Look both ways before investing in property

Property investing articles are generally either for or against. That's because the authors profit from property or making noise.

Property investing articles are generally either for or against. That's because the authors profit from property or making noise.

Taking a different tack, I'm going to give you both cases.

First, I should disclose that I'm a property "bear", according to the official vernacular, since I'm not a buyer, although I'm not sure about a crash.

Disclosure done, let's turn to the respective arguments.

Imagine you've just sat down with a real estate company. Their advice (which, strictly, isn't advice, because that requires a licence) is to set up a self-managed super fund and to borrow and buy into their latest development.

They might also give you some nice charts and a big spreadsheet.

Upon returning home, you flip open a newspaper to find an article by a prominent economist saying that property values are about to halve and, if they don't, he'll climb Uluru nude.

What's going on here?

Turning first to the "for" case, it rests mainly on the question of demand and supply. The basic theory is that, as a result of poor planning, building regulations and other factors, not enough housing is being built to keep up with our growing population, especially in our capital cities. So those who want to buy a property are left to outbid each other for the housing stock we've already got.

If you're buying a property in your super fund, you won't receive much rent after costs. (If you've got a mortgage you'll probably incur a loss.) Your profit is expected to come in the form of a capital gain from the growth in prices.

Proponents of this strategy will typically suggest cashing in your profit after your super fund is in pension mode, which means no tax, so your gains are tax-free to boot.

Rapid rental growth could also make property a winner, but that, more or less, is the "yes" case. Let's turn to the "no".

First, not everyone agrees with the data on demand and supply. So if you're investing in property, I suggest spending time analysing it and forming a view, since if you don't get price growth, you probably won't profit (and tax-free won't matter).

But the essence of the "no" case is that property prices are far too expensive and, in time, they will need to fall, either by actually falling or lagging behind inflation.

Some of the commonly used indicators - for instance, the price-to-rent ratio - are well above their long-term historical averages.

In essence, the risks, especially rising interest rates and unemployment, are skewed to the downside, which generally makes for a bad bet.

A point seldom made is that both views could be right, just over different time frames. Demand for existing houses, fuelled by low interest rates, could cause property prices to surge for the rest of the decade. Then, with a rise in unemployment and a return to higher interest rates, property prices could be devastated in the decade after that.

When buying property in a self-managed super fund, the "no" camp will also point out that it brings extra risks and hassles. Establishment costs are higher, mistakes can bring penalties and there are restrictions on your use of the property - both who lives in it and any work you perform on it.

If you buy property in a self-managed super fund, you're in effect saying: "The hassles are worth it, since I believe lack of supply will trump expensive prices and the risk of higher unemployment or interest rates".

I don't agree with you - I believe the price you pay for an investment is everything - but if that's your view, go for it.

Richard Livingston is the managing director of Intelligent Investor Super Advisor. This article contains general investment advice only (under AFSL 282288).

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