This article was published on 24 March 2009. Some information may be out of date.

You can indeed go wrong with bricks and mortar

I first heard people saying, “You can’t go wrong with bricks and mortar” years ago, when I lived in the US. I bet the saying isn’t quite as common there these days, now that millions of people have, indeed, lost huge amounts because of property.

Yet we still hear that untrue “truism” in New Zealand. And in the last few weeks, as some people are trying to convince us that the house price slump is over, it keeps popping up.

The argument usually runs something like this: “Whatever happens to prices, you’ve still got the building and land — as compared to shares, where you can end up with just a worthless piece of paper. In a downturn, real estate is a haven.”

It’s quite true that property is less risky than shares, and that it will always be there, if — and it’s a big “if” — you don’t have a mortgage. That’s where the complications begin.

If you borrow to invest in anything — property, shares, emus — and its value rises, you’ll do better than if you hadn’t borrowed. You benefit from the gain not only on your deposit but also on the bank’s money. That’s why borrowing to invest is called “gearing”.

But there’s a dark side to gearing. If the value of the investment falls below the loan, you have what’s called negative equity.

Late last year, an expert estimated that the owners of one in five New Zealand homes with mortgages had negative equity, and that number has probably risen since.

In most cases, negative equity doesn’t really matter. As long as you keep making your mortgage payments, you can be pretty confident house prices will rise again some time in the next few years and all will be well.

But if you have to sell, it’s a different story. You give the bank all the proceeds of the house sale and still owe more. Whatever happened to “You can’t go wrong…”?

The same thing can happen, of course, if you borrow to invest in shares. And that’s why the 1987 share crash hit New Zealand so hard. Many people had taken out loans to buy shares.

But these days geared share investment is rare, while borrowing to invest in property is pretty much the only way anyone does it.

People thinking of buying rental property — now that prices and mortgage rates are low enough that rents sometimes cover mortgage payments — need to keep this in mind.

I recommend thinking through a worst case scenario. Assume your tenant loses his or her job and gets behind on the rent or damages the property and then disappears. Then you lose your job, or your expenses soar for family reasons, or you suddenly need to do expensive work on your home or your rental, or rents fall and mortgage interest rates rise, or — any number of other things could happen.

Would you find yourself having to put the rental property up for sale? In the current slow market, people desperate to sell can end up accepting really low prices — possibly less than the mortgage.

A golden rule of investing is: never put yourself in a position where you might be forced to sell.

While we’re on untrue “truisms” about property, another goes like this: “We can’t grow any more land. It’s scarce. So its price will always rise.” A variation is to say this specifically about coastal land.

With recent price falls, we’re not hearing that one much lately. I just hope people remember the recent experience during the next property boom. No matter how scarce anything is, there is always such a thing as too high a price for it.

Mary Holm is a freelance journalist, a director of Financial Services Complaints Ltd (FSCL), a seminar presenter and a bestselling author on personal finance. From 2011 to 2019 she was a founding director of the Financial Markets Authority. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it.