I am always reading predictions and comments from economists. For anyone that has even the vaguest interest in financial markets and the world economy, this has got to be the most exciting time. Economists are regularly divided in opinion about the future. An amazing fact when you consider that they have all been trained in the same field and are working with the same data.

In most other fields of human endeavour cause and effect are obviously linked and outcomes from actions are quite predictable so why the uncertainty with the global economy?

Well it all started with the goldsmiths. A few hundred years ago in Europe the goldsmiths had the job of weighing and pricing gold. Due to the nature of the item they were working with, their facilities were very secure. On occasion clients of the goldsmiths felt safer leaving their precious metal and taking a receipt from the goldsmith instead. Before long people started exchanging receipts for the gold they held rather than using the actual gold to pay for goods. The goldsmiths soon realised that only 10% of the gold deposited was ever collected and the remaining 90% just sat there.

The goldsmiths then hatched the idea that lending gold for interest would be a good idea. But instead of lending actual gold they provided instead a receipt for the gold that they did not own and therefore did not exist. By doing so they created credit. The receipts for gold were greater than the volume of gold in their vaults. The Goldsmiths were the first real bankers in the sense that we know them today.

(Look at this site to read more http://www.michaeljournal.org/plenty.htm)

Now there really is no problem with the system unless everyone comes to collect their gold at the same time. If that happened the goldsmiths would be out of business and probably find themselves hanging by the neck if they are lucky.

Today the approach taken to fix the global financial crisis is to increase the supply of money by simply printing more of it. In essence the same thing the goldsmiths did hundreds of years ago. Only now there is no gold at all. Currencies are not gold backed and in fact have no connection to any tangible assets. Predicting the future for the global economy is therefore a job and a half.

Some economists feel there is a deflationary risk. Personally I feel the opposite (a period of high inflation for New Zealand at least) is more likely. Almost all of the world’s wealth is in property shares or cash. Why would anyone want to exchange property for cash (supply is increasing and interest rates are low) or shares (many companies are only surviving due to central government assistance). In my opinion the tangible nature of property will have high appeal in these uncertain times. Particularly land that can produce food. We don’t have to keep watching sky T.V. but we do have to keep eating.

I am happy to respond to any questions on this article or anything in previous issues. Send your questions to mortgages@nzij.co.nz

Interest rates are falling at a phenomenal rate. Retail, prime mortgage rates today are around the 6% mark for fixed rates and close to 7% for variable. Break costs are outrageously high with many borrowers wondering if it is worth their while to break their loan. The banks will simply pass on their losses to the borrower on breaking.

Most economists are expecting that the OCR will fall further with some predicting that it will get as low as 2%. In June 2008 the OCR was 8.25% and now it is 3.5%. In general terms it is a good idea to break your loan. Individual circumstances will vary enormously and you should discuss your specific situation with a good mortgage broker or financial adviser. However it looks likely that retail interest rates will drop to historically low levels and in my opinion it is unlikely that they will stay their long. The strategy for all borrowers at this time should be to hold on to a variable rate and wait for a really low long term fixed rate (perhaps 5% for 5 years?), lock in and batten down the hatches for the inflationary storm or worse crisis that is on its way.

Why so pessimistic? Well think about what is going on around the world. Central governments are bailing out whole industries that would otherwise fail. The money for this is simply being printed by central banks or the Federal Reserve in the case of the U.S. Currency is not backed by any tangible asset (such as gold) any more and therefore only has perceived value. If we take a close look at the situation in the U.S. as an example. Faced with the prospect of massive unemployment that may lead to a global depression, the U.S. instead steps in and rescues industries. Protecting U.S. interests is well entrenched. Free trade deals with the U.S. are not available for the simple reason that U.S. industries are not globally competitive.

How much value should one therefore place on the U.S. dollar? The Federal Reserve keeps printing more of it to pump in to industries that would otherwise fail so that 4.5% of the world’s population can continue to enjoy a higher standard of living (economically speaking) than the remaining 95.5%.

Wealth has to be somewhere and most of it is either in property shares or cash. With increase in supply of money in a low interest rate environment who would want to hold cash? Demand will shift to tangibles and this demand creates inflation.

