"Breakeven Crash Requirement"

westernpromise · 22 January 2016 at 2:20PM

Joeskeppi wrote: »

I dread to think what level of crash he needs just to break even.

I think this observation from another thread is a really good question generally, and worthy of its own thread. Although you can only answer the question accurately ex post facto, do STRs and the like ever ask themselves what level of crash they need?

My sister STR'ed in 2006. She sold a huge place in west London for £1.7 million, intending to trade up in a downturn, and rented until capitulating and buying back in 2 years ago. My rough guess is that between those dates, she had blown £160k more on rent than her mortgage would have been. Therefore she needed the house price to be £1.54 million or less in 2014, in order for it to look like a smart trade to have sold at the 2006 price and to have rented since.

In fact the value in 2014 was £2.7 million, according to Zoopla, so she needed a crash of 43%, from £2.7 million to £1.54 million. That’s just to break even.

What complicates the calculation of what I’ll call B.C.R. - “Breakeven Crash Requirement” - is that it’s a different number for every year since you’ve been renting instead of owning. Had she got back into owning around 2011, for example, she’d only have blown £100k in rent up to that point, so a small fall to £1.6 million would have broken her even. The house was by then worth £2.1million, however, so this small fall was a 24% dip on the actual 2011 value. Hence her 2011 B.C.R. was 24%.

Had she hung on until today, she’d have blown £200k on rent and the house she sold is now worth £3.4 million. So her B.C.R. today would have risen to something like 56%.

So the picture is

2011 B.C.R. = 24%
2014 B.C.R. = 43%
2016 B.C.R. = 56%.

Unsurprisingly, then, B.C.R. trends up in a rising market. It may also do so in a falling market, counterintuitively; for example, if your landlord charges you more rent per year than house prices are falling by, as happened in 1990 and 2008.

So is 100% B.C.R. ever possible, meaning the house would have to cost £0 or less, i.e. be free, for you to be better off for having rented? The answer is yes. If you spend more on rent than the house would have cost you or been sellable for, then you need a crash of more than 100% of the current price to break even. Some of the people predicting crashes on Usenet in 1996, and Crashy Time of this parish, must be well into > 100% B.C.R. territory by now.

Of course all this ignores transaction costs, and they are quite important. They’re now so high that to sell a £1.7 million house today and buy it back immediately, you’d need a B.C.R. of about 9% just to end up back in the same boat. At some point history suggests we will see a correction, but with a 9% minimum B.C.R. it’s going to need to be pretty substantial before it’s worth betting on its timing, and I don’t know anyone who knows how to price that timing risk properly.

Graham_Devon · 22 January 2016 at 2:27PM

The maths rely on a heavy dose (well, entirely really) of hindsight.

It's simply a gamble and you may win, you may lose.

I couldn't personally care less whether someone who has STR'd has won or lost. They took a gamble and have to deal with the outcome of that gamble.

So in my view, it's not worth getting wrapped up in, other than to drill home the point that, on this occasion, they lost.

Someone choosing to STR tomorrow could win or lose, regardless of the sums above as I'm assuming none of us have the ability to see into the future.

As for STR's themselves, I would imagine it's an incredibly small number of the population that actually go ahead with it.

padington · 22 January 2016 at 2:36PM

Graham_Devon wrote: »

The maths rely on a heavy dose (well, entirely really) of hindsight.

It's simply a gamble and you may win, you may lose.

I couldn't personally care less whether someone who has STR'd has won or lost. They took a gamble and have to deal with the outcome of that gamble.

So in my view, it's not worth getting wrapped up in, other than to drill home the point that, on this occasion, they lost.

Someone choosing to STR tomorrow could win or lose, regardless of the sums above as I'm assuming none of us have the ability to see into the future.

As for STR's themselves, I would imagine it's an incredibly small number of the population that actually go ahead with it.

They lost and a school of crashisist 'thought' deserves to be responsible for egging the economically naive to throw their families future ironically down their BTL landlords bank account after years of evidence that that they were tragically talking boiiocks.

Alas sadly the housing gamblers become more prone to continue to gamble more in order to chase the ever greater loss.

It annoys me because the whole system deserves to be critiqued because it is hugely disfunctional but until we accept that the system is broken in favour of asset owners more than ever we will never be able to resolve the malaise.

Dont get me wrong, most of us have never had it so good but envy will eat us all if the new toys are so badly shared.

Graham_Devon · 22 January 2016 at 2:40PM

padington wrote: »

They lost and a school of crashisist 'thought' deserves to be responsible for egging the economically naive to throw their families future ironically down their BTL landlords bank account after years of evidence that that they were tragically talking bo11ocks.

Oh.

I didn't realise it was that serious.

I didn't realise that, like Lemmings, everyone around them and who they spoke to also STR'd because someone else had.

I guess my next phone call will now be "Have you STR'd at a whim on the advice of some random on the internet.... you could be owed thousands".

westernpromise · 22 January 2016 at 2:40PM

Clearly nobody has the ability to see into the future, which is what I meant when I concluded that I don't know how to price the risks of this. But anyone can do what I just did and work out that you'd need a B.C.R. fo 9% just to sell and buy back the same place. Depending on what price band we're talking about, it could be as high as 10% or so. This should tell you that the costs of the trade are so high that you need a very substantial correction to make money; and the longer you wait (i.e. the worse you've mistimed it) the bigger the crash you need.

People without a property to STR are of course looking at a lower crash requirement than those selling to rent and buy back. But the problem for those talking up a crash is that for them to buy, existing owners have to sell, and they won't if the value doesn't stack up.

