services, data and information easier and cheaper. It is intended to propel the region to even greater heights both economically and socially.
Now, this might sound like an impossible dream. But this is going to happen.
Why do I say that?
There are three reasons why I firmly believe that this initiative has legs, and will provide increased growth and business prospects for many companies focused on projects in this zone.
First, at recent high-level events, President Xi Jinping has openly endorsed the GBA initiative. When the big boss gives his blessing to a proposal like this, it gets a lot of attention from the party high-ups. What Xi says, goes.
Second, adding even further credibility, Xi has formally linked this initiative to the One Belt One Road project (OBOR). As we’ve shown in the Asia Wealth Investment Daily, this initiative is happening in a big way with a huge commitment of financial resources and talent. Being formally part of OBOR gives the GBA initiative an even greater push from the top.
Third, the National Development and Reform Commission (NDRC) has been charged with implementing the initiative. The NDRC is one of the highest-level government agencies in the land. I fully expect the NDRC to soon – if it hasn’t already – form an internal ministry or bureau that will implement the necessary regulations and on the ground actions needed to execute the program. It will probably form some kind of legal entity that will bring senior officials from all of these cities together into a joint body to set priorities for action and prepare the details for execution.
Given what we have seen coming from the top, I am extremely positive about the impacts of the Greater Bay Area initiative. And we’ll see companies involved in the project – like property developers – profit in the months and years ahead.
I know you didn’t sign up for Peter on Property to read about cryptocurrencies… but please, just this once, hear me out.
As a veteran financial market and real estate investor, I was extremely sceptical about digital currencies when I first came across them a few years ago.
Any article you read about bitcoin had the words “bubble” or “black market” in it.
And a lot of investors are still wary of cryptocurrencies today… particularly, I’ve found, those who focus on hard assets like real estate and gold, and those who have come of age investing in stocks.
But the more I’ve learned about cryptocurrencies, the more I’ve put my concerns behind me.
And rest assured, it is a learning process. Simply put: I truly believe cryptocurrencies and the technology behind them will change our lives over the next five to ten years.
That’s why now is the time for everyone – even old-school bricks-and-mortar investors like me – to own a little bit of bitcoin and learn about cryptocurrencies.
As an asset class, I categorise bitcoin as similar to U.S. dollars, sterling, yen or any other currency. It is a form of currency. And as such, it should be looked at as something between say, dollars and gold.
Due to bitcoin’s scarcity (i.e. limited supply) and the inability of anyone to “print” more of it, it clearly has a lot of similarities with gold. Likewise, it does not give you an interest rate as currencies do, so it’s similar to gold in that respect.
The other important thing to remember about bitcoin is that it’s not actually controlled by any central organization – the Federal Reserve, the Treasury, the Bank of England or the European Central Bank.
There’s no company, there is no CEO, there is no chief financial officer. I think there’s every reason to believe that the importance of cryptocurrencies will grow over time simply because it is something that is not controlled by governments.
I read last week how Axel Weber, the Chairman of Swiss Investment Bank UBS and former Bundesbank President, expressed his scepticism over bitcoin. It made me chuckle to hear him say “I get often asked why I‘m so sceptical about bitcoin, it probably comes from my background as a central banker.”
That’s the whole point Axel! You can’t keep printing bitcoin like you can euros!
And as I said earlier, bitcoin is limited in terms of the amount that can be put into circulation. So it has a scarcity value, which does not occur with U.S. dollars where the Fed can just keep pouring U.S. dollars into the global economy.
With bitcoin there is a limit on how much can be put into the system. So there is automatically a scarcity value that is going to be created.
While bitcoin may still be misunderstood by most, it’s quickly becoming a topic in regular day-to-day conversations.
The favourite topics of dinner party conversations in Hong Kong and around the world have always been about property prices and airline travel. But I now see bitcoin and cryptocurrencies becoming part of the dinner party conversation.
But still, even people who are very financially literate, who have been in investment for many years, who are very up to speed with that’s going on in the world, have very little information or understanding of what these cryptocurrencies are. So although bitcoin is increasingly cropping up in conversation, very few of these people own any bitcoin.
