The dangerous SMSF property cocktail

Both Chinese investors and SMSF buyers are competing for inner Melbourne and Sydney apartments. The danger is prices may rise too high and then fall sharply.

It’s not just the Chinese who are having a love affair with Australian residential property – self-managed funds are now jumping on board in a big way.

To the extent that both are competing in the same market – inner city apartments and certain suburbs of Sydney and Melbourne – we have a dangerous cocktail.

The size of the self-managed funds investment in residential property was yesterday revealed for the first time in the annual superannuation trends survey by SMSF Professionals’ Association of Australia (SPAA) and Russell Investments.

The survey shows that lower interest rates saw the proportion of self-managed funds invested in term deposits and cash fall from 33.9 per cent to 31 per cent. But the self-managed funds still don’t trust shares and so, despite the market rise, the proportion of funds in equities actually eased from 37.1 to 36.1 per cent. The winner was residential property, which sky rocketed from 5.6 per cent in 2012 to 9.9 per cent in 2013.

It would appear that a great deal of the self-managed fund investment has been directed at the four big banks and Telstra, which have been seen as income generators. For capital growth instead of buying shares they have preferred residential property, aided by the new leverage rules. Remember that self-managed funds control just under one third of the superannuation market so this is a significant development. And it’s not surprising because most large companies from BHP down have ignored one third of the superannuation funds market and explained their strategies to big institutions. The self-managed funds responded by taking their equity money into what they knew – residential property.

Yesterday I explained the feverish activity taking place in the mainland Chinese community as they buy existing dwellings and off the plan. And this has attracted Chinese developers into the property market (Chinese money is driving a housing glut, February 18).

Given the size of self-managed superannuation this means that with just under 10 per cent of their money devoted to residential property they have become a very powerful buyer. My guess is that while they are not as large as the Chinese residential buying contingent they have become very important and of course, as always, negative geared individual investors are a force.

The combination of the Chinese, the self-managed funds and negatively geared investors means that it is very expensive for first home buyers to compete in inner city and other areas that are dominated by these investor trends. When groups of investors are all attracted to the same type of investment at the same time it often pushes prices much higher than is justified. This is the hidden danger behind that switch in self-managed fund investment strategies. The self-managed funds have seen that over a long period of time bricks and mortar investments performed well and doesn’t have anywhere near the volatility of the share market and that’s why dwellings are attracting superannuation money out of cash.

To the extent that self-managed funds are buying residential property outside the areas where Chinese are buying, faith in residential property may work longer term. But where self-managed funds are competing with the Chinese, watch out.

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