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

Friday, 28 February 2014

Weblog

I like blogging. 

It's fun, an interesting hobby, and it gets a few thoughts out there each day.

But are blogs important?

Greg Jericho aka Grogs Gamut (see my Blogroll) made his case in his book The Rise of the Fifth Estate that social media and blogging has, on the whole, been a positive force. 


And Jericho also acknowledges the nasty tone of so many online comments today.

Certainly, the rise of blogging seems to at times have blurred the lines between traditional journalism and new media outlets.

Of course, opinions, and people having the ability to express them, are always important.

But, during some news events in 2013, we appeared to traverse into a parrallel universe at times, where random Twitter users seemed to think they were more important than journalists - somehow detached, yet an integral part of the event.

A shooting event in the US, in particular springs to mind, where the Twitterati claimed it was "the day mainstream media died".

I thought that was a load of old gonads, to be honest.

Someone still has to be out there, filming the events, interviewing the witnesses, observing developments.

There was a CNN advert sometimes last year which opined that "you can have a thousand online bloggers, but there needs to be a journalist out there reporting the news"...or similar words to that effect.

That rang true.

I sometimes wonder whether bloggers don't have have over-inflated egos and consider themselves to be more important than they actually are.

Sure we all disagree with political or economic policy at times, and we will always debate them. That was always true before online journalism was ever even conceived.

But it almost seems sometimes that people forget that out there in the real world are real people making real decisions, not living in a make-believe world whether everything works smoothly. 

That world doesn't exist.

Say what you like about Glenn Stevens or Alan Joyce (and crumbs, didn't people do just that this week when 'Alan Joyce' was trending on Twitter?), but at least they are out there making the tough decisions, whatever brutal comments the keyboard warriors have to say about them.

Anyway, it's late on Friday night, no idea at all why this came to mind!

Have a great weekend all...

---

"It is not the critic who counts; not the man who points out how the strong man stumbles, or where the doer of deeds could have done them better. 

The credit belongs to the man who is actually in the arena, whose face is marred by dust and sweat and blood; who strives valiantly; who errs, who comes short again and again, because there is no effort without error and shortcoming; but who does actually strive to do the deeds; who knows great enthusiasms, the great devotions; who spends himself in a worthy cause; who at the best knows in the end the triumph of high achievement, and who at the worst, if he fails, at least fails while daring greatly, so that his place shall never be with those cold and timid souls who neither know victory nor defeat."

Excerpt from Theodore Roosevelt's speech "Citizenship In A Republic" delivered at the Sorbonne, in Paris, France on 23 April, 1910.

Credit

Lots of gloom around at present, with Qantas shedding jobs, Virgin in the mire, the jobs market looking soft...and the capex data rather horrible!

On the plus side, some big earnings reports from the large companies.

Woolies (WOW) posted an underlying profit of $1.3 billion profit today for the first half, a solid increase of 6%.

To be blunt, job losses and struggles at Qantas and Virgin are very sad - I have mates at Qantas - but ultimately these are small companies in terms of the Aussie economy.

Earnings results from the big players have mostly been pretty good, and this is reflected in the share market being close to 6 year highs.



Source: ASX

The Housing Industry Association (HIA) today said that it expects the Reserve Bank to keep interest rates on hold for the whole of 2014.

The HIA also noted that new housing starts are forecast to break the 165,000 threshold for only the 2nd time in a decade, which means that residential construction will begin to play its part.

Credit

The Reserve Bank also released its financial aggregates data today.


Credit growth remains far from remarkable, and obviously it is still housing credit leading the way (+5.6% y/y/). 

On the plus side, all sectors are now confirmed as being in an upswing, so low interest rates are beginning to impact business and personal credit too.

Unsurprisingly, the net result is that house prices are rising everywhere.


Source: RP Data

However, as I'll get around to analysing, the February data will reveal prices as 'falling' in February in all cities except for Sydney (where preliminary auction clearance rates last week were almost as high as we've ever seen).

Monthly data is hardly reliable, but who knows, maybe things will start to cool across Australia as the year progresses. 

More to follow on this...

Thursday, 27 February 2014

Interest rates to rise soon?

Nah.

A few weeks ago with housing approvals at historic highs, business confidence up, resources exports flying and retail sales coasting along at an annualised 6.5% pace, things were all starting to look almost rosy for the Aussie economy.

Inflation looked like it might be picking up, although the RBA appeared to think that this may pass.

And, as we know, house prices had a very strong 2013 in Sydney, Melbourne and Perth.