That suggests to me that despite this big recent bull phase, there’s a lot of runway ahead of us in terms of upside.
Bitcoin and other cryptocurrencies at this point are little more than a proof of concept of the technology behind them – the blockchain, or distributed ledger technology. Distributed ledger technology is going to be applied across all facets of life and business. For example, just about every major bank and central bank in the world is looking at applications of distributed ledger technology in finance.
To me, cryptocurrencies are important, but what’s perhaps most important and will be earth shattering over the next five to ten years is how we’re going to apply blockchain to every single part of our businesses and livelihoods going forward. That is the real key part of cryptocurrencies.
And as we go forward, I think we’re going to see huge numbers of middle-aged and older people start to adopt bitcoin and other cryptocurrencies as the barriers to buying it keep falling.
Think about it right now… the total value of bitcoin in circulation today is around US$70 billion.
Sounds like a lot? Well, by comparison, Apple has three times that amount of money in cash on its balance sheet… that’s just one company! And we’re talking about the possibility of bitcoin becoming a global digital reserve currency in future.
I envisage that in the next few years we could easily see the entire cryptocurrency market valuation hit a trillion U.S. dollars.
Is this a given? Of course not. But putting a little bit of your capital into bitcoin and other cryptocurrencies is an asymmetric bet – risk a little, for a potentially massive return.
I would suggest that people at least pack a very small amount of their investable assets into cryptocurrencies, mainly bitcoin, as it’s the longest running and most established. But be aware that this is a speculative investment, it’s going to be extremely volatile in the short term.
From the early 1990s, my trips abroad (as the Asia head of equity research and regional strategist at Morgan Stanley) to share Asia’s financial secrets and opportunities with fund managers around the world often took me to Germany.
Despite leaving the banking world many years ago, I’ve continued to visit the country over the years as a hedge fund manager and in my role with private equity real estate in Hong Kong.
Back in the day, one particular trip was different. I had been invited to speak at a large investment conference in Cologne and was to go to Frankfurt from there. My colleague met me on the platform of Cologne railway station, telling me that time was tight and a car was waiting to whisk us to the conference venue. Scuttling out of the station into the bright summer sunlight, I looked up. My jaw dropped. I stopped in my tracks in outright amazement. I had never in my life seen a building of such awe-inspiring beauty.
It was Cologne Cathedral. I pleaded with my colleague to stop, and let me go and pay my respects inside. He indicated that we were already running late, and any further delay might mean missing my slot on the conference podium. I had to relent. And I spent many years thinking about going back to take a deeper look around.
Since then, I have marvelled at how that cathedral survived the devastation of World War Two. All of the buildings surrounding the cathedral are “new” – built in the 1950s and later, the originals having been bombed by the British during the war.
After many years of visits to the country, its fund managers, and some of its immensely wealthy and powerful family offices, I’ve also been impressed by how Germany has managed its economy and finances over the past 30 years.
But the story of Germany’s real estate market is equally intriguing…
When it comes to economic growth, Germany is the leading light in the Eurozone economic sphere.
Its per capita gross domestic product (GDP) has grown faster that its peers. At €34,500 per capita, it stands head and shoulders above neighbours France (€31,700), Italy (€25,900) and the Eurozone average of €29,600. Incidentally, the UK’s numbers lag significantly behind Germany at €31,400 per capita.
At 5.5 percent, the country’s unemployment rate is right at the bottom of the Eurozone heap. For comparison, France runs at 9.5 percent and Spain at 17.6 percent.
Germany also runs a huge current account surplus (it exports far more than it imports), driven by relentless exports of high-quality cars, trucks, household equipment, machinery, machine tools, chemicals and more.
(This surplus is a source of criticism from many outside the country. Germany benefits more than anyone from a ”cheap” euro, so the European Central Bank’s money-printing largesse, by weakening the euro, has helped make Germany’s exports extremely competitive.)
And the country runs what many would regard as an enlightened and fair social welfare system, where worker rights are protected, with a well-functioning public health system.
Well, Germany in not the haven of equality, fairness and social stability that some people on the outside might think.
