There is an ancient wisdom which says, “Fools rush in when Angels fear to tread”.
Take all the fools out of this world and there would not be any fun living in it, or profit. And profit is certainly almost guaranteed…But to wise men only.
There is a common language especially in the banking industry when real estate booms and euphoria filled the minds of fools, and led them to become mindless herds of cows being brought to the slaughtering houses even without them knowing.
In booming times like today, the banks are saying to real estate developers, “You bring the dirt, and I’ll bring the money. Let’s make money together out of those fools!” What a great mutual business relationship.
You bet it doesn’t take a fool to guess who that ‘dirt’ is. Well, who knows? A fool doesn’t realise he is a fool until a bigger fool comes along.
Next, are the SMART investors but that is another story to tell in my future articles…
In Part 1 of this series, I will touch on who will be the eventual winners in today’s property game and how in order to play the property game well, you must first understand the tripartite relationship between property developers, banks and the governments; and how they ‘conspire’ and ‘manipulate’ the real estate market for their own vested interests – simply in the name of business. And running a business is to ensure profits.
Even with the Additional Buyers Stamp Duty (ABSD) implemented in early Dec 2011, there is still a strong demand for new launches in the residential property sector. For residential new launches, new sales for January alone this year exceeded more than 2,000 units sold. A check with URA revealed that there were only 329 resale units and only 67 subsale units transacted. This meant that the focus is primarily on one segment of the market – New Property Launches in the Mass Market segment.
Developers were rushing to launch new projects in the mass market segment (Outside Central Region) to satisfy the many eager buyers, both home owners as well as investors.
The turnaround time for developers from land bidding to new property launch has been shorten from 12-18 months previously to current 9-12 months to help mitigate risks for themselves.
Unlike ignorant and ‘foolish’ retail investors who tend to buy at sky high prices with a herd mentality, hoping prices will go even higher and sell to make a profit, smart investors always understand and profit from a simple common sense investment concept:
Developers buy a land with a loan from a bank; usually both parties have intimate relationship with vested interests.
That’s why the bank stationed at a new launch always ready to offer a mortgage loan to a buyer is also most often the same bank who grants the land/construction loan to the developer.
Developers will then market, launched the units and buyers pay down both the land as well as the construction costs for the developer in progressive payments, often disguised as buyer down payments over the construction period until TOP. (Temporary Occupation Permit or in short, completed)
Within 5 years, most units would have been sold, which in this case, developers repay the loan back to the lending bank with buyers’ money, making a cool profit of 20% on average on the sale of units after the acquisition of the land, PLUS they take back all initial investment capital.
They have put forth initially when securing the land and re-roll again into another project. The cycle continues. That is why developers can make big bucks,
simply through using other people’s money to help fund their construction loans and other buying costs, yet make money out of this foolproof concept.
While these smart property developers have taken back most of their original investment capital within 5 years, the ignorant retail investor would buy and hold for a very long ‘unknown’ period, praying for capital appreciation to make profits somehow!
There is absolutely nothing wrong with how the developers and the banks work together or how they make use of other people’s money. It is business. And in any businesses, you have to make profits. And profits are almost guaranteed…but only to wise men.
In booming times like this with rocketing sky high real estate prices, there will eventually only be 3 major winners in the eventual outcome. In descending order of the food chain:
Appreciating land and home values is a commonly used political tool for governments to strengthen their political power on their citizens. (Refer to A Brief History of Real Estate) Rising home values with an increase of money supply will cause tremendous beneficial domino effects on entire financial markets, raising all other asset classes in value at the same time.
Thus, they will make more money through increased land prices, stamp duties and other taxes involved in the entire process. Besides these tangibles, there are also other intangibles benefits for the governments like rising GDP figures which is a key indicator for much needed foreign investments, a happy nation of voters with appreciating home values and because of this illusion created through rising home values, consumers tend to spend more and increase debt, boosting GDP figures, thus ensuring a continuous supply & flow of money and credit in the markets. Hidden taxes like property taxes will also fill government coffers.
Governments will encourage banks to lend money for purely economic and political reasons through various monetary policies. Banks are thus, the key financial backbone of any economy. That is why you often heard the phrase, “Too big to fail.”
Banks make a living on interest income of lending their money to others.
On top of mortgage loans, the banks will also be able to up-sell other income generating products (i.e. investment products) to their existing clients who took the mortgage loans from them initially.
So, as a bank, would you not lend?
That is why real estate loans are one of the most lucrative and profitable income generating assets for banks.
(Hypothetically speaking)
Although being 3rd in the food chain, the developers will still stand to benefit tremendously from a mutual relationship with both the governments as well as the lending banks. Most successful and large real estate developers have deep political connections. On the other hand, the smaller developers will just have to eat the smaller pie of the lucrative real estate market.
Banks are eager to lend money to developers if the developer can prove they are able to market and sell properties successfully to end-buyers. Developers will be happy to take the loan money and develop as they know that in a booming real estate market, there will definitely be buyers to help fund their loan interest as well as instalment payments through a progressive payment structure till TOP. They take their original money back within 5 years and hey, it is ‘free’ money for them to buy the land and built, yet earn tremendous profits from selling the units at the end.
Who then are the ultimate losers today? Or who ends up at the bottom of the food chain?
In Part 2 of this series, I will cover more in-depth on why buying properties at current prices is not such a wise move for you and if you really want to buy, what are the considerations you need to make.
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To your continued investment success,
Gerald Tay
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