Pete Wargent blogspot

Co-founder & CEO of AllenWargent property advisory & buyer's agents, offices in Brisbane (Riverside) & Sydney (Martin Place) - clients include hedge funds, resi funds, & private investors.

4 x finance/investment author - 'Get a Financial Grip: a simple plan for financial freedom’ (2012) rated Top 10 finance books by Money Magazine & Dymocks.

"Unfortunately so much commentary is self-serving or sensationalist. Pete Wargent shines through with his clear, sober & dispassionate analysis of the housing market, which is so valuable. Pete drills into the facts & unlocks the details that others gloss over in their rush to get a headline. On housing Pete is a must read, must follow - he is one of the better property analysts in Australia" - Stephen Koukoulas, MD of Market Economics, former Senior Economics Adviser to Prime Minister Gillard.

"Pete Wargent is one of Australia's brightest financial minds - a must-follow for articulate, accurate & in-depth analysis." - David Scutt, Business Insider, leading Australian market analyst.

"I've been investing for over 40 years & read nearly every investment book ever written yet I still learned new concepts in his books. Pete Wargent is one of Australia's finest young financial commentators." - Michael Yardney, Australia's leading property expert, Amazon #1 best-selling author.

"The most knowledgeable person on Aussie real estate markets - Pete's work is great, loads of good data and charts, the most comprehensive analyst I follow in Australia. If you follow Australia, follow Pete Wargent" - Jonathan Tepper, Variant Perception, Global Macroeconomic Research, and author of the New York Times bestsellers 'End Game' and 'Code Red'.

"Pete's daily analysis is unputdownable" - Dr. Chris Caton, Chief Economist, BT Financial.

Invest in Sydney/Brisbane property markets, or for media/public speaking requests, email pete@allenwargent.com

Sunday, 30 September 2012

Trend is your friend

Two of the most common reasons I hear for people not buying into the share market or the property market are these:

1) "I can't buy now because prices are at all-time highs"

2) "I can't buy now because prices are falling"

As stock markets and property markets tend to trend upwards over time it is in fact almost always the case that prices are at all-time highs or they are falling.

This is what is known as reading the chart from right to left. That is, looking back at what has gone before in order to second guess what is coming next.

Try to look at the chart differently and read it from left to right. It is my contention that both Australian markets will be markedly higher in the future. This may or may not be the case over the next few years, but to all intents and purposes as a net acquirer of assets, I don't really care.

In fact, as Buffett points out, price falls are of benefit to net purchasers of assets because they will pick up their future assets for a cheaper price.

Chart reading skills

There is a certain art to reading price charts. What can be slightly confusing to beginners is that an asset's price can be both rising and falling at the same time, depending upon what timescale you are considering the chart for.

Both the property market and share market have fallen over recent times, so you may hear someone who is thinking in terms of an 18 month time horizon say that "the market is falling".

This is not incorrect, but what of someone who was looking at the prices from a 20, 40 or 60 year chart? They would tell you that the trend is a very strong upward one.

The question is, which camp do you want to be in?


