Finance Market Update - 15 May 20
There are very real psychological reasons why people buy things and when it comes to property that impacts prices. In this update we look at decision making in property purchases and investors might be feeling the stress.
Buying not to lose
The reason auctions are usually the preferred sales method is that it often produces the best price, or at least, does not leave as much room for doubt.
Leading up to an auction is a sales process whereby agents try to gauge and build interest in a property with the aim of maximising the sale price for their client, the seller.. Often the event that maximises the price is the catalyst of that sales process, the auction.
Further, an auction is a transparent marketplace where bidding happens so there is little room for doubt that there would have otherwise been a better offer.
The reason auctions work so well is due to psychology.
A few years ago, the term ‘FOMO’ for ‘fear of missing out’ crept into societies lexicon and struck a chord.
We all know instinctively it is true. We are social animals and like to do things others are doing, and when we are not doing those things we can feel anxious, like we are missing out.
The psychology behind FOMO could be tied to theories in behavioural economics referred to as ‘decision theory’ and ‘loss aversion’ which basically articulates peoples strong tendency to want to avoid losses, and importantly that losses are more influential to peoples decisions, psychologically, than gains.
People will make decisions to minimise losses rather than maximise gains.
This is an important and very real sentiment that shows up where there is a contest between people for a resource, like a property.
People will try to not lose more than they will try to win. Ultimately that means pushing up the purchase price of a property to miss losing out.
In a setting like an auction it is very possible a bidder will think that losing out on this property is a worse outcome than buying a different property for less. There are many subjective narratives here, but the bottom line is the paddle will wave more if the bidder thinks they are going to miss out on a ‘good’ deal.
They have the fear.
This is a key reason that as the government eases restrictions on the property sales process and auctions we could see clearance rates lift along with prices.
In an update in April I said that virtual auctions don’t stir up the same FOMO and since then clearance rates have reflected that to be accurate, hovering around thirty to forty percent. Half of what they were earlier in the year.
Auction clearance rates started of the year with weekly results in the seventy and eighty percent ranges and it looked as though, as I predicted, that property prices would reach or exceed the peak from 2017. Then the virus crisis hit, and everything froze.
So, the question is if auctions get back up and running will that lead to higher clearance rates and (a recovery in) prices?
I think it will definitely help keep prices buoyant in the short term, along with the low number of properties for sale, but significant issues of this recession being unemployment and tight credit remain.
There are signs that more properties coming to market to be sold are ex-rental properties.
This could be an early indicator that there is significant financial stress on property investors at the moment with the disputes happening on rents.
While there is a six month policy on pausing repayments on home loans available for investors the overall demand for rental properties is plummeting and that means less cash flow.
Already hundreds of thousands of people have already paused their mortgage repayments due to the virus crisis or subsequent loss of income or unemployment.
It is also a key reason why we saw the banks put so much into there rainy-day fund (aka provisions), they expect to see a lot of these people not be able to start repay their loans after the six month pause.
A lot of people.
And a lot of mortgages, billions in mortgages in fact.
It is likely many of the people who have paused the repayments are investors.
The issue for an investor is that if the tenant stops paying the rent and even if you freeze the mortgage repayments, the interest accrues over the six months and you are still liable for it.
Many investors will not have enough cash to cover the higher and prolonged repayments after the 6 months and will probably try to sell the property.
This could also be a telling indicator that there will be more properties coming to market which will see an increase in the number of listings, and potential sales activity, and we know increased activity increases prices.