The pendulum has swung back a bit the other way, though.

The jobs data has since been crap, and the capital expenditure data today was...even more crap.

Some high profile job cuts are unlikely to help confidence.

Mining investment could drop by quarter or even a third next year, which leaves the rest of the economy quite a lot of heavy lifting to do to fill the gap in the intervening period before resources exports really get going.

Even in the best case scenario interest rates are stuck where they are for months.

If the economy doesn't start to pick up further, the next move could still be down. 

The economy is supposed to rebalancing, but it's been a it sluggish to date.

Futures markets are 95% certain that rates will be on hold at 2.50% next Tuesday, with a cheeky 5% chance of a cut priced into interbank cash rate futures. 


Source: ASX

Free book excerpt

A sad day for Qantas (ASX: QAN), with the company finally announcing that it will shed 5,000 jobs.

The share price was clobbered by more than 9% to close at $1.15, a world away from the $5.00+ seen before the financial crisis. 

Some investors have lose four-fifths of their money.

Today, I am reproducing a short free excerpt from my book, an excerpt which discusses investing in airlines in particular, and why you shouldn't do it.

If you've read my books you will know that I talk about:

-being smart with your income and spending less than you earn

-going hard into income-producing equities (shares) products such as Listed Investment Companies through using a regular buying plan

-acquiring well-located investment properties in cities like in London and Sydney.

And, one of my golden rules: don't invest in airlines!

The book excerpt below explains exactly why.

BUY MY NEW BOOK - ON SALE NOW

"Investing in airlines?

Qantas (QAN) is one of Australia’s household company names having been established for more than 90 years. While today the company has its head office close to the airport in the suburb of Mascot in Sydney, as the original name of the company suggests (Queensland and Northern Territory Aerial Services Ltd) the airline originated from the sunshine state of Queensland.

While I was on my travels in 2011, one of the most interesting places in the whole of Australia that I visited was the small town of Winton in Queensland. Winton is well known for the nearby 95 million year old dinosaur stampede footprints which you can visit, but also for being home to the founding headquarters of Qantas in 1920, with operations being moved along slightly to Longreach in 1921.
Return on investment in airlines has been historically poor.

The Qantas story is an interesting tale and a quintessentially Australian one, comprising the founding of the Flying Doctor service in 1928, a relocation of the head office to Brisbane in 1930, the first economy tourism flights to the UK in 1953 and the introduction of the jumbo, being the Boeing 747 in 1971. Qantas was also responsible for the evacuation of a record 647 passengers from Darwin’s Cyclone Tracy over the Christmas period in 1973.

In 1988, Qantas became an incorporated public company and in 1991, Prime Minister Keating announced that the Government had sold Australian Airlines to Qantas for $300 million. Qantas now can be fund under the ASX stock code of QAN.

 Qantas 10 year share price history


Source: Australian Securities Exchange, www.asx.com.au

As for many companies domiciled in developed countries, Qantas is going through a turbulent period, if you will please pardon the awful pun. Employers in Australia are increasingly discovering that employing staff is a very expensive business. When a new employee is recruited today, the employer does not only have to consider salary payments but also the on-costs associated with employment.

Today, a package might include a salary, a bonus, share option schemes, Workers Compensation insurance, superannuation contributions, Work Cover insurance and more. The actual cost to the company can easily be 50% more than the basic salary which is advertised to the employee.
Australian companies are suffering from expensive employment costs.

Whilst I was on my travels, part of my trip was a world cruise with one of the top cruise lines, travelling from Australia to the UK, via Asia, the Middle East, North Africa and Europe. While the cruise ship officer positions were often staffed by the English, the waiting staff, administrative workers and the cleaners seemed to hail almost exclusively from the Philippines.

Cruise ship companies have had to adapt to the expensive cost of employing staff from developed countries by employing Filipinos (who work long hours and for months at a time while on board, before returning home for an extended break) and by domiciling their companies overseas.

We are starting to see similar trends from companies based in London, New York, Sydney and Melbourne. We will all be familiar with phoning service companies and the phone call being taken in India from a call centre. This is a direct consequence of the cost of employment in Australia and other developed nations. The implication of this is that Australian-domiciled businesses need to be able to move with the times in order to keep their costs down.

Do airlines make for good investments? If past history is reflective of the future, the answer is clear: no. It is said that throughout the entire history of aviation, airline companies have made a sum total of net losses. Of course, Warren Buffett cautions us to be wary of past history proofs in finance, for if history could tell us everything about future financial trends, the richest people would be librarians, as he noted drily.