Dwelling Prices graph

The flaw in our pension plans

Insidious inflation
There has been a structural shift in many developed countries over the past two decades. Inflation for many countries, including Australia, is now under control. Interest rates too, have been consistently lower for two decades as well.
Overall, this is a welcome change for the economy.
Why is high inflation bad? Inflation is an effective  tax on savings and can be brutal on those who do not understand its compounding force. Very high inflation creates uncertainty and can stunt economic growth, as well as transferring wealth from lenders to borrowers.
To some extent inflation discourages saving, too, instead encouraging punters to hedge against it by investing their funds.
The Federal Reserve in the US has alluded to this problem, fearing that people spend much more of their time managing their existing savings than they do trying to add to them.
The problem right now
One of the problems we have currently is that interest rates paid on savings are heading towards all-time lows in Australia last seen during the global financial crisis.
This presents pensioners in particular with a real dilemma. Bank savings rates, term deposits and other fixed income products just aren’t providing the same level of income as they used to.
The flaw in allocated pensions
I’m going to get a tiny bit technical here but I’ll keep it simple so stick with it.
Most Aussies have their pensions invested in total return funds (i.e. funds which make no distinction between income and growth) and begin to cash in parts of the pension when they reach the retirement age.
The problem with many such funds is that they are invested in high growth assets (Aussie shares, international shares) and thus they can be at the mercy of short-term fluctuations in the equity markets.
As a pensioner starts to cash in units of the fund for funds to live on, he or she will cash in more units when the market is low and fewer when the market is high.
This mirrors what investors call dollar cost averaging – only in this case, the effect is happening in reverse. It’s bad.
SKI Holidays
I went travelling last year and for two months went around the world on Cunard’s wonderful Queen Elizabeth ship. The one phrase I heard more than any other was: “We are on a SKI holiday – spending the kids’ inheritance!”
Of course, I laughed along at this tired old joke. Hundreds of times, actually. Acronyms can be funny to a point, but there surely is a limit to just how funny!
Regardless, my real view is that this just sounds sad to me. Is that really all there is to life? To “spend the last dollar on the day I die”?
Not a great outcome for the poor kids, is it? I believe that we should take a longer term view than that and try to leave a legacy.
The solution
We don’t want to become a forced seller in distressed markets. That’s a rubbish outcome for years of diligent pension contributions. We need to take a longer term view than this.
One answer is taking control ourselves: self-managing our pension so that we have a clear balance of assets that suit our own needs. I would suggest a balance of investment property and shares.
Read this next sentence carefully:
The other solution is to build a portfolio of assets outside our pension that over the long term generates income as well as inflation-busting growth (well, that’s investment property and shares again, isn’t it?) so that, unless we choose to, we never have to sell our assets.
OK, that’s the third power cut of the day in East Timor. Let’s leave it there for now.

Saturday, 29 September 2012

'Two strikes' rule on executive remuneration "a charade"

When I was working in the listed company environment I was always felt that the shareholder vote on the remuneration report was a bit of a waste of time. And in truth, it was, for it carried no weight whatsoever.

Today, shareholders can, theoretically at least, cause great discomfort for company boards by issuing a 'second strike' - a consecutive 'no' vote to the remuneration report.

However, despite reforms to the system, the two strikes rule is still a toothless tiger, as explained by Terry McCrann in this article here. The odds of anything changing in respect of executive pay as a result of the reforms are slim and none. Here's McCrann:

"Some shareholders would want to make the gesture of opposition to the report, without setting in chain a move to a board spill.

But even if enough votes stuck, it only initiates the process. There has to be a totally fresh meeting, perhaps as long as three months later, for the actual vote on the board.

The vote at that meeting is not restricted to those who attended the first meeting. The board could seek to drum up absent shareholders.

More fundamentally, it is an entirely different proposition for shareholders to vote to sack some or all of the board; as against the earlier votes which were essentially just gestures. It is this, and only this 'third strike' that really counts.

And that's the fundamental point. If more than 50 per cent of voting shareholders want to go through this extended process to sack some or all of a board, there is - excitable commentators please note - a much easier alternative.

Just vote against their re-election at the AGM. Nominate others to stand for election at the AGM. Call a special meeting to sack some or all of the board. Or some combination thereof.

Yes, a second strike, a spill resolution, a spill meeting, would be embarrassing. But none of this over-rides the basic point.

A sufficient number of shareholders must want to sack some or all of the board. That sufficient number must be prepared to do it and live with the consequences.

It has been ever thus. It remains ever thus. The 'two strikes rule' is an elaborate gesture, but ultimately also a charade."

Friday, 28 September 2012

Effective tax rates in Oz

The rates of income tax in Australia are high, which makes it very difficult to become wealthy from a salary alone.
The thresholds were changed for the 2013 financial year - while the tax free threshold is more generous than it has been previously, the marginal tax rates ramp up very quickly so that even taxable income of above just $37,000 begins to attract income tax at the marginal rate of 32.5%.
Thus, from that point onwards a third of more of your salary is likely to be deducted at source and winging its way to the coffers of the Australian Tax Office.
Threshold
Marginal tax rate
$18,001
19%
$37,001
32.5%
$80,001
37%
$180,001
45%
As the marginal tax rates operate on an increasing scale, those who earn above $80,000 per annum start to be punished heavily on their top slice of income. Note in the table below how the effective tax rate increases as you earn more money.

