If a Butterfly Flaps its Wings in Frankston
Will House Prices Fall in St Kilda?
Thursday, 27 October 2011 – Melbourne, Australia
By Kris Sayce - If a Butterfly Flaps its Wings in Frankston Will House Prices
Fall in St Kilda?
- Where Do You Look for the Best Aussie Resource Stocks?
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In today's Money Morning: Moving the housing argument on... A broken market... Why supply actually goes up when prices fall... Even bullet proof suburbs will take a hit... Flapping wings... The only way to buy resources stocks...
If a Butterfly Flaps its Wings in Frankston Will House Prices Fall in St Kilda?
"Weak sentiment will see house prices continue to drift sideways to lower over the coming 6-12 months." - ANZ's Australian Housing Snapshot.
It's time to move on in the housing debate. We've spent the last three years trying to convince you and other Australians that house prices can and will fall.
Now they're falling... and they'll keep falling. Even the banks say so now.
So there's no point in anyone - including your editor - banging on any more about whether house prices can fall... because they can. Case closed [raspberry to the spruikers].
But what is worth looking at is one of the reasons why house prices fall. Don't worry, it's got nothing to do with fancy economic theories. We won't confuse you with charts claiming to show something only a PhD in astrophysics could understand.
No. What we'll explain is something most economists - and mainstream commentators - don't understand. And that is, how human behaviour affects prices.
But first...
The Market is Broken... Really
As well as banging on about housing, we've also told you that, metaphorically, the market is broke. That interference from central banks and governments has distorted share, bond and commodity markets.
Well, this morning it turns out the ASX is actually broken. As we write the ASX has been offline for over an hour. If you want to trade shares, you can't.
As the Age dramatically puts it, "Australian shares halted as the ASX deals with a trading glitch - leaving investors unable to react to earnings news and developments in Europe."
How terrible. Fancy not being able to react to "earnings news and developments in Europe." We're sure you'll get over it!
So, is the market broke? Or is there something more sinister going on? It wouldn't surprise us. But anyway...
Supply Increases When Prices Fall
Back to the falling Aussie housing market. Now that ANZ economists have finally admitted house prices are falling, we wonder how it fits in with the chart it printed in March this year.
You remember the one. It shows how house prices can never fall because when income lags price growth: prices flat line and supply (people selling houses) withdraws from the market... until wages growth catches up. Then the cycle repeats itself.
Here's the chart from ANZ:
Source: ANZ
The reason ANZ got it wrong is because, like most economists, they forgot that you can't put human behaviour in a spreadsheet.
The fact is, rather than withdrawing supply from the market when prices fall... supply increases. Why? The same reason volume increases when a share price starts falling. As you can see from this 5-day chart of the BHP Billiton [ASX: BHP] share price:
Source: CMC Markets Stockbroking
When owners see the price starting to fall they fear it could fall further. So why wait and potentially sell at a lower price when you can sell now at a higher price.
Sure, volume increases when the price rises too. That's the rush to buy before the price goes higher. We've seen that with the housing market too... now we're seeing the reverse.
Now, we will agree the price movements and reactions happen much quicker on the stock market (although not today, the ASX is still closed). But the behaviour and the principle are just the same.
Buy and hold share investors will keep holding even when prices fall. And buy and hold home owners will keep holding when prices fall. But generally, those aren't the folks determining the price on any given day.
Those determining the price are the investors/home owners who are in the market to buy and sell. And if the supply is up then buyers have more choices and that means lower prices.
Bullet Proof Suburbs to Take a Hit
Not only that, you should also consider relative prices. You'll have heard many people say, "This suburb is bullet proof, it'll always be popular, prices will never fall."
Not true.
Simply because of relative pricing. For instance, at the top of this letter we asked, "If a Butterfly Flaps its Wings in Frankston Will House Prices Fall in St Kilda?"
It seems a crazy question. But when you stop and think it through, it's not so crazy.
Let's put it this way first and then we'll explain why house price falls 50km away in Frankston can have an effect on St Kilda house prices. Because once you accept the first premise you have to accept the second...
Port Melbourne is a desirable area. It has lots of nice old houses and lots of nice new apartments. It's close to the beach, city and has everything a lifestyle seeker could want.
But, what if house prices dropped in the nearby suburb of St Kilda? Would Port Melbourne prices stay the same or would prospective buyers think, "I like Port Melbourne, but just down the road I can get something bigger for less."
That's right, sellers in Port Melbourne would have to reduce their asking price in order to compete with cheaper prices in St Kilda.
This ripple effect happens in rising markets. And it happens in falling markets too.
Now let's take the argument a few steps further.
Flapping Wings in Frankston
If prices fall in your editor's home suburb of Frankston what affect would that have on neighbouring suburbs? Well, buyers may choose to buy there instead of a suburb closer to the city (such as Seaford, Carrum or Chelsea).
So prices in those suburbs fall in order to attract buyers. You can guess what happens next...
Buyers in Mordialloc, Mentone and Cheltenham start looking further afield - so house prices fall in those suburbs. And so on. Until finally house prices in St Kilda fall because of price falls in Moorabbin... and crazily enough, because of falling prices in Frankston.
