A very narrow gap between gross rental yields and mortgage interest rates is a buy signal for investors.
The patient property portfolio
There are activities, say driving a car or watching young kids by water, that require continuous and focused attention. There are other deeds where over-attention is counter-productive: opening the oven to check the soufflé or touching a new coat of paint to see if it has dried.
Good financial investment practice demands opposing qualities – the highly focused intensity and the patient inactivity – from us at different points of the process. Initially, a prospective investor must be fully engaged if they’re not to be deterred from action by obstacles such as the fear of losses, the arcane language used by finance professionals and the bewildering choice of assets.
However, once an investment strategy has been formulated and put in motion, the smart investor knows it is wise to step back and give the plan the time to work. This ‘set and forget’ approach recognises that assets values are often volatile, and paying overly close attention encourages too much costly churn of assets without improving overall returns.
This is especially sensible when it comes to real property assets given the high transaction costs involved. By illustration, in most parts of Australia, switching from one $1m property to a second $1m property can comfortably consume around $100,000 or ten per cent of the capital through agents’ fees, taxes, marketing, search and due diligence costs.
But it’s increasingly difficult to take a benign neglect approach to our asset holdings in our real-time data-driven world. Rarely a day goes by without some house price statistic assailing our senses with the amount of capital growth – this year, this quarter, this month. It takes super-human discipline not to check the full-page newspaper tables on how your suburb has fared in the last quarter, despite aggregate suburb-level data generally having little instructive merit about how your particular property has performed.
There’s a couple of steps one can take to stop property investment from over-intruding into life. First, engage a good property manager to take care of the day-to-day running of the asset. Second, schedule a portfolio review every 12 months. The knowledge that you have a date in the diary to review your assets’ performance is the permission slip to largely disregard it for the other 364 days a year.
Naturally, most owners see a portfolio review as a time to ascertain and evaluate financial metrics: namely current value, the level of capital growth and income versus costs. A valuer can be engaged to calculate current value and rates of return but for the purposes of this exercise it is probably sufficient (as well as cheaper) most years to instead garner a rough estimate of value by finding sales of comparable properties in your locality and to use rate-of-return calculators off the internet.
Of course, one needs benchmarks to judge the outcomes by. Ideally, these should have been established at the time of purchase. As proponents of capital growth orientated property investment and holding assets for a minimum of ten years, we’re looking for growth of around 7% a year – or a property doubling in value every decade. Of course, growth is never linear. The property market has great years, awful years and indifferent years so one shouldn’t read too much into the growth rate in the earlier years. At a minimum, give a property three or four years grace before letting it go even if performance is weak and perhaps as much as five years if performance is modest.
The annual review should encompass other functions. Review your insurances to check that the cover is still sufficient in light of any changes in property or contents value, and to see if you can obtain a better deal from another insurer. Similarly, it may be worth talking to your mortgage broker to determine if you can secure a better interest rate. It’s also the time to put a call into your property manager to hear their analysis about how the asset in their care is tracking, what if any repairs or improvements are required, their recommendations for rent changes and the state of the relationship with the tenant. Of course, this discussion also allows you to judge whether the property manager is on top of their brief or whether you need to manage them closer – or even show them the door.