Wednesday, October 26, 2011

Real Estate Lessons from China

Elaine Kurtenbach reports that there are signs that the red-hot Chinese real estate market is cooling off. Real estate prices in China have risen consistently for so long that people have come to believe that prices only go up. Our situation in Canada is much milder, but there are parallels.

On a recent trip to China I happened to discuss housing prices with some PhD students. They talked about how their families were buying as many apartments as they could as investments. When I asked whether they were concerned that Chinese real estate might be in a bubble and that prices could drop drastically, they looked at me like I had two heads.

It was clear that their perception of the safe path to wealth was to save money and pour it all into real estate. There are many Canadians who feel similarly. They buy homes bigger than they need on the theory that they will make money when they sell these homes. But there are no guarantees. It is better to buy the home you need, pay it off, and diversify savings.

Let me stress that I have no idea if real estate in Canada or China is in a bubble or if the near future will bring higher or lower prices. What I do know is that any financial plan that pins its hopes on ever rising real estate prices is on shaky ground.

7 comments:

  1. A clarification to keep you on your toes; it's not necessarily "better to buy the (smaller) home you need", but it tends to be less rislky to do so.

    (Just making sure that you are awake).

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  2. @Dale: When making a priori decisions (the only way we can make a choice), I think that it is better to buy the home you need rather than one that is larger than you need. Viewed after the fact, many outcomes are possible, but that doesn't change the correctness of the a prioi decision.

    I'm open to discussion of circumstances when a person may be better off buying more house than he needs, but I exclude any justification than takes into account future information.

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  3. An interesting post. Of course, the same could be said of any asset: stocks, bonds, real estate, gold, forest, oil royalties, etc. Each have tended to go up in the past, but none come with a guarantee (except bonds) of a future value.

    I'm sure people are making a bundle of money by speculating on real estate in China. But they should keep very aware of changing market dynamics. Humans are very good at extrapolating current circumstances, and very bad at predicting directional changes.

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  4. Yep, you are both awake and correct, as per usual.

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  5. We agree on something!!!!!!!!!!!!

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  6. @Robert: You're right that the same could be said of other asset classes. I chose real estate because that is the current asset class that some perceive as "always goes up".

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  7. Agreed. Why put all your money in one concentrated area? Always look to diversify. Although housing market could continue to go higher, you just never know when it will burst just like what we experienced back in 2007-2008.

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