Of course, this doesn't go on for ever. And it doesn't happen all at once... or even in any particular order. But one thing is certain, prices fall until they reach a stable level. Then after a time, the market turns the other way and prices rise - just as it does in the stock market (except today when the ASX is still broke).
As we say, understanding this is simple. You don't need a PhD in bionics to figure it out.
Trouble is it's pretty hard for most economists to do that as they spend most of their time playing with GDPs, CPIs and other irrelevant statistics. They don't understand that economics is all about human behaviour (how people think, act and react), not spreadsheets and numbers...
And that's why every last one of them failed to predict Australia's falling housing market.
Cheers.
Kris.
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"Buy and hold hasn't worked for ten years.
It won't for another ten - maybe longer."
Murray Dawes - 7/10/11
If you sense it's time to try a new approach to buying and selling shares, click here |
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Where Do You Look for the Best Aussie Resource Stocks?
By Dr Alex Cowie, Editor, Diggers & Drillers
Seeing as I'm out on the road again, I thought now would be a good time to answer the one question I get all the time. And that is why, with all the resources and mining companies in Australia, do I spend so much time exploring mining opportunities overseas?
It's a fair question.
And today I'd like to show you why I believe the 36,000 km I've logged in air travel in the last year and a half (following Aussie miners around the world) have been well spent.
In the past 12 months, I've travelled to bustling Asian cities, the barren plains of Africa, the slower parts of country US and dizzying mountains in South America, kicking rocks, going underground and spending one-on-one time with company CEOs.
It has left me with a definite impression of what it's like to run an Australian mining company overseas.
It's challenging!
And, it can't be emphasised enough, there are some very good reasons for dealing with these challenges. Some overseas mining regions, like the gold fields in the Philippines, offer incredible mineral deposits.
But overseas operations have their challenges. Take African miners for example. There's a 13-hour flight between Sydney and South Africa.
Not only that, communications between Australian and African offices will always have to bridge an eight-hour time difference at least. When it's 5pm in Sydney, it's 9am in Johannesburg.
Most often these issues are overcome by locating the Australian office in Perth, as a number of Australian resource companies with African operations do.
But there are other problems. For instance, getting around Africa is not straightforward!
So why would you, as an investor, consider investing in miners overseas when Australia has a booming mining sector?
To start with, compared to Australia's current and possible future tax regimes, many countries offer a far better deal.
As a successful mineral exporting nation, we tend to have an over-inflated impression of how much of the world's minerals we actually have here in Australia. But the thing is, Australian companies go offshore because that is where the minerals are.
Source: Diggers & Drillers, Geoscience, Newcrest
Although Australia is expected to produce 38.37% of global iron ore exports this year, we are sitting on just 15% of the world's known iron ore resources.
And we have just 6% of the world's black coal resources and 13% of its gold.
Have a look at how many other countries Australia could be competing against in the future if we drop the ball and lose our hard-earned position on the global stage. Gold is found all over the world and some exciting gold-producing regions are emerging worldwide.
But why would you risk your money backing an overseas operation?
Two reasons: First, as I mentioned, most of the minerals are overseas. In some cases, such as platinum group metals, virtually all of it is overseas.
Second, Australia has been well explored. But there are many geologically promising areas overseas that are yet to be drilled.
That means the mining industry's margins are likely to be hard earned in the long term. Many companies operating overseas do so under more lightly taxed and less heavily regulated environments. And they offer younger or brand-new mining regions with excellent ore grades.
Despite the logistical and operational challenges, this can make for bigger margins in many cases.
The bottom line is that if you are selective, once risks are factored in, there is great value to be had in many overseas mining regions. Because if you limit yourself to just looking inside Australia, you could miss out on some big opportunities overseas.
Dr. Alex Cowie
Editor, Diggers & Drillers
P.S. Of course, getting on the ground and eyeballing the CEO is only part of the challenge. Once you identify a company you think might be worth investing in, you have to go about working out whether it really is worth backing or not. Over the years I've developed a simple technique to help me separate the mining companies with big profit potential from the pretenders. To find out what it is and how it can help you make smarter investing decisions today, go here...
Related Articles
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Aussie House Price Falls Start to Bite
Hedge Fund Bets on Aussie House Price Collapse
That's Not a Landbank, It's a Housing Glut
The Only Way to Buy an Investment Property
From the Archives...
If Demand is High, Why has the Price Dropped?
2011-10-21 - Kris Sayce
China's Hard Landing is Certain
2011-10-20 - Kris Sayce
Money is Worth Nothing and Ships are Free
2011-10-19 - Kris Sayce
The Gold Bubble and China
2011-10-18 - Dr. Alex Cowie
Why You Wouldn't be a Millionaire if Investing Was Easy
2011-10-17 - Kris Sayce
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What the crisis in Europe means for your wealth
Many Australian investors believe we’re immune to the crisis in Europe thanks to our booming resource sector.
According to Dan Denning, that couldn’t be further from the truth.
He believes one shock event will happen between now and Christmas that will lead to huge losses in stock and bond markets... and have a “surprising and devastating” effect on the ASX.
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