While Germany’s overall economy is doing particularly well, the spoils are being shared very unevenly.
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First, income distribution in Germany, as measured by the Gini coefficient, has widened by more than just about any country in Europe since 2007, and certainly more than the U.S., Canada and Japan.
The Gini coefficient measures the income distribution within a given population. A Gini coefficient of “0” would mean that everyone in the country earns the same. A Gini coefficient of “1” would mean that one person earned everything and the rest of the population earned nothing. The lower the number, the more equal the income distribution… the higher the number, the more unequal.
It is common knowledge that Gini coefficients around the world have generally been growing over the past decade. This reflects growing global income inequality, both in the developed world and the developing world.
Germany’s Gini coefficient is still significantly lower than other developed European countries, and certainly lower than the U.S. and UK. But the speed at which it has grown in the past decade tells us that income inequality in Germany is growing at a rapid clip. (This is shown by the big gap between the orange dot and the top of the blue column.)
That looks at income, but what about wealth?
Here is where the rubber really meets the road. Germany has the second-highest concentration of wealth in the hands of the top 10 percent of the population in all of Europe. Some 60 percent of wealth is held by just 10 percent of the people.
But even more telling is the fact that 40 percent of people have no wealth at all. No savings in bank accounts, no stocks, bonds, no assets at all. Nothing.
How can this be in a country as economically successful as Germany?
Unlike Anglo Saxon and Asian cultures, there seems to be little pressure to own a home in Germany.
People are perfectly happy to rent a home for life. And given that rent controls (which limit the speed at which a landlord can increase rents) are prevalent in most parts of Germany, families have some kind of protection with respect to their future rental obligations.
Globally, Germany’s homeownership rate is one of the world’s lowest at just over 50 percent.
By contrast, the U.S., UK, Canada, Australia, Ireland and France all have homeownership rates of over 60 percent. And Italy, Spain, Portugal, Norway and Russia all boast rates of over 70 percent.
This is a big reason why 40 percent of Germans have zero personal wealth. If you own your own home and have been paying off a mortgage for a while, then you have some wealth to your name. Even if the value of the home does not go up much, over the years, as the mortgage is paid down, the homeowner has a stash of wealth tied up in the home.
At some point down the road, when a homeowner’s debt is cleared, he or she owns an asset that may be worth several hundred thousand euros. That asset can be monetised through a sale and used to fund a lifestyle.
That is why we keep pounding the table on owning real estate for future long-term financial security and independence.
Paying rent all your life to someone else boosts his wealth but diminishes yours.
Germans, more than any other European nation, do not seem to take this lesson to heart.
But their reluctance to own homes provides good opportunities for those who do wish to own homes and rent them out.
As I showed you, the home rental market in Germany is huge. And many companies are already profiting from this trend.
Companies like LEG Immobilien AG (Exchange: Xetra; Ticker: LEG), Vonovia SE (Exchange: Xetra; Ticker: VNR) and Ado Properties (Exchange: Xetra; Ticker; ADJ) all own portfolios of residential real estate that they rent out.
The easiest way to be a German residential landlord yourself – without all the hassle – is to buy stocks like these.
One time I bought real estate without even laying eyes on it. It was a small property. I ended up earning a decent return on my investment.
I was lucky. I’ve lost count of the number of friends and acquaintances of mine who’ve been badly burnt by buying real estate that looked good on paper – what was something else entirely in reality.
This happens a lot in Asia. Investors in this part of the world are ripe for the picking for developers in cities like London, New York, San Francisco, Vancouver, and Sydney. Asian buyers are cash rich, and love luxury new-build property.
Investors in Asia real estate – full stop. And many Asian real estate investors like to buy properties in countries that have lower political and legal risk than they experience at home.
Asian buyers are also used to closing a deal quickly. Hong Kong property investors will sign sales and purchase agreements within an hour or two of a viewing.
Often, they’ll sign there on the spot. I once bought four apartments on my American Express card in such a situation. Overseas developers and agencies love to tap into this trait.
Cities in Asia are constantly hosting agents and developers flogging shiny new properties “off plan”. The numbers of advertisements I see in the local press touting projects in London, Sydney or some other favoured destination says a lot about the conditions in that market.