Famously, even Buffett and his Berkshire Hathaway colleagues invested in US Airlines and initially made painful losses although Berkshire later recouped its investment as is generally their way. Even the ‘Sage of Omaha’ himself, as Buffett is known, was shocked at the cut-throat nature of the industry. Tongue-in-cheek, he now claims to have a toll number which he calls to warn him off investing in aviation ever again: ‘Every time I feel like buying airlines I phone the toll number and they shout me down!’.

Why might airlines not be great investments? 

As a general rule, then, aviation is not a good industry to invest in. Here are just five of the reasons why:

Sector disadvantage 1 — Competitive industry

Do you remember the demise of Ansett in Australia? Aviation is an incredibly competitive industry and the weak companies will be ruthlessly spat out. Europe has seen a significant rise in the number of low-cost airlines competing for slots. Some new entrants have been a success, including EasyJet and Virgin, but others have fall by the wayside, such as Sir Freddie Laker’s airline in Britain.

Sector disadvantage 2 — Huge aviation fuel and tax costs

Governments can raise taxes on fuel and are likely to increase further levies in a bid to curb carbon emissions. This does not bode well for a profitable future for those involved in aviation.

Sector disadvantage 3 — Anti-monopoly legislation

Brits may remember Sir Richard Branson’s endless campaigning against the British Airways ‘monopoly’ (British Airways must have been the first monopoly in the history of the world with less than a 50% market share!). We know that Buffett likes to invest in companies which operate effective monopolies and can raise their prices as they see fit. Airlines have no such luxury and are often forced to compete on price by increasingly discerning consumers.

Sector disadvantage 4 — Black swan events

A black swan event is an unforeseen, random or unexpected event which can have major consequences on the investment markets. The term was coined by the English when they believed that black swans did not exist and refers to an occurring event which had seemingly represented an impossibility.

Black swan events can spook the aviation industry. For example, the industry suffered an unprecedented setback in the aftermath of the September 11 terrorist attacks in 2001 as customers became too fearful to travel. Similarly, the more recent volcanic eruption in Europe grounded flights across a huge area which cost the aviation industry dearly. We don’t yet know what the next black swan event will be — only that at some point there will be one.

Sector disadvantage 5 — Highly regulated

For obvious reasons, airlines are heavily regulated. Safety is paramount for the ongoing success of an airline. A major accident can destroy the reputation of an airline very quickly which introduces a different risk of loss of capital for investors. Due to the importance placed on safety, the aviation industry is very heavily regulated which brings with it a cost to the operators.

Had you invested in a portfolio of airlines stocks in the US 20 years ago you would today have made a net loss, as compared to a huge return had you simply invested in the wider S&P 500 index. If you are interested in aviation, you may well be better to invest in companies which service the airports and airlines rather than the airlines themselves. It’s a tough industry to consistently generate profits in.

Summary: There are better places than airlines to invest your money!"

My books are on sale by my publishers Big Sky Publishing here

BUY MY 2012 BESTSELLER - RATED TOP 10 FINANCE BOOKS BY DYMOCKS AND MONEY MAGAZINE

Mining cliff arriveth at last

Don't have time to analyse in full, but the capex data is out and it is very weak!

Total capex fell by a seasonally adjusted 5.2% in the quarter alone.

The downward trend in total capital expenditure is now at last here and entrenched.

Graph: Total asset, total industry

Source: ABS

Note, in particular, the massive 17.4% drop in the Estimate 1 for 2014/15:
  • "Estimate 1 for 2014-15 is $124,880m. This is 17.4% lower than Estimate 1 for 2013-14."
The market was looking for a 10% decrease so this was a huge miss to the downside.

These things are easier to see in a picture:

Chart: Financial year actual and expected expenditure- Total Capital Expenditure

Source: ABS

At last looking quite dramatic.

I've noted in various posts recently that ASX releases have telegraphed this coming for some time and sharp cutbacks in capex are to be expected.

The Aussie dollar dived to 89.2 cents. 

GDP will be impacted next week.

And you can basically forget interest rate hikes. 

First the RBA may need to reintroduce its easing bias, and then, if required, may need to cut interest rates again later in the year.

Market anticipate that the cash rate will remain stone dead flat for the next year.

S-curve

The Dow Jones was up again overnight, leaving the 'crash to 3,300' predictions even further wrong than they were yesterday. If I show contempt for some of the books doing the rounds, that's because I am contemptuous.

Predicting the future or markets is not a science, and since some people make bad financial decisions based on these spurious predictions, the authors absolutely deserve to be pulled up for their errors.

