Property Investment Dogma and Karma

“dogma”: noun, a principle laid down by an authority as incontrovertibly true. Also, a weird movie with which we’re not concerned. “Investment”: also a noun, the process of investing money for profit. Property; well we all know that one and karma is that thing which bites us in the ass. Snap.

So let’s take a closer look at property investment dogma. Invest in property! You’re mad not to buy. Don’t rent. It’s a buyer’s market, a seller’s market. Buy now before the boom. Buy now before the crash. Interest rates! Bleh- the whole market is filled with so much hype and pseudo-scientific mathematics poured by people whose only interest is to serve their own profits (hey, if the shoe fits… ). And then of course, there’s the baby boomer generation and their offspring which profited heavily from property investment; so they think it’s the only form of real financial wealth and stability. Let’s take a real look at the numbers, shall we?

In 1981, somebody earning R500 per month could afford a 20 year mortgage of R15k on a house valued at R20k. A year later, the house sold for a whopping R23k. So how do we compare prices then, to prices today?

CPI. The consumer price index is a way of leveling the playground a little bit so we can compare prices of yester-year with right now. It accounts for inflation across a number of different items and is quite involved. Suffice to say (and regardless of exactly how precise it it) our systems run off what we have come to know simply as “inflation” and “interest”.

So, using our trusty zaFin tools, we can determine the equivalent money, adjusted for inflation, in one time-period and compare it to another time period. For example, did you know that in Feb 2002, a loaf of bread cost you R3.18. If bread prices rose in line with inflation, that would be equivalent to R5.35 in December 2010. But hang on, it’s way more than that isn’t it?

What that means is that the price of bread rose (no pun intended) faster than inflation. All things equal, the bottom line is, it’s relatively more expensive to buy bread now than it was back in 2002. In fact, it’s almost 100% more expensive than it should be.

So what about those numbers in the beginning? Earning R500 per month is the same as earning R56k per month in December 2010. Nice salary. But I don’t think firemen earn that kind of money, now do they?
A R15k mortgage (at prime back in 1980, thank you zaFin) would have given you a repayment of R145 per month. This is 30% of that gross monthly salary we’re talking about, which evidently, is the number banks use as a general guideline for determining a loan amount. Although today, they like to make it more complicated than that.

Anyhow, so spending 30% of R56k is ±R17k, which means you could probably get a loan for R1.8M (not afford, but qualify for). Incidentally, that is what that same house sold for. Pretty much on cue with the adjusted inflation index. So, at best, a property investment will keep your money at inflation. Only thing is, bread (using just one example) spikes out of control relative to inflation so even if your money is barely keeping up with inflation, you still lose money in the pocket. Snap.

But can you also spot the gap? A fireman can no longer afford to get a loan on a house worth R1.8M anymore. So what happened? Simply put: inflation rose way above what our normal salaries could. And we’ve all experienced that, except of course those that control the game: the authority.

When you take out a standard 20 year loan on a house at prime, your banks start collecting interest from day one. And if you break down a repayment schedule, you will notice that your equity repayments are minimal. In fact, that loan of R15k over 20 years at 10% interest will see you making a repayment of R145 per month. Of that, you’re servicing R120 in interest for the first few payments- nice. So yes, property is a good investment ONLY IF you’re the one loaning the money. By the way, you’ve paid back R35k by the time you’re finished servicing R15k. Inflation targets around 6% while prime lending rates sit at around 10%. Easy maths: you make more money loaning money than you do trying to invest in property.

Heck, who wouldn’t punt property as an investment BOOM if they knew just how much money they could make off people wanting to get in: hype. So yes, the authority will push that property is a great investment. Duh.

Something else to consider: this example is from a time period when it was good and house prices in Cape Town seriously boomed. Between 1982 and 1998, house prices in Cape Town rose way above the national average. Way, way, way above national average. So now we also have an edge case “super” investment and it fared well…

But how sustainable is that? What will happen over the next 20 years if the baseline we got to work from is already so exaggerated? Who on earth is actually going to be able to afford to buy that property? Seriously, house prices will have to stay the same price until firemen can once again afford that kind of housing on their salaries.

Neh… out with the dinosaur investments. Definitely need to rethink how we’re going to shape the future.