Eight out of ten millionaires around the world made their first million from a property-based transaction
~ By Carol Tallon,
Originally published in The Sunday Business Post, February 3, 2012
Earlier this week, it came to light that Irish homeowners withdrew almost €30 billion of equity from their properties during the height of the boom, 2002 to 2009. The Central Bank confirmed that the sheer extent of this equity withdrawal is well outside of international standards and unprecedented in Ireland’s history. It created paper millionaires who have lost more in five years than they gained in the decade before. How did this happen?
Property has always been and remains the most consistent vehicle of achieving wealth.
Eight out of ten millionaires around the world made their first million from a property-based transaction. While we have no Irish statistics to compare, such statistics would make for interesting reading – particularly if we isolated the freshly-minted, Celtic Tiger millionaires from those of the 1980’s. One suspects the current tally would run slightly higher than 80 percent. And we know that they have not all gone away. Current cash deposits with Irish banks are estimated to exceed €90 billion. Where is that money going to go?
Since the crash, most cash-flow, residential investors have had their hands tied and lines of credit severed, giving them no option but to stand-by, wait for the bank to act and simply watch their portfolios de-value over time. Market power belonged to the cash buyers, sometimes in the guise of overseas investors. These were not necessarily large pension funds, but amateur investors with cash to spare on an Irish pied-à-terre. They researched, then watched the dysfunctional market – circling overhead, waiting for a sign that Ireland was once again the place to invest. Of course, the problem with foreign investors is that they are easily spooked, and when spooked, their money is easily diverted to other markets, like safer German options or more speculative opportunities within the BRIC nations. For many who did persevere, the sign came in early 2011.
Those speculators, both domestic and overseas, still watching the market today, will have missed some of the quality properties off-loaded by non-Nama banks eager to exit the Irish market over the past two years. By 2013, we can see that, in general, the quality has gone down and the price has gone up. But that does not mean the end of Irish opportunities; it simply means that investors will need to adopt new strategies for buying in the changed marketplace – just as those buying throughout the crash needed to. The good news is that lending for investors is gradually opening up, with the pillar banks leading the way. The bad news, however, is that the lenders like to see that investors do not need them. They prefer financing to be an option but not the only one. For example, a recent report by auctioneers Allsop Space showed that almost half of all successful buyers at their multi-lot auctions had pre-approved finance in place. In my experience, the common factor among such financed buyers is their ability to complete irrespective of that finance. This includes first-time buyers with the financial support of parents, or investors with access to cash reserves, in excess of the financing. This might sound alien or counter-productive to would-be investors, but it is actually a positive step.
It re-introduces the concept of ‘good debt’, which might be too soon for some of our readers, but is a keystone of successful investing. Property is one of the few asset classes that lend itself to financing. In its most basic form, an investor in the current market might need to show cash assets close to €180,000 to purchase an apartment in the capital, however, the bank will likely advance funding in the region of €135,000 towards the cost of buying. This allows the investor to acquire an asset worth €180,000, whilst paying only €45,000. The good debt of €135,000 is serviced using the rental income.
This type of debt is very different to the bad debt acquired for many Irish homeowners on foot of the equity releases during the boom years. The vast majority of people, including myself, made the crucial mistake of thinking of this equity as money earned – the banks propagated this myth by converting equity into cash – and then spending this equity, now cash, to fund lifestyle spending habits like cars, holidays and paying off yet another VISA card. As a nation, our behaviour was not unique, however the extent to which we leveraged appear to have been beyond all proportion.
Equity releases are a tool or mechanism to develop wealth, as part of an overall strategy, but we have destroyed the concept by improper use. First-time investors today will need to look at more creative strategies to compensate for restricted lending – a direct result of our buying behaviour over the boom years. Too many people have lost a decade of their financial lives by not understanding the difference between ‘equity’ and ‘useable equity’. It is time for investors to get back to basics.