The world is not linear, and while pulling charts from thin air may look impressive, there is no way to predict markets with such certainty. In any case, you can invent a chart to 'prove' anything. Take our old friend, the good old S-curve. The x axis represents time passing (x to left, y to the sky, remember?), and the y axis cumulative data.

S-curves can be used for a number of different functions, such as to explain the technology life cycle, or the lifespan of a product.

An example? Say, the new users of a website such as MySpace. The number of new users started out slowly (early adopters), then the site became increasingly popular (early majority), then popularity exploded after Lily Allen started posting her recordings publicly on the site (late majority), and then the number of new users slowly flattened (laggards), eventually to close to nil. 

The MySpace cumulative number of users chart, if anyone has bothered to chart it (which I assume they have somewhere) probably looks something like my S-curve above.

The problem with these books which try to predict the future scientifically is that the world is not black and white, and the number of variables involved is huge. In any case, you can use an S-curve to 'prove' just about anything you want. Let's say, the property crash predictions over the last seven years. Simply add some silly narrative to prove the chart.


Point A (2007) - property prices in Australia's main cities have been flat after a boom through to 2004. All is quiet on the crash prediction curve.

Point B (2008) - "40% crash" predictions appear in the press. Bearish sentiment and crash predictions slowly begins to ramp up.

Point C (2009-10) - prices increase sharply in response to low interest rates. Property investors are variously termed as unethical, greedy and evil. The crashniks gain momentum. A price crash is described as inevitable. 

Point D (2011-12) - the crash crescendo reaches fever pitch as property prices fall moderately. Anyone who owns a house is an idiot. American commentators say prices will crash by 60%...maybe up to 85% in certain areas. People will be wiped out. There is to be no escape from the unavoidable crash.

Point E (2012-14) - prices start rising again. ANZ Bank forecasts prices will rise by 15-20% by the end of 2015. In early 2014, bears begin to lose interest in the crash, capitulate and buy houses. Some join in and buy investment properties. 

Point F (2016) - prices flatten off. We return to Point A on the chart.

Is there such a curve? No, of course not. It's absolutely ridiculous and I just made it up on the spot. But this is exactly the sort of thing that is used to sell books. All I need to do now is trademark it - The Property Crash Prediction Curve - and get it out to market.

Trends

In saying all of this, I have witnessed something akin to this more than once in London, and first-time buyers are often to said to wait until markets are rising before committing to buying. 

In the modern era, first-time buyers in large, mature capital city markets are likely to be in their 30s. There was a lot of talk about property prices crashing when the technology stock bubble burst around the turn of the century, and while sentiment did soften in some areas, there is only so long that people are prepared to wait for a crash.

It's happening in London again now, with Savills out forecasting five more years of price gains of around 25% from 2014 to 2019. Plenty of buyers took a step back from 2009, during and after the financial crisis, but since a man's working life is only so long there is a limit to how long people will wait before simply deciding to get on with it and buy a home. 

What S-curves are really used for in property

Meanwhile back in the real world, and with my bean-counter head on, S-curves do actually have an important role to play in the property world.

When major developers undertake new projects, they are costed using an S-curve model or function, with cumulative labour and construction costs budgeted out through the life of the project. Deviations from the curve are then continuously monitored on an ongoing basis through variance analysis and through using project reporting accounting software packages.

Typically, a major development or construction project has relatively low planning, legal and application costs in its early days, before construction and labour costs ramp up sharply. Then, at the end of the project there will always be a few lagging costs, such as remedial work or disputed contracts, and the project reporting codes are then closed.

Development of new stock

You'd be forgiven for thinking from looking at the price of new apartments that developing companies are making obscene profit margins, but you'd be wrong. Once land, financing, government taxes and charges, labour and construction costs are booked and corporate overheads allocated to a project, developer margins are far from exceptional.

LendLease (ASX: LLC) released its Group Consolidated Results for the half year yesterday, showing a net profit of only $250m, from a colossal revenue of more than $6.5 billion for the half year. The Mirvac (MGR) results present a similar story. Stockland Group (SGP) is generating a Return on Equity (ROE) of well under 6%. Solid enough results, but hardly exceptional margins.

Construction costs

I spent a fair chunk of my career costing out (mining) construction projects and have been responsible for managing budgets that have suffered nasty adverse deviations from the S-curve and painful overruns. It's unpleasant. And if you have to go back to the equity markets for further capital raisings, it's more unpleasant still. For everybody concerned.

