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THE INVESTOR AND THE SEARCH FOR SECURITY
Copyright © 2005 John Hopkins

The Domestic & Global Scene: Optimism Amid Uncertainty

There is still good news to be found – and it’s official.

In what would seem an indication of at least a partial recovery in confidence following the September 11 terrorist attacks, we are being told that in Australia there are now fewer pessimists than optimists, convinced that this nation will ride out any coming international economic storm.

The September-quarter figures on gross domestic product exceeded expectations, rising by 1.1 per cent, and giving Australia an annual growth rate of 2.5 per cent.

Certainly, the Australian economy, in particular the property sector, is still a source of optimism, according to the Reserve Bank of Australia’s latest quarterly assessment. It is displaying quite a degree of momentum, of resilience, thanks in large part to a combination of low interest and exchange rates, strong government spending, tax cuts and falling petrol prices. Retail spending seems to be holding up and our resources sector is showing a robust performance.

Despite higher unemployment figures, the suggestion is that we may well weather the global slump, provided it is not too protracted – although, of course, there will be flow-on effects. The booming construction sector will continue to support the broader economy and may well see us through any coming recession, if it does indeed come our way.

There are pockets of strength in the Australian economy and indicators of rising consumer confidence.

On the broader world scene, however, the uncertainty factor still looms large.

Over the past few months the world has become a much more dangerous and uncertain place. The extent of the damage to confidence inflicted by the September 11 attacks is still largely unknown.

People are not quite so sure any more.

There’s uncertainty about the direction of the war on terrorism, about the end results, about the possibility of further terrorist strikes – euphemistically termed “event risk”!

And of course there’s an uncertain economic climate.

For grim economic news continues to unfold, painting an increasingly bleak global picture. With talk of a synchronised slowdown – the first in a generation – in the US, Japan and Europe, one whose depth and duration will be hard to predict, the world economy suddenly seems much more fragile. The US economy, now officially in recession – apparently since March, and propelled by the September 11 terrorist attacks – took its steepest dive in a decade in the September quarter, with growth declining at an annualised rate of 1.1 per cent, far worse than first believed.

It’s the end of America’s longest economic boom in 150 years, and the first recession in a decade!

US consumer confidence is still sagging, directly impacting consumer spending, which comprises two-thirds of US economic activity and which has been the mainstay of the economy for the past year. Erratic consumer spending, a rising unemployment rate and a continuation of the year-long sliding decline in production are just some of the tell-tale signs of the contraction.

Still, there are the optimists, such as those arguing that as the average recession since World War 2 has lasted 11 months (the shortest lasted just 5 months, the longest 16), the chances are good that current one will come to an end early in the new year!

Across Europe, business confidence has slumped to levels of pessimism not seen for 30 years, with Germany, the continent’s biggest economy, experiencing shrinking growth and an unemployment rate running at about 9 per cent. The argument is now whether the continent can avoid a technical recession.

Closer to home, in the same third quarter, our regional neighbours in South-East Asia have shown few promising signs. Singapore’s economy contracted 5.6 per cent in that period, Taiwan’s by 4.21 per cent, while Hong Kong showed some unexpected economic growth, and so narrowly avoided falling into recession. A deflationary downturn continues in Japan, its unresponsive economy, back in recession for the third time in a decade, not expected to come good in the short-term.

Latin America, too, is in recession, and Argentina, attempting to restructure its massive debts, has now imposed both banking and exchange controls!

On most measures, the world economy is registering its worst performance in at least two decades, with no immediate sign of a turnaround in confidence.

Which is not to say that even on the global level there is no positive news. Markets have been rallying, stocks rebounding and cheaper world oil prices can only help to boost consumption. Through the lowering of interest rates, we are witnessing decisive and concerted action to try to refloat economies by persuading consumers and businesses to spend and invest.

There are many staunch believers in the power of low interest rates to turn economies around and it’s very possible that such an aggressive monetary stimulus by the US Federal Reserve – along with expansionary fiscal policy – traditionally sufficient to spur consumer demand, will work its magic. After all, such has been the case in the past ten recessions since World War 2, so why should this one be any different? Moreover, this time there would appear to be little danger that this kind of economic stimulus will cause any inflationary effects and so result in further falls in the levels of confidence in the world economy.

