When is the best time to buy investment property?
Posted by Stephen McCarthy on Sat, Oct 22, 2011 @ 01:53 AM
I am often asked when is the best time to invest in property or how do you read the market? The key thing to remember is that property investment cycles rise and fall as a result of sentiment more than anything else. In other words, they go up when people feel confident, and go down when they lose confidence. It's called the "herd effect" – but beware getting caught up in it, because if you do, you could miss an opportunity.
Where did the term “herd effect” come from? It describes how creatures or people can move and act together without planned direction.
It’s a survival instinct amongst animals, fish and other mammals, even humans, whereby they cluster together and move in a group to maximise their protection and minimise the risk of being isolated should they suddenly be moving alone. The self-interests at work sees them trying to move towards the centre of the herd, for maximum protection.
So when it comes to sentiment, or investing, the herd effect means moving as a group to maximise opportunity (like lions that hunt as a pride) or to avoid risk (like antelope, trying to avoid the lions and avoid being taken for breakfast!).
Aside from clustering together as a herd, they also move together. In other words, if one gets frightened and starts running, they all do, until they find a safer spot, when they can all stop and relax again.
What does this have to do with ‘sentiment’ and investing?
It’s simply that as humans, we share some of these instincts. We tend to group together and feel safer knowing that we’re doing the same as others, and we take signals from ‘the market’, where if it starts to slow down, we read the signals, and take action that withdraws us from the market risk. When everyone starts doing this, is it any surprise that the market turns down?
The reverse is true as well. Do you remember past housing booms? People were queuing up at auctions to buy whatever they could, at any price, simply so they did not miss out on the rising market. It was red hot, and they wanted to be part of it, at any cost.
The herd effect is the reason we have stock market ‘bubbles’ and ‘crashes’ – when people all move in the same direction, fast, things happen, fast! The riots in Greece are also the herd at work – and individual responsibility and judgement get absorbed by the movement and actions of the mob.
We see evidence of sentiment and the herd effect at work all the time. The stock market is going down. Investors are nervous. Greece is a problem. Our property market is seen as possibly being over-priced. People are worried about the impact of a carbon tax. Interest rates are meant to go up again. All this risk!
There are indices that measure this sentiment, and track the movements of the herd. They are called the ‘Consumer Confidence Index’ and the ‘Business Confidence Index’. Or, to track it directly, simply follow the ASX 200!
Doesn’t it make good sense to simply follow the market? Isn’t it safer that way? To buy when others buy, to hold back when others do, and to sell when others do? Doesn’t that make good sense? Why would you want to take the risk of moving out of the comfort of the herd, and braving the environment, and going it alone?
Canny investors, including Warren Buffett, know that doing the opposite is the only way to really make any money. If you buy shares at the peak, and sell them at the bottom, what happens? You lose! So following the herd might look safe, but it’s actually a dangerous and risky strategy, despite that it ‘feels’ comfortable.
Consider the opposite as a strategy: to buy when others are selling, so they you can time your entry into the market before it turns upwards, and before the herd comes running back to be part of the action and drive prices up.
If you would like to find out how you become an investor in your own right, free of all the downside risks of herd behaviour, download our Free Investment Clock, to help you understand the market cycles or call us on 1300 850 318.