$
$
$
$
$
$
Gross salary
50,000
100,000
150,000
200,000
250,000
300,000
Income tax
7,797
24,947
43,447
63,547
86,047
108,547
Medicare levy
750
1,500
2,500
3,000
3,750
4,500
LITO
(250)
-
-
-
-

Total tax
8,297
26,647
45,647
66,547
89,795
113,047
Net pay
41,703
73,553
104,303
133,543
160,203
186,953
Effective tax rate
16.6%
26.6%
30.4%
33.3%
35.9%
37.7%
The effective tax rate rate of increase tapers off as the effective tax rate converges towards 46.5% (the 45% top bracket plus the 1.5% Medicare Levy.
Thus, for example, if you earned a salary of $10 million, your effective tax rate would be 46.2%, and if you somehow managed to earn a salary of $100 million, you would finally have achieved the fine distinction of an effective tax rate of 46.5%!
The implication of this is that while a larger income is obviously very useful, tax rates cut into your income substantially and as such it becomes difficult to build wealth through a salary alone.
Wise investment of your net salary is the solution.
***
Good luck to Sydney Swans in the AFL Grand Final.
I managed to make it to their last home game of the season at the SCG, but tomorrow will be tuning in (along with a few other expats from the Dili Beach Hotel).
Go Swannies!

Thursday, 27 September 2012

7 questions to ask before buying a property for its yield

1 What happens to property prices in a recession?
History shows that in times of economic downturn, interest rates are generally dropped in order to stimulate recovery and property prices can occasionally be boosted as was seen in Australia through the global financial crisis (GFC), where we were fortunate avert a full recession and the cash rate was cut to just 3% in 2009.
This has led some down the erroneous path of openly declaring that they are hoping for "the next GFC". Quite apart from the mean-spirited nature of barracking for an outcome of negative global growth which causes mass unemployment, the glaring presupposition here is that property must surely perform well in times of economic distress which is patently not the case.
When a major recession takes hold in a country GDP growth stalls and then falls, jobs are lost, mortgage holders may default and property prices can fall…sometimes dramatically. If there is a credit market short-circuit, all hell can occasionally be let loose. Thus be very wary when you buy property; there must be a continual, high demand for it.

2 When did Australia last have a recession?
Not since 1991, known as Paul Keating’s “recession we had to have” following the collapse of the Soviet Union and the subsequent fall of the Eastern Bloc.

3 When did 'positive cash flow property' become buzzwords in Australia?
No precise date, but mainly around the time when Rich Dad Poor Dad was published (2001). Interest rates had been dropped somewhat from a more 'neutral' level of 7.50% since 1994 and thus it became fashionable for a time to state that even a minimal negative cashflow on an investment property must never be accepted. We should focus on rent first, location and demand later, it was held.
Then interest rates crept back up to 7.50% by 2008, making positive cashflow a non-event for most new investors, before the subprime crisis and the bankruptcy of Lehman Brothers in September 2008 again dramatically inverted the yield curve. The catch-cry then was that a moderate negative cashflow was acceptable (unsurprisingly what dedicated growth investors have always contested).

4 How high a rental yield does a property need to be positive cash flow?
Not a question that can be quantifiably answered due to it being dependent on numerous factors including the loan arrangement, lending rate, depreciation allowances and size of the deposit. For the sake of argument, you might say that a rental yield should be a couple of full percentage points higher than the mortgage lending rate.
Yields vary greatly depending on market cycles, property types and locations. You might get a 4%-5% yield in Melbourne or Sydney today, but much higher, for example, in certain mining towns or tourism properties.

5 When were Australian interest rates last ‘high’?
We’ve had consistently lower interest rates now for around two decades. In 1991, the cash rate was above 10%. In 1990 it was 17%.