Later this morning, the capital expenditure report from the ABS, will show that, for all the talk of mining construction having peaked 18 months ago, total capex is only now beginning to drop. The reason? Overruns, caused by the sharply increasing cost of doing business, variously including labour costs, construction costs and compliance.

The Gorgon gas project in north-west WA will ultimately cost $54 billion, and possibly even more. The original budget was $37 billion (thankfully, I've never been responsible for an overrun like that monster!). The cause of that? Red tape and compliance. And as our society becomes more litigious, this is only going to get worse, not better. You seemingly can't fire anyone these without half a dozen written warnings or a large lump sum payout.

Ask anyone who has managed or overseen a construction project in the last decade and they'll tell you the same thing: labour and construction costs in Australia are very painful. It's partly been driven by a surge in wages. We may have an implied inflation target of Australia of 2.5%, but wages growth has outstripped this figure every year since the inception of the Wage Price Index.

But that's only half of the story. Employing people in Australia today is not only a consideration of basic salary. When budgeting for project labour costs, additional provisions of up to 40% are sometimes needed for on-costs such as productivity, the superannuation contribution, Workers Comp insurance, payroll tax, annual leaving loading, long service leave provisions, and so on.

And even this is only part of the story. As my mining engineer friends in the field never tire of telling me: "You can't even take a leak without filling out a form these days". Coarse. But also true.

Focus on safety

Safety on construction sites is now rightly seen to be of paramount importance - people are more important than profits - and this is coming with a dollar cost attached.

In Sydney in recent days, we have seen the death of a construction worker in the field at Barangaroo, a horrific scaffolding collapse on Mascot's O'Riordan Street and a crane upended in Chatswood, all of which hit the newspaper headlines.

Rightly or otherwise, the press now sees construction accidents as fair game for news reporting and this brings with it an elevated reputation risk to companies.

Go to the ASX and take a read of any property development company or mining company results presentation - such as that of LendLease yesterday - and you will see that after a pretty picture on the front cover and a lengthy disclaimer, the slide we always put as number 1 is: "Safety". It was not always so, but this is now convention is mining and construction circles.

Reserve Bank highlights construction costs issue

One of the benefits of having and independent Central Bank is the independent analysis it brings, and the Reserve Bank in Australia has itself highlighted more than once the impact of higher construction costs on new residential housing stock.

Graph 8: Construction Costs

This might be surprising when you consider how cheap display homes can seem in the glossy magazines. However, operating a construction site is a different matter entirely, and the costs of a major construction project - particularly for multi-storey infill sites of more than 50 apartments, as the RBA clearly shows above - bear no resemblance to those of mass-produced project homes.

The land price for infill sites, even in Sydney is below $100,000 per dwelling. Of course, the land content appears low in the RBA's charts when compared to the median value of lots in the city. And indeed it is, for a couple of reasons.

Firstly, because the RBA has used outdated 2011 figures from Urbis as its source. And secondly because the RBA is looking at the lot value of land released for new dwellings as opposed to the median value of all lots, which is clearly going to be materially different, given the likely locations.

Summary

In summary, we are not going to see materially cheaper land or property prices in Sydney because (a) the land for release is frequently on the outer fringe where few people want to live, and (b) as Urbis itself confirmed, not enough of new land gets released to meet demand anyway, which keeps prices pumped even further.

Rest assured that, expensive as today's new residential projects may seem to off-plan buyers, significantly cheaper new stock will not hit the market. Developers will not accept lower margins than they presently are, and since labour and construction costs remain elevated, so too will the price of new housing stock.

In any case, planners are fighting a losing battle against the manic population growth in the capital cities, which is another reason why for all these years I've argued so strongly against predictions of a Sydney price crash. The Sydney population over the last decade increased by around half a million persons - enough people to fill the main Opera House concert hall to its full capacity 187 times over. That's a lot of people.

Population growth at that pace (and faster still in 2013) doesn't necessarily equate to higher house prices, of course, but it's hardly the recipe for a crash either.

OK, enough blurb for one morning. I'm off to trademark my new S-curve model. 

Wednesday, 26 February 2014

UK mortgages spiralling (+57% y/y) to 2007 highs

Yikes.

Retail sales in the UK are at their fastest pace in 2 years.

Meanwhile, mortgage approvals are spiralling off the charts.

