In this edition we discuss Australian property and the price level of domestic residential real estate....In Australia, residential property is considered the safest of all assets. Residential property prices have not experienced a broad decline since 1991. Because property has not fallen for such a long time, the risks involved in investing in property are often assumed to be low. In our opinion, the lack of a meaningful correction in property prices over such a significant length of time is more likely to imply that the risk might be quite high, because excesses in the system have been allowed to build for such a long period. Similarly the fact that growth rates in house prices have exceeded growth in household income indicates to us that prospective residential housing returns will be significantly lower going forward. But many draw the opposite conclusion, that the historical growth rates are evidence that house prices should continue to grow at those rates in the future. The inference is that past returns tell us something about future returns. This extrapolation bias carries considerable risk. (VIEW LINK)
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