Graham_Devon · 22 January 2016 at 2:43PM

westernpromise wrote: »

Clearly nobody has the ability to see into the future, which is what I meant when I concluded that I don't know how to price the risks of this. But anyone can do what I just did and work out that you'd need a B.C.R. fo 9% just to sell and buy back the same place. Depending on what price band we're talking about, it could be as high as 10% or so. This should tell you that the costs of the trade are so high that you need a very substantial correction to make money; and the longer you wait (i.e. the worse you've mistimed it) the bigger the crash you need.

I get the point you make. It's the same point as shares and transaction fees essentially.

However, with houses, I don't think you can work out, even all that roughly the cost of buying in again in say 5 years time. Look at what's been thrown at the housing market in the last 5 years. These people could use HTB for example. Look at stamp duty changes. It's also very much dependant on your area and dependant on what you are trying to achieve (moving from a 2 bed to a 3 bed for example....as I doubt many would STR in order to buy the very same style of house).

About the only given is rip off legal fees.

westernpromise · 22 January 2016 at 2:44PM

padington wrote: »

They lost and a school of crashisist 'thought' deserves to be responsible for egging the economically naive to throw their families future ironically down their BTL landlords bank account after years of evidence that that they were tragically talking boiiocks.

Alas sadly the housing gamblers become more prone to continue to gamble more in order to chase the ever greater loss.

That puts it very well. In my sister's case outlined above she needed a 9% crash the day she sold, a 26% crash by 2011 and a 43% crash by 2014. It was all going the wrong way so she stopped chasing her losses and got back in, one a quarter million pounds the poorer (although she only had a £1.7 million house to sell in the first place because she'd been long and leveraged in houses for 25 years).

But yes, it's loss-chasing.

Conrad · 22 January 2016 at 2:44PM

I sold my B2L's in 2006 and early 2007, but in the end it cost me as I missed out on super low interest rates, lost rental profits, missed out on some capital growth and had all the costs and hassles of selling and buying back in. Buying back in took me 2 years and a heck of a lot of work.

Never again will I try and time a market.

Graham_Devon · 22 January 2016 at 2:52PM

westernpromise wrote: »

That puts it very well. In my sister's case outlined abovre she needed a 9% crash the day she sold, a 26% crash by 2011 and a 43% crash by 2014. It was all going the wrong way so she stopped chasing her losses and got back in, one a quarter million pounds the poorer (although she only had a £1.7 million house to sell because she'd been long and leveraged in houses for 25 years).

But yes, it's loss-chasing.

Theres no denying there was a loss in the timeframe you use.

However, equally, if anyone STR'd in early 2007 and bought back in in 2010 they would have gained (locality depending)....as many BTLs on here will testify as they timed the market perfectly apparently (as usual).

The point being - it's literally just a gamble.

I get the sense that this is rather more a "ha, they lost" thread than anything else as it was pretty well understood by most to start with that STR'ing in the timeframe you lay out would have been a bad decision.... in hindsight.

Again, no different to shares or any other investment where you stick your finger in the air and try to gauge the direction the wind may blow.

westernpromise · 22 January 2016 at 2:57PM

I should add, in case it's unclear, that in some circumstances, your B.C.R. could fall. If, for example, you sold a £1 million house and rented for 3 years at a cost of £100k, you need to buy that house for £900k or less for this to be a good trade. If the current value is £1.5 million then you have a current B.C.R. of 40%. If prices then do fall, not by 40% (£600k) but by say £300k, then in the following year, you need the price to be £870k but it's now £1.2 million. This is a B.C.R. of 28.5%. So in a market where the price steadily falls, you need a steadily smaller decline to break even - although you do need successive years of price decline for this to come about.

In the early 1990s we got to a place where B.C.R.s would have getting worse even in a flattish market, because rents were high. But to be clear, it does not follow that B.C.R.s can only ever move one way - a sustained multi-year fall would take you into negative B.C.R. territory, meaning at current prices, you were already ahead.

Obviously this can only ever be ex post, but if you find yourself needing a 55% price fall for renting to have made sense, it should at least be helpful in figuring out how long you can hold out for.

westernpromise · 22 January 2016 at 3:09PM

Graham_Devon wrote: »

Theres no denying there was a loss in the timeframe you use.

However, equally, if anyone STR'd in early 2007 and bought back in in 2010 they would have gained (locality depending)....as many BTLs on here will testify as they timed the market perfectly apparently (as usual).

The point being - it's literally just a gamble.

I get the sense that this is rather more a "ha, they lost" thread than anything else as it was pretty well understood by most to start with that STR'ing in the timeframe you lay out would have been a bad decision.... in hindsight.

Again, no different to shares or any other investment where you stick your finger in the air and try to gauge the direction the wind may blow.

I think everybody gets that it's a gamble, Graham. Anyone looking at a time series chart of house prices will notice that it is never a straight march upwards for long. It retraces then recovers.

My point really is that if you put a bit of structure on the thinking (as my sister didn't) then you can work out what the trade contemplated - STR, buy, don't buy - is worth. I was surprised to learn that I'd need a 9% price crash just to cover the costs of selling up in order to buy back post-crash, for example.

I am wondering whether others think about this in any roughly similar way. The STR trade may be rare but the prices-are-too-high-I'll-wait-till-they-crash trade is less so. I wonder if those who do it have thought it through and worked out that not buying in 2006 may mean they now need a 56% price crash; or whether they realise that finding a property at that level relies on sellers prepared to take a similar gamble.

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"Breakeven Crash Requirement"

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