The British Bankers' Association reported 49,972 loans were approved for house purchase in January and increase of 57% y/y
The Government's Help to Buy Scheme has been partly responsible for driving demand.
Meanwhile, 22,972 approvals worth £3.6 billion were granted for re-mortgaging, up 51% y/y.
Mortgage approvals are at their highest rate of activity since boomtime in 2007, while prices have already leapt back to 2007 levels.
It's another property boom the UK. Make no mistake.

Futures markets are actually at long last pricing in an interest rate hike in early 2015.

When it eventually comes it will be the first time the official bank rate has been increased in Britain since 5 July 2007, when the bank rate was hiked to 5.75%.

SCC Demolition

Over the next 12 weeks, the Sydney Convention Centre will be demolished, to be replaced by...the ICC.

So, farewell, by May 2014, the SCC will just be one huge empty space. Oh wait...





Soft construction figures

Poor set of result reported today here by the ABS.

Given that residential construction is supposed to be picking up to fill the void left by the mining construction boom, a result of -1.7% seasonally adjusted for the quarter and -1.0% year-on-year, is decidedly poor.

Although dwelling approvals have picked up, little seems to have flowed through to construction figures as yet.

Hard to imagine any hike in interest rates until construction figures pick up.

To be fair, there does tend to be a lag between approvals and construction.

Also, of note, the engineering construction have not yet dropped off as feared, which buys the economy a little more time to rebalance.

Tomorrow's capital expenditure actual and expected figures will shed more light, in particular the Estimate 5 figures, which are expected to come in between $160 billion and $174 billion.

Towards the upper end of that range would be helpful.

Graph: Value of construction work done, Chain Volume Measures—Trend estimates

Source: ABS

The split between residential and non-residential building shows the soft response from resi construction to date and is as follows:

Graph: Value of building work done, Chain Volume Measures—Trend estimates

Source: ABS

Plenty more work for low interest rates to do yet.

Dent

Dent's 2011 "Survive and Thrive" forecasts have the Dow Jones now bouncing off 3,300.

The index just closed at 16,179.

There is a Scenario 2 Forecast, to be fair, which has the Dow only going as low as 5,000.


Source: The Great Depression Ahead

World-view

Perception is reality?

In the 1960s, English band The Kinks, so named for their 'kinky' fashion sense, became well known for their clever ditties and witty observational humour in their music. One of their popular hits released in 1967, David Watts, told the story of that abominable school head-boy who was better at everything than everyone - from captaining sports teams, to attracting girls, fighting, passing exams...and everything else. 

David Watts was that familiar tale of teenage insecurity with, depending on who you believe, perhaps a bit of an undercurrent of erotic school-days confusion. 

Years later, one of my favourite bands, The Jam appeared on the scene. A group of "angry young working class men" from the regions, their music was variously known as punk/new wave/mod revival, and the songs were frequently political. 

The band leader Paul Weller was well known for his support of the British Labour Party and the 'Red Wedge', and The Jam's music touched on Thatcherite politics, class and employment issues and the growing anti-nuclear spirit of the time.

One of the The Jam's cover singles was described by the ever-creative musical press as a biting "denunciation of the British class system", a brutal account of the privileged few trampling across the working classes, the futile anger of the struggle for equality...among other colourful narrative.



You already know the song title of course: David Watts - a straight cover from The Kinks! Perception becomes reality.

Roll forward to 1991 and Forbes Magazine reported in an interesting article on car sales that the Mitsubishi Eclipse was easily outselling Chrysler's Laser in the US, the Japanese Eclipse averaging more than 100 sales per dealership as compared to a disappointing dozen or so for the American Laser. 

No big deal, you might say, Japanese vehicles once again out-selling their American competitors. 

Just one problem: they were exactly the same model of car! Clearly, the perception that Japanese cars were of a better quality and value-for money counted for a lot. In reality, the vehicles were identical, but, as ever, the perception was very important.

World views

I studied history in my undergrad days, with a particular focus on economic history. Unlike most young lads, I was never all that interested in wars or people blowing each other up, but I always wanted to know about the Industrial Revolution, how people survived in the Great Depression, how World War I reparations resulted in hyperinflation in Germany, and how economics brought about the conditions for World War II. 

One of things which I found quite annoying, though, was how often historians pigeon-hole themselves.

For example, determinist Marxist historians describe every event in history as part of an inevitable progression towards the triumph of the working classes controlling the means of production. The role of class struggle would always result in systemic economic change, and the world would inevitably progress towards the triumph of Communism. No matter that it wasn't actually accurate, it was seen as cool or trendy to define yourself as a Marxist. 

Then there were the revisionists. They take the accepted view of history, then counter that view precisely with the opposite view. The story almost appears to be decided first, then the narrative added later. And so on...you get the picture. 