Advertisements for London property are the most numerous. London is a valued “rule of law” country, and viewed by many Asians as the most important financial centre in the world. It is also known to be more tax and regulation friendly than the U.S. For decades it has been the preferred destination for people from all over Europe, the Middle East, Asia wanting to buy and hold some real estate as a hedge against conditions in their own countries.
Investors may have a general idea of the area they are buying into, but many don’t. They become victims of what can be a sophisticated sales exercise.
On paper, you can’t see the smoke belching factory just down the road, or the noisy freeway running past the end of the block, or the rail line rattling past the back window. Or that soon-to-be high rise next door that just received planning permission.
A number of people I know have recently been tempted into buying brand new properties off plan in a certain area of central London. This area is undergoing a regeneration, a rebirth that has been more than twenty-five years in the making, and which is getting off the ground now.
It sounds good. The only problem, though, is that the number of new apartments that will be hitting the market over the next three to five years is unprecedented for central London.
Oversupply is a certainty. And with it, prices and rentals are going to come under pressure.
Yes, it will be a successful regeneration – over the next generation or so. In the meantime, prices will fall… and, but only with time, recover.
My guess is that it will be a decade, maybe more, before the market for these properties reaches today’s levels.I say this having experienced a similar cycle in London myself.
The people who have asked me about investing in this area of London may have some knowledge of the city. But have not been and visited the area where they are looking at buying.
They are simply unaware of the massive amounts of building going on in the area, and the impact that this is likely to have on property values.
And of course, the developers and agents do not want to come forward with this kind of information.
Just think about it. Why is the developer peddling his new building off-plan to buyers located thousands of miles away? Simple. He doesn’t want you to visit the site – and he thinks overseas buyers will buy what his local buyers won’t!
Why else go to all the expense of advertising his London or New York property in Hong Kong, Singapore, or Beijing? He reckons that overseas buyers will pay a price that the domestic market won’t – because they’d check it out and know better.
This is particularly true of London, where thousands of new high-rise apartments are springing up and being sold all over Asia, the Middle East, Eastern Europe. Why? Well the simple fact is that London folks really do not like living in high-rise developments. It does not suit them. Maybe they’ll get used to it, but that would be a slow process.
In the meantime they prefer low-rise living, with greenery on the side.
Asians, on the other hand in fact prefer high-rise living. They like the feeling of security that living in a safe, well managed apartment block can bring. The “lock up and leave” aspect of high-rise housing also has attractions.
Judging by London property advertisements I see in the local media in Asia, I’m amazed at just how big “Prime Central London” has become!
Remember… if it looks too good to be true, it almost always is….
Cornelius Vanderbilt might have been the greatest capitalist in history.
When Cornelius was just 16, in 1810, he borrowed US$100 from his mother. Using that money, he went on to build a fortune of around US$100 million. That would be worth over US$200 billion today. And it was roughly equivalent to 50 percent of the holdings of the U.S. Treasury at the time.
This kind of wealth was unheard of back then. It made Vanderbilt one of America’s richest men.
But within just 50 years of Cornelius’s death, the Vanderbilt family fortune was completely gone…
Cornelius started his shipping business by buying a passenger boat, which he expanded into a small passenger fleet. Eventually, he moved into the steamboat business. And having made a small fortune in shipping by his 50s, he turned his attention to building a railroad empire, which was his focus until his death.
Cornelius had a natural talent for business… handling the money, the competition, the costs and revenues, the deals and the relationships with everyone from the top to bottom of the food chain. He was a fervent believer in the merits of free competition, laissez faire (that is, letting things take their own course without interfering) and that government should play a minimal role in commerce. The entire Vanderbilt corporate life was built and operated under these beliefs.
For example, when he got into shipping, the industry was dominated by companies that had been granted monopoly rights on certain routes. Cornelius took them on with ferocious competition – cutting costs, reducing fares to almost zero and building and deploying faster ships. Almost without fail he prevailed, driving numerous incumbents either out of business, or into his arms. His opponents simply could not keep up. He brought this same mind-set into railways.
