When the RBA raises interest rates

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When the Reserve Bank Board meets this morning I believe they will raise interest rates by 25 basis points. If they do not they will most definitely signal the rise for next month in their statement. They really have no choice. We will see another interest rate hike either today or next month. And this will cause more tradesmen to move away from building new homes and head north and west for the “mega bucks” they can make working in the mining industry.

New home sales have fallen at the fastest rate since 2006 according to the Housing Industry Association. The new estates will have young families feeling incredible pressure when interest rates go up again. A mortgage of $350k will raise mortgage repayments about $60 per month if the RBA jumps the cash rate 25 points and this is only if the banks don’t gouge a bit more. Many of these young families will not be able to sell as they will be close to negative equity. Builders raised their prices during the First Home Owners Grant boom two years ago and sold properties for unrealistic prices to inexperienced first home owners. These buyers were more intent on getting the government hand out, a loan from the banks and a “shiny new house” than thinking about the true market value they were paying for their home.

When anyone tries to sell a two to three year old home in a new estate, they may find they don’t get as much as they paid.

Investors will snap up some of these houses at prices equivalent to 2007 and 2008, but savvy investors will work out, whilst there is reasonable depreciation and rental yield, the long term capital growth is woeful. The reason most first home owners buy in new estates is the perceived affordability due to the Government incentives. But these usually dramatically favour buying a new home not an established one. This means an investor must sacrifice a large portion of his capital growth in order to sell the property. Long term capital growth rates of median house prices show that suburbs like Werribee, Pakenham, Narre Warren and Craigieburn are all in the bottom third of all suburbs consistently and offer capital growth rates over 30 years in or around 7%p.a. the top third of performing suburbs in Melbourne have 30 year capital growth rates in the 10% – 12% range. And these are not the most expensive suburbs of Melbourne. Preston, Ascot Vale, Aspendale, Blackburn, Box Hill, Chelsea and Clayton are a few of the suburbs that have had growth rates of suburb medians above 10%. This data comes from the Valuer General of Victoria for median prices between 1980 and 2010.

An investor that buys a new house and land package because depreciation on a new property means that the yield is higher needs to think about what potentially happens when the property is to be sold, or even refinanced. This not only occurs in new estates around capital cities but also in the mining towns. Spruikers will tell you about the fantastic cash flow these properties offer, but not about the situation you will be in if a mine closes, or when the construction of a mine and its infrastructure is complete and those five thousand new homes only have to house 1000 ongoing employees.

Always think about the capital growth first and the yield second. Obviously, you need to be able to afford the loan repayments on your investment property, however without good capital growth you might as well leave your money in the bank.

Ian James
JPP Buyer Advocates

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About the author

Ian has been operating his own businesses for more than 25 years. During this time the self taught lessons of building the business, dealing with staff, suppliers, clients and economic woes have been invaluable. Ian is a fully licensed Real estate Agent, a member of the REIV and registered with the Business Licensing Authority.

Buying property is not just sticking up your hand and outbidding your rival. It is an emotional, fiscal and psychological decision that needs to be planned and well executed. Ian is usually involved in over three hundred property negotiations per year; ranging from the $250,000 first unit purchase for a young couple to multiple million dollar residential developments. Ian's business background and endless numbers of negotiations make him one of the industry's leading negotiators.

Ian is married with two adult children, living in Patterson Lakes. He is a keen fisherman when weather and business allows the time.