6 What can we learn from overseas?
The US is very diverse; I’ll leave it to others to comment on that market.
I grew up in England. Once upon a time, there was a glorious decade for property investors when many of us Poms benefited from a tremendous one-off boom in credit growth, low interest rates, persisting economic growth, an unflinching confidence in the direction of property prices and a relative shortage of housing stock. Sound familiar?
In late 2007 the great property price boom finally was finally halted by a major recession when credit markets dried up or froze. Prices in many regional areas were hit phenomenally hard by up to 15% per annum and some have not recovered.
Note that the recovery has not taken hold despite property shortages in certain areas and interest rates being stuck close to the nadir of their zero-bound range for several years. The irony here is that due to rock-bottom interest rates, positive cashflow property can currently be sourced almost anywhere in England today.
Today I’m 35, so I know a great many people from around the country owning first-time properties with negative equity, with immediate prospects for a return growth unclear even half a decade later.
I know a number of Brits, though, who still believe that real estate is the greatest investment they've ever made. That’s because they bought in great suburbs close to the centre of London where demand for property continues to be huge. In some areas the demand is vast. I hear (perhaps sometimes apocryphal) stories of today’s more fluid investment capital flowing into London from all over the world: Asia, Russia, the Middle East.

7 What of overseas investors in Australia?
Currently demand from overseas investors is inevitably dampened here due to the twin forces of our strong property prices and, particularly, the unusual resilience of our currency. There is some conjecture here, but whenever sentiment from Asia does return with gusto, I’d expect the next generation of international investors to focus on the major metropolises.

The inner and middle ring suburbs of Sydney and Melbourne are likely to be major benefactors, with those from overseas unlikely to seek out property in remote or regional areas.
I’d steer clear of investing directly in the CBD areas, however, as the supply/demand dynamic is too unpredictable.

Summary
Economies move in cycles and one day we will again have a major recession in Australia. Where do you want to own property then?

Yield curve says...interest rate cut imminent

It seems as though I’m about the only person left in Oz who thinks that interest rates should remain on hold on Tuesday next week – in fact, the markets say I am 72% likely to be dead wrong and rates will be cut again. Without wasting too much energy, here is my reasoning for holding:
·         Low unemployment below 6%
·         Inflation data not due until 24 October
·         Some signs of house prices recovering
·         Dollar softening a little (though rebounding to 104 cents this afternoon, admittedly)
·         Rates are already low!!
History also says November is a favoured month to adjust the cash rate prior to the festive season.
The argument against me largely surrounds falling iron ore prices and the strong currency.
In fact, take a look where the implied yield curve is now pointing for 2013 - below 2.50%. Yowzers.



***

The Aussie share market bounded back a little late in the day, the All Ords closing up 0.5% as news comes to light of a money market stimulus in China.
As a result the US market is expected to snap an ordinary run and open up by around 0.5%.
***
Suddenly, it is incredibly humid in Timor today. Looks like that might be it the best of the dry season done and dusted, now into the malaria/mozzie season!

Australia to print more money...literally!

From SMH here:

"The Reserve Bank of Australia has been working on creating new, "youthful"-looking bank notes for the past five years, according to a report.

The project, called Next Generation Bank Note, is more than two years behind schedule and has so far cost $9.3 million, News Limited reports.

Designers have been supplied with new portraits of the notes' subjects and asked to capture Australian characteristics with "youthful" and "energetic design qualities", it says.

The RBA had toyed with the notion of removing the Queen from the $5 note in favour of Australians, including father of federation Henry Parkes, but scrapped the idea last year.

A bank spokesman has confirmed the project, saying it was taking place to ensure Australia maintained its "relatively low levels of counterfeiting".

The notes would include new security features but retain most of the existing design elements including colour, size and their current portraits, the spokesman said.

The bank also said it will take several years before the first upgraded notes are issued.

The initiative followed research by the bank that found most Australians couldn't name the faces on their national currency."