After his death in 1877, Cornelius’ son William took over the portfolio. Rather incredibly, William doubled the value of the Vanderbilt fortune to US$200 million by the time he died in 1885.
Then the rot set in…
William’s family inherited the Vanderbilt fortune and proceeded to squander it. They lived a lifestyle that their grandfather would never have contemplated. They built grand houses in locations frequented by the rich and famous… including ten palatial houses in Manhattan. These were all playthings, vanity projects to satisfy egos.
Within 30 years of Cornelius’ death, no member of the Vanderbilt family was among the richest in the U.S. And within 50 years of his death, the fortune was completely gone.
When I look at this story, I have to conclude that while Cornelius might have been the greatest capitalist on the planet, he was not a great investor.
Yes, we can lay the blame for the demise of the family fortune on later generations. But Cornelius essentially laid the foundations for this decline by his own hand.
First, practically all of his wealth was tied up in railroad and shipping stocks. There was little diversification across other industries, or across companies. It worked for him personally because he was intimately involved in running and managing these companies. But later, these companies were run and controlled by someone else. And as we’ve shown you before, having all of your wealth in one or two industries can destroy your portfolio if disaster strikes.
And having an entire fortune tied up in shares that can be sold at the drop of a hat made it all too easy for his heirs to say “I want to build this grand house for myself — let’s sell some shares today”. I think this was a key part of the demise of the Vanderbilt fortune. I am convinced that having an entire wealth tied up in shares allows undisciplined owners to react to whims and short-term pressure. Having a mix of assets, that perhaps cannot be sold on the back of a phone call to a broker can guard against short-term temptations and whims. We’ve always stressed the importance of diversification and have written about how to make sure your eggs aren’t all in one basket, here.
The second major fault in the Vanderbilt portfolio was that it held very little in the way of hard assets. It did not include much land or real estate. And he owned zero investment properties, mines, or large farmlands.
Yes, Cornelius built a nice house for himself, and had some offices and some commercial space for his businesses. But he never invested in the most spectacular urban growth story of the century. He was running businesses in the financial heart of the country, a city that was growing by leaps and bounds… but he never bought land in New York City for development into commercial buildings. He loved dividends but didn’t see the cash flows that would come from investing in New York’s burgeoning real estate market.
Just think of what the family fortune might have looked like if Cornelius had parked 20 percent of his shipping and railway generated earnings over the years into land and buildings in what has become a pre-eminent global financial centre.
And an added bonus of real estate would have meant less liquidity. It’s easy to sell traded shares on a whim, but it’s a lot more difficult to dispose of an office tower. Lower liquidity might have prevented such a rapid demise of the Vanderbilt fortune, simply because it would have been more time-consuming and difficult to sell assets.
Vanderbilt wasn’t the only family dynasty spawned in the 19th century. Two other families I am familiar with built up massive fortunes during this time. And both of those dynasties are still thriving 150 years later. I’m talking about the Jardine family (which co-founded the Hong Kong-based conglomerate Jardine Matheson (Singapore Exchange; ticker: JM), and the Swire family (which founded the London-headquartered Swire Group (Hong Kong Exchange; ticker: 19) conglomerate).
Both of these family companies started out in concentrated businesses – but diversified into a range of different businesses. Jardine started out selling opium, cotton, tea and silk. Today, the company is involved in motor vehicles, property investment and development, food retailing, home furnishings and luxury hotels, just to name a few sectors. There are more.
Meanwhile, Swire started out in the textile trade. Today, it’s involved in property, aviation, beverages and food, marine services and trading and industrial industries.
Real estate also became a vital core business of both companies. Both invested in Hong Kong back when it was a proverbial backwater. Today, it’s the Asian equivalent of New York.
These families did the two things that the Vanderbilts did not. And today, many generations later, both of these families are still worth billions of dollars.
The two things to take away from this story are that diversification and a core of “hard assets” should be guiding principles for all of us – even if we will never come close to mimicking Vanderbilt’s wealth.
With a well-diversified portfolio that includes hard assets like real estate, you can survive just about any crisis… and grow your wealth for years to come.
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