When spending some time in Germany and learning the language there, I came across a word which, as far as I know anyway, has no English equivalent: weltanschaung, although the internet gives a long and verbose explanation. I guess it loosely translates as "your outlook on and view of the world". 

Whether we like it or not, or whether we even realise it, we all form our own world-views, and this impacts how we invest.

Some world-views

I mentioned in a blog post the other day, how growing up in a city which experienced the decline of its heavy industries and very high levels of unemployment has impacted the way I view the world. Here are a few more views I have developed (note: they may or may not be right, it's just all part of how I see the world):

-there is no bigger economic evil than unemployment - I know some people see recessions are useful, but I don't. Unemployment, to me, represents misery. Britain had unemployment of above 3 million and high unemployment persisted throughout the 1980s...it ruins families and lives;

-companies and their pension schemes can and do go bust - look at the list of the biggest companies on the stock exchange from a few decades ago: how many are still here today? You may be surprised;

-certain industries and even entire regions have a life cycle in developed countries - in Britain, industries like coal, ship-building, car manufacturing and steel all thrived, and then died away;

-I've lived in one of the world's wealthiest nations (yep, that's us - Australia) and one of the poorest, recovering from a modern genocide. I know people who earn 7 figure salaries and people who labour in a tropical climate for a few dollars a week. Since we have food and clean running water, the things that people in Australia complain about are, in the main, trivialities. We're lucky;

-you need to protect yourself from the silent thief of inflation, and keeping money in the bank isn't good enough.

uk inflation

Investing

As noted, these views may not be right, but, my experiences have made them a part of my reality.How does this impact my views on investing?

-You need to protect yourself from inflation. Hold assets that are inflation hedges;

-Don't only rely on your job for financial security;

-I worry about people putting too much faith in one company or a handful of companies. History shows they can and do go under. Diversify into index funds or LICs, at least until you are a very experienced investor;

-Similarly, company pension schemes can blow up, and new defined benefit pension schemes are almost non-existent these days. You need a better financial plan than relying on the state pension and compulsory superannuation contributions;

-Property in regional areas and cities that are reliant on one or two industries can be devastated by recessions. I've seen this first hand in Britain since through several recessions.

Property world-view

It's no coincidence that our company has offices in London and Sydney, and that's also where I choose to invest in property.

Britain was heavily impacted by the financial crisis, and house prices fell from peak to trough by 14% (or 17% depending on your source).

But, as I noted at the time, prices in London and Sydney were never going to collapse. I explained the reasons in more detail in this blog here. Put simply, in large, mature cities, the ratio of new housing to existing stock is tiny, and:

"Land is a factor of production and the demand for it is derived from the demand for housing. Changes in house prices may have consequences for land prices, but it does not follow that changes in land prices will necessarily have consequences for house prices."

Developers are not charities - they are price-takers not price-makers - and when property markets stall, unless developers are otherwise so incentivised, new developments dry up.

London and the south-east of England now has a chronic housing shortage which will take more than a decade to be addressed. Sydney never really had that much of a downturn so construction levels are presently strong.

These are all part of the reasons that property markets cycle. Sentiment ebbs and flows, but stick to the right suburbs of the major capital cities and you tend to do well over time. 

Tuesday, 25 February 2014

End nigh for bitcoin?

The bitcoin craze appears to be passing...prices have gone from above $1,200 to below $460.

Expecting by tomorrow there will have been something of a bloodbath looking at the current price action (down around 15% today at time of writing).

The NY Times reported that one of the major bitcoin exchanges is on the verge of collapse and is to file for bankruptcy, with its website down and all Twitter posts already having been deleted.

Meanwhile, the UK's FTSE 100 is about to notch its all-time record high, surpassing the levels seen at the height of the tech stock bubble 14 years ago. 

Moral: shares in profit-making and dividend-paying companies are better than crypto-currencies.


S&P 500 to all-time high

US stocks up again overnight.

The S&P 500 index now sits at an all-time record high

A big win for long-term holders.


Source: Yahoo

Are markets self-correcting?

The economics textbooks will tell you that markets are self-correcting. Is that true?

When markets becomes overvalued buyers will become scarce and the the market will fall back into equilibrium, say the rule books. And when markets are undervalued rational profiteers will buy them back up to their point of fair value.

The technology stock bubble of the late 1990s and early 2000s was a favourite case in point.


A lot of technology stocks, some of which never even made a profit in their entire lifespan, had PE charts that looked something like this.