Again, there are the optimists who claim that when the global economic turnaround does come, it will be strong and rapid. Lower world oil prices, a result of the response to the terrorist attacks, will prove very stimulatory for Western economies, it is argued, spurring growth and intensifying the effects of lower interest rates.

Also a positive sign is the remarkable political unity among the rest of the world the terrorist strikes appear to have promoted, a unity that seems be leading also to greater economic coordination, as evidenced in a renewed sense of cooperation that led to the success of last month’s World Trade Organization talks in Doha, Qatar.

At any rate, on the global economic level, somewhere along the line things do have to pick up. There’s no reason to suppose the normal loss-recovery cycle will not soon again repeat itself.
And that’s cause for optimism.

But meanwhile, what’s happening to investors and to their investments?

Investor Uncertainty

Financial markets, which usually go up and down in tandem with normal economic cycles, respond also to the uncertainty generated by abnormal, unforeseeable political and social events, such as we’re witnessing on the current world scene. In fact, the latter can have totally unimagined effects that further distort the features of these cycles.

Investment markets are volatile, jittery creatures. Unexpected events and crises tend to send investors scurrying for cover, rushing for safety. The trend in such times of acute uncertainty is toward much greater caution. Like consumption, investment, both individual and business, is curtailed because of concern about the direction the economy will take, because of fears of more gloomy news to come. People are less inclined to spend and more likely to save, less prepared to take risks and more apt to remain in their comfort zones. Major expenditures are delayed, new investments deferred.

There has been a substantial loss of confidence worldwide, both on the part of consumers and of investors. The latter, especially in the sharemarket, have been left in somewhat of a dilemma, unsettled not only by the poor consumer sentiment and loss of confidence, but also by the lack of a more positive outlook. Despite some recent better economic news, many investors are yet to be convinced of the sustainability of market strength.

In insecure times, it’s natural to look for security. Investors, both large and small, are seeking more stable forms of investments.

Are you one of them? How can you ensure that your investments are insulated as much as possible from the current global downturn?

Adopting A Long-Term Perspective

It’s easy to forget that the large returns seen, retrospectively, at different stages over the past few years are as much a deviation from the long-term trend as have been the recent losses, in particular in the equity markets.

Prudent investors know that they cannot try to time the investment market. They understand that the longer they are in it, the more likely they are to succeed. The exceptional performance of all major financial markets over time is a fact – one easily forgotten when gloom and doom threatens.

An investment should be something on which you can confidently build your future. The serious investor takes a long-term view of the investment portfolio. In so doing, over time, the effects of any short-term volatility are generally smoothed out.

To be sure, when investing, prevailing market conditions do need to be considered; however, the slumps aren’t the major issue – the average capital and income growth, a consistent income return, and the security and flexibility of the investment are. All of these benefits, viewed over the longer term – over 5, 10, 15 or even 20 years, or more – need to be kept in mind.

Even in adverse situations there are opportunities for those seeking genuine investments. It’s all a matter of perspective.

The serious investor needs to consider the long-term perspective.

The Security Of Property Investment

Committed, long-term investors not only want returns on their money; they’re looking for flexibility and for a strong degree of security as well, such as can be found in bonds, debentures or even shares.

However, a very attractive balance of security and returns is to be found in direct property investment.

Investment in property is a lower risk option than, for instance, placing money in 10-year government bonds. It is also a continual strong performer in the long-term. Property is extraordinarily resilient, better able to absorb shocks and deal with economic challenges than most other investments.

So at these times of movement towards more defensive stocks, it’s quite understandable that we have already seen money taken out of the sharemarket and re-invested in the property market as a solid, long-term investment – a safe haven. It’s a sensible defensive move. The property market is not as vulnerable to world events as the sharemarket and other forms of investment.

Property should never be overlooked as a long-term investment. It can usually weather any economic storm – even a global recession.

Of course, the property market, like any other market, experiences cyclical fluctuations. Downturns can be unexpected, disconcertingly rapid, and of variable duration. It is at such times that we hear the alleged property pundits tipping that there will never be a recovery.
How wrong they have always been!

Both slumps and booms tend to have short-term effects on the property market. Indeed, it has been the housing sector that has generally always been the first to recover from recession, and so long-term property investors who carefully planned their investment strategies were relatively untroubled during the recessional segments of recent economic cycles.