Inflation will however create an increase in New Zealand property values. My guess is that by the end of 2009 the market will see an increase in demand for all classes of property in New Zealand with this winter is the optimal time to buy more. Don’t miss the bus!

I am happy to respond to any questions on this article or anything in previous issues. Send your questions to mortgages@nzij.co.nz

Welcome to the early summer edition of Identifier.

Everything looks a little rosier when the sun shines. It’s been a testing year, but the warmer weather and longer evenings have provided us all with a welcome boost. And as we wait for the economic situation to improve, with fingers crossed, it’s a great time to be making our own fortune. There’s a lot we can all do to give ourselves the best chance of success, whether it be our health, wealth or long-term happiness in question.

In this issue, you can read about how adjusting your cover to the CPI can pay dividends at times like these; about the importance of getting checked for sunspots – and getting covered while you’re still healthy; and how an honest assessment of your lifestyle and responsibilities can help you decide if your insurance cover is sufficient.

Have a safe and enjoyable summer.

Lodestone – Caglan Bagci

Download the newsletter: Identifier Summer 2008 >>

I walked past ‘blanket man’ today and he smiled at me.  For those of you who do not live in Wellington, do a Google search.  You will find a homeless person that is happy and at peace.  Now ‘homeless’ in New Zealand is a lifestyle choice.  We have enough welfare protection in this country that anyone who is living on the streets is there because they want to be.  I don’t judge people for their choice of lifestyle.  Everyone has their own path on life’s journey.  I did however wonder what he had to be happy about.

By the time I got back to my office I was thinking about all of the people I had met over the years with all of their different financial positions.  For the last 20 years people have exposed themselves to me (financially speaking).  Now some of those people were happy and some were fearful, worried and stressed.  What is interesting to me is that there appeared to be almost no correlation between the amount of money that someone had and their feelings of security and certainty about the future.  Or in other words there did not appear to be a correlation between how wealthy someone felt and their level of wealth.

It seems to me that the reason we want more money is entirely because of the way we expect to feel because we have more of it.  Great wealth may give us a greater sense of freedom, peace, security… or not.  So perhaps being rich is not about how much money one has but rather about how one feels about the money that they have.

Now a lot of people are not feeling rich at present.  To a great extent this is due to the way that information is presented in the daily newspapers and television news.  Financial crisis this, another great depression that.  So I thought it would be timely for me to give you some information to help you feel wealthy.

Consider the facts.  At the start of the depression of the 1930’s, there were no government safety nets for unemployment, housing and health.  People could literally be left homeless and penniless if they were out of work.  And not by choice as in the case of blanket man.  Many banks were left to fail rather than being rescued or assisted by governments and central banks.  The current environment is massively different and can not even be compared with that time.

The 1987 share market crash which is perhaps more like now, was followed by a property crash in New Zealand that did not recover for another 7-8 years.  However interest rates at that time were extremely high.  Some borrowers were paying 20% + for their residential mortgages.  The current environment has interest rates falling dramatically to levels that will soon make positively geared property investments common.

According to Wikipedia http://en.wikipedia.org/wiki/World_population the current world population is estimated to be 6.7 billion and is expected to reach 7 billion by 2011 and 8 billion by 2024.  To get some perspective on this consider that the expected growth in the world’s population is the current population of the United States (approximately 300 million people) in the next three years and the population of China (approximately 1.3 billion people) in the next 16 years.
Now these people may not need Sky T.V. But they will need food (We make it) and shelter in preferably a first world country that provides a relatively safe environment to live in and raise a family (we are that).

So around the corner is a massive population driven increase in demand for something we have in a low interest rate environment.  If that is not cause to make you feel wealthy then you are beyond help.

As always I am happy to respond to any questions on this article or anything in previous issues.  Send your questions to mortgages@nzij.co.nz

I can’t help but think that New Zealand property is a really good investment.  I read in the paper this morning that house prices had fallen around 5% over the last 12 months.  Now falling house prices is not good news but when you contrast a 5% fall in value over 12 months with the extreme loss in value of global share markets in a few short weeks, then you think it’s not that bad.

However I am not so stupid or naive to think that much greater falls in value of property won’t be around the corner if the world slips in to a 30’s style economic depression.  Let’s hope that things don’t get that bad.