For a period of time, the market wanted to own anything which was remotely related to technology or the internet and valuations soared. 

Even experienced heads said that the rules had changed and you had to be "in to win it". 

Companies with no profits were instead valued on number of page views ("price per click") and other strange or non-sensical metrics.

When the bubble burst, the market returned more or less to where it was before the bubble - once again reverting to valuing companies on their future earnings potential.

Ultimately, an asset or company which has no cash-generating ability has no value. If a company cannot generate profits then eventually it will have to sell its assets to survive and will ultimately be worth zero.

Yesterday, I looked at the fluctuating fortunes of BlueScope Steel (BSL), a former market favourite with a share price of above $12 and a market capitalisation measured in the billions.


But when the company started making losses, the market valuations fell, and kept falling. And as the dollar appreciated again after the financial crisis, BlueScope was unable to arrest the loss-making tide and the share price fell to below 30 cents.

Although the chart above appears as though the company has made a big comeback, the large leap at the beginning of last year was actually a result of a 1-for-6 share consolidation. Slowly but surely, BSL is moving back to profitability, but it has been a long and painful half decade.

Free markets?

The rule books say that loss-making companies will fail and markets will value companies and assets accordingly.

But do we live in a free market world? Not really. When you stop to consider the news of recent weeks, there are no end of market distortions.

For years, car companies have received subsidies, Qantas is all set to receive a bailout, in the US and the UK we saw banks being injected with liquidity, and so on. 

Markets are not free in the textbook sense. We have a minimum wage and wages awards, copyright laws and patents, trade unions, distorting taxes, state-supported monopolies, and, rather importantly for asset price valuations, an inflationary monetary policy.

Answer?

The answer, then, is that markets are indeed self-correcting to a point. The economics textbooks are correct, but they are not really talking about the world which we live in. Markets are self-correcting, but only within the existing framework and market distortions.

Australia's big banks will never be allowed to fail, for example. A lot of people don't seem to like that, but the economy could not function without bank liquidity, so the banks receive an implicit guarantee. The cost of that should probably be tighter regulation.

In the traditional free market, struggling companies would be allowed to fail, with the idea that in the long run, the stronger companies will survive and make the economy more efficient.

That's not how the real world is, though. 

Real estate

In a similar fashion, property markets are also distorted by tax incentives and policies such as stamp duty, negative gearing rules and land taxes.

Markets are also distorted by first home owners grants, land zoning restrictions and supply constrictions, and a whole range of other factors.

But even within this distorted framework, markets are self-correcting to a point.

If prices become too low, rational profiteers eventually appear and push them back up again. 

Periodic, moderate corrections are welcomed by governing bodies, but prices which fall continually for years are considered poisonous to economies and intervention becomes likely, in the form of low interest rates or other incentives.

If prices rise too, high, on the other hand, buyers become cautious or even disillusioned, and gradually drift away.

Where is the evidence for this? The RBA has shown that repayments on new housing loans have tended to comprise between a fifth and a third of household incomes for decades. 

At times, repayment levels have jumped to over 30% of household disposable income, but that appears to be about as far as Aussies are prepared to go.


Similarly, for all the debate and counter-debate, since home ownership became common after the war, ownership rates have barely shifted. Most people elect to own a home, and some never do, but the ratio hasn't changed a lot. 

If anything, the chart is most remarkable for how consistent it has been in a country with a growing population since the 1961 Census.


The net result of this is home prices tend to rise with incomes over time. You could try to be clever and time the market, but over the past 15 years, there have been crash warnings every year, many of which never eventuated. 

However, it remains true that markets are self-correcting to a point. 

If the RBA's chart shows that repayments on new loans are starting to fall outside that 20-30% band, this may be a signal that the market may become due to self-correct.

Monday, 24 February 2014

Market buys BlueScope turnaround story

Markets seemed please with BlueScope Steel's (BSL) H1 Earnings Report and investor preso, with the company squeezing out a small net profit in reporting an NPAT of $3.7m.

The share price jumped by 7.3% to $6.30, following a good run over the last year, as the company gradually turns things around.

The company announced an underlying NPAT of around $49.1m, which was an improvement of $50.7m on the H1 2013 result.



Source: ASX

This is not much consolation for long-term holders, mind.

The company was brutally impacted by the strong Australian dollar and an inability to keep costs down which sent BSL from former market darling into loss-making territory.

The share price collapse is much worse than it looks on the 10 year chart. since company shares were consolidated by an ASX release in November 2012 which confirmed a 1-for-6 consolidation.