Too many people still fail to realise that for other than the highly experienced or lucky operators, real estate is not a short-term, profit-making venture. If the commitment to property investment extends no further than a gamble on quick profits, short-term predictions may well be important. A speculator may want to buy at the bottom of the market and cash in when it rises, but the astute, bona fide property investor has this long-term commitment that makes cyclical fluctuations – booms and slumps – and even interest rate levels less important. If you are using property investment as a path to long-term financial security, you don’t need to be too preoccupied with property cycles. Genuine property investors select their properties very carefully with the intention of holding onto them. Adopting this long-term perspective means that such cycles – and crystal ball gazing – are largely irrelevant.

If we consider prices for property, particularly premium real estate, over the past 20 years, we note a series of short-term booms and slumps. In the long-term, however, property values have increased consistently, staying well ahead of inflation and surpassing just about any other investment you would care to name. Very few other investments can promise this. Historically, the value of quality real estate has eventually always increased beyond its previous high point.

The property demands of a growing population will, in the long run, ensure continuity of demand. The Australian property market over the past five years has outperformed most forms of investment. So strong has been the demand during year alone that it could just continue to surprise us. The market has revived even since the recent Federal election.

Although values can decline, as sellers have to accept lower prices for their assets, property is still a strong long-term performer. It has risen in value in each decade of Australian history. One way for investors to avoid losing money in real estate is to resist selling assets during the hard times.

Effective property investment requires this long-term perspective – and a long-term commitment. Fortunes in property are rarely made overnight. But at the same time, it is practically impossible to lose your property investment portfolio if you have structured it correctly. Almost all successful investors have held on to their property for years.

Sound, gainful property investment is not based on predictions about short-term economic performance. Rather, it is grounded on solid statistics: the growth in prime property values over many years has been measured at 10-15% in excess of the inflation rate.

However, in what sort of property should you be seeking to invest?

Prime Property

We’re all about quality investments and premium investment opportunities.

In general, any property within the bounds of a major metropolis has the potential to offer pleasing returns in the medium to long term. However, investors increase their risk if they buy property in areas of relatively low demand because it is cheap or because they cannot wait for the best property to come along.

It is prime property, which, by our definition, encompasses the best five to ten per cent of property available in the marketplace at any one time, that offers what every investor should be looking for – maximum returns. It is this type of quality property that has the remarkable ability to ride out financial storms, and to behave in reliable, predictable patterns.

Prime property will always be the centre of property market activity. Its value will lead the rest of the market and show consistent growth. During times when property demand may level out, inferior properties will feel the effect first and be the last to pick up. Prime property, however, will usually come through any general market fluctuations largely unscathed. Although it may fall in price, its future value is assured.

It is a fact that, over time, this type of premium real estate grows in value. So if you buy the right property – prime property – its value can see an increase even if the market is in decline. It is rarely affected to the same degree as other property. To be sure, there are times when even prime property values may not rise at a great rate, but they seldom go backwards. In the medium to long term, prime property values have always increased.

A Secure, Intelligent Investment Decision

Yes, there is still quite a degree of economic gloom on the global horizon. Enough perhaps for you to put your investment plans on hold? There’s really no need to, you know.

Real estate has been described as a “fundamental commodity”. Property is here to stay!

And buying it has never been cheaper, as Australian interest rates continue to tumble. As we have mentioned, buyers are returning from the stockmarket to the perceived security of property. That’s a safe play for any risk-averse investor! With the prospect of more interest rate cuts to come and the announcement by the Federal Government that the First Home Buyer’s Grant will continue at $10,000 after the end of the year, it’s still an excellent time to consider adding property to your investment portfolio.

So even at this time of global uncertainty, of insecurity, amid talk of global recession, my advice to any committed long-term investor looking at property is this: the best time to buy is as soon as you are able to!

Very importantly, always purchase the best possible property you can afford with a view to holding it as a longer-term investment. Remember that the real rewards in property investment are not achieved overnight but over a period of time. Buy and hold for the long-term; buy the best, affordable property in the right location and consider retaining your investment indefinitely. In this way, original purchase costs are amortised over a long period and gains are not diminished by the expense of selling and re-buying and, also importantly, the effects of any slumps – and booms – can be disregarded to achieve a consistent increase in value.

An intelligent, long-term approach to investment and a commitment to only prime real estate is your guarantee of security and certainty in these still uncertain and insecure times.

John Hopkins
© John Hopkins December 2001