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An investment or just a roof over your head: How should we treat residential property?

Many people express the opinion that residential property is first and foremost a shelter and therefore should only be considered from a social perspective. Many believe that it is a given right of every citizen of this country to have a roof over the head – rather than as a financial asset that can potentially make money for its owners.

Although it seems like a righteous position to hold, it cannot be denied that, in addition to offering a physical protection from the elements, residential property is, and always has been, an attractive investment option.

The old saying “property is the biggest investments one will ever make” has not been coined without reason. Besides, even when people say they are buying a “home and not an investment” they do not necessarily equate this statement with not making any money on their purchase in the future.

It would therefore be more pragmatic to consider residential real estate as “long-term accommodation” rather than just a “shelter”. It is both a  roof over the head, as well as a money making asset.

Property ownership is quite popular in <st1:country-region>Australia</st1:country-region>. According to the Australian Bureau of Statistics, as at August 2011, 67% of all residential dwellings were owner occupied. Although this proportion is slightly down since the previous Census in 2006, it has remained relatively unchanged for the past 50 years.

Those Australians who had a stake in residential property did quite well over the last six decades, as the following chart demonstrates.

seven_decades_of_prices-1

Source: Based on ABS data and Stapledon 2007

Returns varied from decade to decade as property prices rose at different paces, but they have always remained positive. So will property owners be seventh time lucky? Chances are they will, given the past history of property prices in this country .

What the above chart does not show is that property owners also had an opportunity to make substantial savings in the ongoing costs of accommodation (i.e. rent) once they had paid off their initial loan. This increased the actual returns to owners quite substantially.

The following chart compares estimated total returns on residential property from capital appreciation and reinvestment of imputed rents, which is conceptually equivalent to S&P/ASX 200 Accumulation Index.

property_vs_shares-2

Sources: based on ASX and ABS data

The chart indicates that, over the long run, returns from residential real estate match returns from share market investments. This conclusion is also supported by a study undertaken by Russel Investments and published by the Australian Stock Exchange, the Long-term Investing Report, July 2013.

It is important to stress that residential property is a long term investment option – it delivers, but requires patience. Consequently, this means it can be outperformed over a short-term by other types of investments.

Take gold for example:

property_prices_vs_gold-3

Sources: based on ABS and Perth Mint data

Over the long run, residential property outperformed gold. However, over a short-term, those investors who piled into gold in 2005 would have experienced a much greater rate of return than property owners – even after the 2012 and 2013 falls in gold price are factored in.

property_prices_vs_gold_short_term-4

Sources: based on ABS and Perth Mint data

Just a note of caution: Do not take the above comment literally – property owners could still come on top, despite the proportionately smaller increases in prices compared to gold because of the leverage that is usually applied when buying a property.

For example, a $100,000 cash investment in gold in 2005 would now be worth $250,000 (i.e. $150,000 increase). That amount invested in the right property worth $400,000 in 2005 (i.e. as 25% deposit) would deliver by now $200,000 extra in owner’s equity.

There is one more reason why property should be treated as an investment. In particular, if you believe in the merits of diversification, individuals should always aim to spread their wealth across a wide range of assets to minimise financial risk.

Residential property is an asset class with proven long-term security, hence should be considered as a part of well diversified financial portfolio.

All working Australians already participate in local and overseas stock markets, various cash instruments and/or commercial property market via the superannuation funds they belong to. However, these funds do not invest in residential property.

Dixon Advisory was the first Australian company to offer individuals the opportunity to invest in residential property in the <st1:country-region>USA</st1:country-region> via its <st1:country-region>US</st1:country-region> Masters Residential Property Fund, but not in Australian property. So, diversification into Australian residential real estate is only possible via direct investment in your own home or in the investment property (as an individual or via self-managed super fund).

All in all, residential property is an investment regardless of whether it can be morally justified, or whether those buying the property do it with full consciousness of this fact or not. It is simply because the returns are too good and too consistent to treat it otherwise.

The social aspect of housing, that is, as an “affordable shelter”, is very important and should be widely debated. However, in my opinion, the issue stands a much better chance of being addressed properly with tailored solutions aimed at assisting specific sections of the community; rather than with Robin Hood like polices advocated by some commentators, that can potentially destroy the investment value of property in Australia.

Residential property constitutes a significant part of the wealth of this nation. There is merit in the aspiration to own a property as a way of building and accumulating wealth, and therefore, there is a good reason to keep the ‘Australian dream’ alive.

Undermining this aspiration and shaking confidence of Australians in property will not end well – either fif it leads to destruction of national wealth, or for those who are persuaded to opt out of participation if history continues unchanged.

By Arek Drozda
Monday, 10 February 2014

Arek Drozda is an independent analyst who has worked in the public and private sectors for over 20 years in business development, data analysis and in building geographic information systems.

Article available at:
http://www.propertyobserver.com.au/residential/an-investment-or-just-a-roof-over-your-head-how-should-we-treat-residential-property/2014020967655?utm_source=po&utm_medium=aida&utm_campaign=observationsextra

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