How to beat tax and inflation - in one easy Blog post

Moving with the times
Property investors have tended to wipe the floor with share investors over the long term for one simple reason: they usually use more leverage. While quoted percentage returns may often be similar over periods of time, when the effect of the borrowing is factored in, the additional gearing on their long term investment returns can make property investors winners.
In the years immediately prior to Paul Keating sweeping his broom through the Australian tax system in the mid-1980s negative gearing had become popular, which fuelled a love of property investment in this country, and a tendency for many to favour that asset class over equities.
Keating changes the rules of the game
Before he became the Labor PM, Hawke's Treasurer Paul Keating made two key changes in particular. Firstly in 1985 he introduced the Capital Gains Tax which means that today it is far easier to build wealth through buying and holding appreciating assets than it is through attempting to consistently time the market and regularly trading them. This is true in shares and particularly true in property, where transaction costs are high.
Secondly, in 1987 Keating introduced dividend imputation (franking credits on dividends) which removed the iniquitous double taxation on distributions to shareholders upon which tax had already been levied.
A third major change took place in 1993, this time to Australian monetary policy being the Reserve Bank’s introduction of a target range of inflation. Prices growth had been rampant at certain times in previous decades.
The effect of the CPI target has been marked. Today the two preferred ‘core’ inflation readings sit snugly at the bottom end of the targeted range of 2-3% (1.95% if we want to split hairs), and the headline inflation figure is even more benign still at an exceptionally low 1.2%.
High inflation: an illusion of growth?
While property appeared to perform strongly for all owners of real estate through the 1970s and 1980s, there was to some extent an illusion of growth happening. In part, what eventuated was a material devaluation of the associated mortgage debt caused by high inflation. When inflation is prevalent long-term creditors (property investors) tend to win and lenders lose.
But while property prices were nearly always moving higher, the value of many properties did not increase at all – as many of those who proceeded to sell and re-buy property discovered. And while salary levels jumped, the cost of living was often increasing sharply too.
How growth really happens
Growth is usually in some way related to an income stream and re-investment.
If you put cash in a term deposit it can only grow if you re-invest the interest income. The intrinsic value and growth of a share price is driven by the increasing profits of a company, some of which are re-invested and some of which ultimately should be passed on to the shareholders in the form of dividends. Shareholders may also elect to re-invest their dividends via a dividend re-investment plan (DRP).
The real value of a property is only truly driven up by it being improved (sub-divided, rezoned, renovated) or by it being in higher demand, which in part results in higher rents from a landlord’s perspective. With properties, too, we often must re-invest some of the income for repairs and maintenance, lest we be left with some land and a house that has fallen down!
While a property which increases in price in line with inflation retains only the illusion of being a ‘growth asset’, what we really want to seek are assets for which the demand is growing. Just as there are both fabulous companies in which to invest and ventures with diabolical prospects which will inevitably sink into insolvency and fail, property investors need to identify the outstanding prospects.
Properties which will outperform
Yield investors who prioritise cash flows like to get on the front foot and suggest that properties which attain higher spot yields today in the regions will be the ones to capture capital growth in the future. This can sometimes be true.

Sweeping generalisations should be avoided, and what many property investors today don’t yet appreciate is that in times of lower inflation combined with a structural change towards lower interest rates, the rental income on a property can actually represent the bulk of investor returns for sustained periods of time.
But…think back to what we said about how wealth is most easily created in today’s taxation system: through holding outperforming, compounding growth assets in a tax-deferred manner for the long term rather than identifying moderately undervalued assets in order to trade or flip for a shorter term gain.
In property, in spite of what you might have read in various forums over the years, location and growing demand are important. In fact, they are critical. 

Thus what Australian investors should identify are the areas where there will be massive population growth but a limited supply of land available for release over a sustained period of time. This is particularly so if you are in the earlier part of your investing life and are planning upon holding for decades. We make our own judgement call on this, of course, but I know where I’ll be looking.

***

Weekly cock-fighting night in Dili again. I absolutely love East Timor, but some things just aren’t good for veggies to endure. Just not a fan. Not a fan at all.