But let us consider the fundamentals in the market at present.  Wealth has to be somewhere and most of it is either in property shares or cash.  Property has the advantage of being a tangible asset.  Demand is driven by a number of factors with population being one of the most significant.  New Zealand’s population is growing.

Another demand factor is the cost of credit.  Many economists are expecting that the Reserve Bank of New Zealand will drop the official cash rate by 1% in October.  Many retail fixed interest rates have fallen significantly in recent weeks and most are expecting that interest rates will continue to fall.

The alternative investments are ‘dodgy’ at best.  Although there may be share market bargains to be had, few would have the nerve to buy shares at this time.  And while you might be able to get your bank cash deposit guaranteed can you get the currencies value guaranteed?  At time of writing one New Zealand dollar buys 60cents US, 0.34 British pounds and 89 cents Australian.

The flip side of the falling dollar is the fact that we are an economy that makes most of its money through exports and tourism. Both of which benefit from weak currency.  We have no capital gains tax on property and good yields (I have found 10% net in recent weeks).  Furthermore we have a large expat population wondering where is a safe place to put their money.  After the September 11 crisis we saw a significant growth in population that created a large increase in demand for property.  I would not be at all surprised if we saw this happen again.

Sometimes living in an oasis on the edge of the earth with a tin pot economy is an advantage.

As always I am happy to respond to any questions on this article or anything in previous issues.  Send your questions to mortgages@nzij.co.nz

What matters most to you? If you’re a typical New Zealander, then family, lifestyle, good health and financial security are high on the list. And if you value something, then naturally you’ll want to protect it in any way you can. It’s all too easy to be wise in hindsight, so if you’re serious about securing your future and that of your family, the time to put together a personal protection plan is now.

In this issue of Identifier, there’s information on getting your affairs in order, choosing the right type of life insurance, consolidating your debts with a smart mortgage, reducing your risk of heart disease, and reviewing your investments in these testing times.
Lodestone – Caglan Bagci

Download the newsletter - Identifier August 2008 >>
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A friend of mine once bought Air NZ shares at $1 and saw the price fall to 15 cents within a few weeks. This kind of volatility is extremely unlikely for the property market. The main demand component for property is population. Statistics New Zealand expects New Zealand’s population to reach 5.05 million by 2051. These people will continue to need a place to live and will continue to earn and to spend. So ‘crash’ is probably not the best word to use when talking about the property market - but “correction” is so boring. However, there are indicators that property prices may be a little high and we may have a stagnant period ahead. The average house price is more than six times the average income, compared to three times in the 1980s. Also, property as an investment is not standing up quite so well compared to alternatives as it has in the past.

Understanding the risk/return tradeoff with property

There is no risk-free investment. Every investment outlay is made with the hope of a greater return at some point in the future and with the knowledge there may be a loss. Property investments carry a range of risks, some specific to the type – tenant default, vacancy, building costs, damage, planning changes, legal changes, etc - and some attributable to changes in the marketplace driven by changes in the economy, interest rates and inflation.

Take government stock as a benchmark. At the time of writing, a $10,000 investment in New Zealand Government stock maturing in 2009 will yield 5.78% gross. For an investor wanting too take on slightly more risk, $100,000 invested on call with UDC will yield 7% gross. For the extra time, effort, energy and risk associated with direct property investment, a significantly greater return should be sought. Recently, I have seen commercial property trade with yields as low as 3.5% and residential yields at 4%. The 100% financed, self-servicing investment property type is very hard to find. Remember to put a price on your time if you are determined to do so.

If you had the capital to buy a direct property investment without borrowing, the expectation of capital growth alone would be the only justification. Computer model for long enough, and you may be able to show some reasonable returns for property investments where a sufficient deposit allows a rental surplus to clear debt. Remember, however, that while leveraging will improve your profit model it will also increase risk.

As always, if the time horizon is long enough (10+ years), now is as good a time as any to make a direct property investment. But with short or medium-term expectations of the market, then I recommend you also model scenarios where prices are stagnant for a number of years or even fall.

The bottom line, however, is that we have excellent returns on low risk fixed interest investments in New Zealand.

Caglan Bagci is Principal of NZIJ Mortgages. This article has been reproduced with permission from the NZ Investment Journal.