Wednesday, October 29, 2008

Hong Kong Property Prices Falling Sharply

After rising in the first quarter, Hong Kong property prices have fallen sharply over the last six months or so. Although hard numbers are not easy to come by and are not always useful, estimates in the order of a fall of 20-30% from peak valuations are often being quoted. These numbers seem to be about right although there is considerable variation depending on which sector of the market is being looked at. Rentals have fallen by much lesser amounts, but are also trending downwards. Transaction volumes have also contracted significantly as buyers keep their hands firmly in their pockets.

As a homeowner who also has a leveraged portfolio of investment properties, this is considerably more significant to my personal finances than the 50-60% falls in the local stock market.

Banks are also cutting back on lending. They are doing this in three ways. The first is by increasing the deposit requirement (particularly for luxury homes). The second is by tightening the criteria for income coverage. The third is by raising the interest rates they are charging for new loans (which has an impact on affordability).

There is also rising anecdotal evidence that buyers are walking away from contracts rather than settle. It's cheaper to forfeit a 5-10% deposit than to buy a property that is not worth 10-20% less than it was when you signed the provisional agreement to purchase.

While the the financial pain I am experiencing is quite acute, I have no concerns regarding personal solvency given that I still have very healthy equity in all the properties we own, positive cash flows from existing tenants, a secure (although declining) income from my job and have been building up cash since the end of 2007 (the purchases made since then have been relatively minor after netting out positions sold). At some stage I will deploy the cash built up to acquire additional assets - when and what are yet to be determined - however, if the real economy continues to deteriorate the option of repaying some of our mortgages exists. While this would be sub-optimal from a longer term investment perspective, it would improve cash flow and reduce risk levels.

Monday, October 27, 2008

I guess this answers the decoupling question

One of the questions that was actively debated earlier this year was whether or not the emerging markets had decoupled from the western developed economies (in particular, the US).

With share markets around the world seemingly in a competition to see which can fall the furthest from their respective peaks (ditto commodities) and the common driver being concerns about a global recession being lead by the US housing market, the answer to the decoupling question today has to be that decoupling is far less of a reality than many had believed (or hoped).

My own take back in January has, unfortunately, proven to be optimistic in so far as the financial markets are concerned. Even more unfortunately, the financial meltdown is beginning to show signs of spreading to the rest of the economy. Corporate insolvencies, job cut backs and salary reductions (mostly through bonus reductions) are happening in Hong Kong already. Property prices are following equities (although not as dramatically). This is a global phenomena - whatever decoupling has happened in the world's economies it has not been enough to insulate the rest of the world from the global deleveraging that is taking place.

Saturday, October 25, 2008

Book Review: Understanding Asset Allocation

Asset allocation was one of two investing topics which I had resolved to learn more about some time ago. I picked Victor Canto's "Understanding Asset Allocation" from several books on the subject at my local books store not only because it came with solid recommendations (and not just by those whose reviews were printed on the dust jacket) but also because it was the shortest of the choices available. I was hoping for a relatively light easy-to-read introduction to the subject.

While I did find Canto's take on the subject interesting, it was heavier going that I had hoped for. I put this down to an expectation issue on my part rather than a criticism of the book.

On the whole I did get a good introduction to an important subject. Canto explains different asset allocation models (strategic asset allocation and cyclical asset allocation) clearly and supports them with historic case studies showing how the different models worked in different market conditions. The major take away I took from this book was the importance of anticipating and participating in asset cycles. Of course, this requires an ability to successfully cycle into the asset classes which will outperform during the following period of time (usually measured in years) and to avoid the asset classes which are likely to underperform.

One of the more interesting points raised is Canto's view on the debate between active and passive fund management. In Canto's view active management tends to (or perhaps has a better chance of outperforming) during small cap cycles while passive managment is the better option during large cap cycles. I wasn't wholly convinced as too much seems to depend on your choice of active fund manager, but in spite of my reservation, Canto presents a reasonable amount of data to support his views.

While the explanation of asset cycles was useful and something to consider in my investment decision making going forward, two issues remain.

The first issue is a practical one. Outside the United States, the ability to invest in low cost funds which track the relevant indexes is quite limited. Certainly, there is nothing available in Hong Kong that would enable the type of diversification and asset allocation that Canto describes to be implemented.

The second issue is a conceptual one. If asset allocation is a methodology that in effect attempts to generate above market returns, by definition it is impossible for every investor to successfully implement. This does not mean that the attempt should not be made, but the bottom line is that for every investor who beats the market by cycling out of asset classes that will underperform and into those which will outperform, almost by definition there must be someone who, consciously or not, is doing the reverse.

On the whole a useful book that introduced my to another way of looking at asset selection.

Friday, October 03, 2008

Monthly Review - September 2008

A bloodbath.

September was the fourth successive month in which my investments declined in value. It was also the worst of the four months in terms of investment losses.

In financial terms, my investments declined sharply, the currency moved against me and my income fell (again). To add to the pain, HIBOR jumped by about 1% which has increased the cost of some of my mortgages and the banks have finally reduced the mortgagee values of Hong Kong residential prices.

In effect the rise of emerging markets, the rise in Hong Kong property prices, the rise of commodities and the fall of the USD which had combined to work so strongly in my favour for four years have all gone sharply into reverse.

Here are the details:

1. my actively managed funds all lost money. I am now holding losses on all of them. I currently have investments in actively managed funds investing in Thailand, Taiwan, Eastern Small Companies, European Small Companies and Vietnam;

2. my equity ETFs all lost money. I currently have exposure to Hong Kong and India;

3. my residual equity portfolio lost money local currency terms and lost more money due to adverse exchange rate movements;

4. my commodity investments lost money/ Fortunately, I only have positions in nickel and lean hogs left and these are very small (even smaller now that they have declined so far);

5. I have one vacant property (which will be occupied in two weeks time). However, the remaining properties are all fully rented and the tenants are paying the rent on time. I have both a positive cash flow and a surplus of income over expenses (which represents an increase in net worth). I also got stuck with two large bills (i) to touch up the vacant flat and (ii( to replace two air conditioning units in another property;

6. currency movements were adverse as the USD strengthened and compounded the loss on my investments this month.

The only investment made this month was a profitable day trade in warrants linked to the Hang Seng Index. Regrettably, the amount involved was insignificant.

My income declined during the month and is expected to decline further over the next few months. My spending was in the moderate. The resulting savings did not even come close to matching the losses on my investments.

For the month, my net worth decreased by 4.08%. The year to date increase is now a very anemic 1.85%. There is now a very real possibility of my net worth showing an overall decline for this year.

Looking forward, a slowing global economy will continue to impact my earnings and I have revised my estimated income down again and expect my monthly income to be 15-20% less than its peak earlier this year. Unless I decide to cut back on living expenses, this will result in a reduced savings rate in the future.