The property ladder

Martin HawesMartin Hawes
Chair, Summer Investment Committee
September 2019


People scramble to get on the property ladder. I think home ownership is a good thing. However, getting on to a ladder assumes that you are not going to sit still. You are going to climb that ladder and, in property terms, that means buying a bigger and bigger (or at least a more and more expensive) house.

Of course, young people generally need to buy a relatively inexpensive house. Houses are expensive in this country and a first home buyer rapidly hits a price ceiling. However, as they grow their families, they often need more space and so sell their small home, re-mortgage and buy a bigger home.

This process can repeat many times. After a while, it is often driven less by a growing family that requires more space but instead, as income rises the driver becomes aspirational, the desire for a nicer house and prospect of capital gain.

A part of the aspiration is financial. The couple may see a burgeoning housing market and, wishing for greater profits, they put more money into housing by selling again (and again), re-mortgaging and buying an ever more expensive house. They know that paying off the mortgage is a kind of enforced saving and, watching what has happened to property prices, they make each step further up the ladder with growing confidence.

This can be a financial strategy as much as anything else.

Over the course of my lifetime, this has worked reasonably well. House prices have been cyclical but there have been much stronger upwards movements than downwards, and there are now places in New Zealand where a fairly ordinary house would provide a good ransom for a King.

However, as a strategy for your long-term future it does have some disadvantages and risks: continually climbing the housing ladder may not be the best strategy from a financial point of view.

First, it is costly to shift multiple times. Real estate agents and lawyers fees along with the costs to check out each house before you buy (building inspections, LIMs, engineers etc.) are expensive.

So too are the improvements that just about everyone makes when they buy a house – most of us at least paint a couple of rooms or redo the garden and, often enough, alterations can be quite major. Then there are moving costs and the need to buy at least a little new furniture to fit and suit the new house.

All of these costs add up. If it ends up being a five-rung ladder (i.e. you shift five times) that can turn out to be a major amount. Climbing the property ladder is no cheap exercise.

Second, climbing the property ladder leaves very little for other investments – your finances become very concentrated to the housing market. Continually re-mortgaging is very good business for the bank but not so good for you. Sure, you will have your KiwiSaver account but there is frequently little more diversification than that.

This makes you almost completely reliant on the performance of the housing market. Yes, over the last few decades that has performed well, but that may not continue in the coming decades and many people will not want to bet their entire futures on just one asset.

Third, on retirement, you end up with a big valuable house and not much else. Many people find themselves in this position of being asset rich and cash poor. Certainly, you may have a nice house to enjoy but relatively little to fund the other things that you may want to do.

This may mean that come retirement you have to downsize – i.e. sell the house to buy something less expensive. This has its own issues - e.g. your house may be difficult to sell or you cannot get the price that you want or need at a particular time. Moreover, it may be uncomfortable when the less expensive house that you buy does not have the space or amenities that you have become used to.

There are two things that people should watch out for: first, try to right-size the house. Have a big and expensive house if it gives a great deal of pleasure and amenity. However, work out what is truly important to you – if you want to do other things, do not put too much of what you have in the house.

Second, if you really do want to have an expensive house, consider taking those rungs of the ladder two or three at a time; buy and sell less by making bigger moves. Remember that each time you move there is a cost, probably one that is far bigger than you originally thought.

 

 

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