RECENTLY there have been several articles on the high prices of properties, household income, household debt, Budget 2014 and their impact on each other.
The property market can be divided into two sectors, namely: i) property which is meant for occupation either by an owner-occupier or a tenant and ii) those meant as an investment in the short term.
Investment in or acquisition of a property that is meant for occupation is almost always safe and profitable in the long term for the buyer, seller, lender and developer due to normal population growth, migration to the urban areas, increase in new households/companies, increase in savings, increase in number of households/companies who want to upgrade, increase in salaries/business turnover, expansion of business, etc.
Chart 1 shows the relationship between household income and property prices.
There is, therefore, a direct relationship between household income and the price of a property that a purchaser can afford. There is also a direct relationship between property price and whether the income used by the bank is the net or gross income. There are also direct relationships between the amount of savings (and therefore, downpayment), average lending rate, loan tenure and price.
Similarly there is also a direct relationship between rent paid or payable and property value.
Thus, when a property is acquired for “occupation” purposes the monthly mortgage payment and/or rent payable are still under the “control” of the buyer/tenant of the property which then will determine the value of the property.
This is, however, not the case when a property is purchased purely as an investment i.e. a financial instrument or commodity to be traded over the short term (as it was in the subprime crisis) to make a quick capital profit on the difference between the purchase price and the sale price.
Here, powerful “external factors” that affect the demand, supply and prices – whether singularly or jointly – take over control of the investment. The external factors are dynamic and dictate whether the investment leads to a profit or loss at the end of the short term cycle.
External factors include the following: Real Property Gains Tax and tenure, restrictions on foreigners, foreign direct investments (FDIs), national and local GDP growth rates, average lending rates, Bursa Malaysia movements, private capital fund inflows/outflows, rebates and developers interest-bearing schemes (DIBS), freebies, block purchases by speculators, investment/wealth management clubs and parties friendly to the developers, loan policies by banks with regard to gross/net income and gross/net price, loan tenure, downpayments, interest rates, favoured/unfavoured property sector, etc.
Changes in these external factors impact on the market.
In 2007, compared to 2006, changes in the external forces were positive and market values/transactions increased by between 25% and 65%. In 2009, changes in the external forces were negative and market values and volumes decreased by 20% to 40% compared to 2008.
Between 2010 and 2013, many positive changes took place. These include: increase in private capital flows, boom in the KLSE, increase in FDIs, drop in the average lending rates to below 5%, increase in the amount of loans to the broad property sector and in particular to the high end residential market, DIBS and freebies by developers, loan to value ratios based on gross prices and active participation in the primary market by block buyers, speculators and foreigners.
As a direct consequence, prices increased by 10%-15% each year on a cumulative basis and new schemes of all types of properties were launched at the highest possible prices in every available parcel of land.
With the anti-speculation measures introduced in Budget 2014, the external factors have again changed. What then will be the consequences in 2014?
i) A reduction in primary market transactions due to drop in the effective demand and the curtailment of the arbitrary price increase for each subsequent phase.
ii) Removal or reduced speculation. Upward push on prices will cease in the primary and secondary markets.
iii) Prices of properties which cannot be rented or resold quickly will drop first. The quantum depends on one’s holding power. The comparison method will continue the downward trend started by the first property to drop its price to all other subsequent properties even if they are not being offered for sale immediately.
iv) The number of high value properties launched will reduce as the long term effective demand is more for the owner occupier and tenant market which is based on actual net income and affordable rents. Launches will be postponed.
v) Developers will start to plan and build more affordable units as their revenue will have to come from sales.
vi) Rentability, in addition to the saleability, will take greater importance. A resale cannot take place if the property is not rentable or occupied.
These consequences will happen in varying degrees until the external factors change again. New external factors can be anything from the MRT/LRT routes, completion of KLIA2, interest rates increase, the interest of Chinese and Singaporean developers and investors in Malaysian properties (due to the cooling measures in their own countries). Other factors include government incentives for developers and occupiers of buildings in Tun Razak Exchange (which will suppress the existing office market) and the introduction of GST which will push costs up.
In conclusion, if a property is planned, built, financed, sold and bought for occupation by owners or tenants to either stay or to conduct business, the fundamentals then dictate that the property investment will be secure and profitable as the occupier is in control and the market will adjust itself with just the right supply, prices, rents and profits.
However, if the property market is allowed primarily to become a short-term investment vehicle for quick profits, there will be a sharp rise in household debts, foreclosures, social unrest, misallocation of the nation’s savings and wealth, unjust distribution of hard earned income to a small group, unless the government steps in, as it has done in Budget 2014, or the external factors change again.
- P.B. Nehru is the managing director of City Valuers and Consultants Sdn Bhd.
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