Given the flood of advice from a whole host of residential property spokespeople that now is the right time to buy property, can this be seen as valid or is it simply simply self-serving?
Many investors are now divesting from volatile assets such as shares to more tangible asset classes, especially property, as a hedge against inflation and to protect values. They are starting to build up property portfolios which a decade from now could be very valuable and this is happening not just in South Africa but in many European countries.
There is, however, a danger that these enthusiastic newcomers to the property scene will ignore some of the fundamental rules which should be observed to achieve success but which, if overlooked, can lead to serious problems and destruction of shareholder value.
The first of these is the “absolute necessity” of accepting that property investment should not be seen as capable of giving a ‘quick buck’ return. It has to be seen as a medium to long-term investment in which the income stream is more important than any short term capital gains.
The old saying “Your profit is in the purchase” is totally relevant here.
These considerations are especially relevant right now because of the uncertainties as to how the global economy will function in the year ahead - there are still too many obstacles to be overcome and questions to be answered, particularly in the Eurozone.
It is always wise to invest in property in recessionary or uncertain times because nothing is safer than bricks and mortar – even if for a time they give low returns, as will most other investments. Once you have accepted that property is not a “quick buck” asset class, the second rule to be observed is "select the right location".
Certain areas are clearly on the ascendant curve, while others are on the way down. This is particularly true in the lower end of the property ladder where demand still outstrips supply. Many areas are now increasing rapidly in value and gaining popularity. Try to identify them, checking whether they are served by public transport, schools, and other essential infrastructure projects, because these can be decisive in adding value.
The third rule, already suggested above, is that the new asset should from an early stage be able to produce a positive cash flow. Buying to achieve a profit “down the line” is no game for small investors and he stresses, again, those who focus on capital gain are unlikely to be rewarded in today’s market.
Ideally,the new purchase’s rent should cover its bond payments from day one but, if that is not possible, at least within 12 to 24 months.
To achieve a satisfactory return early on it is essential to avoid overcapitalising on your property. One should look at as many properties as possible until you find a real bargain and then exercise considerable restraint in going about improvements initially. These may be possible and wise two or three years later when the income stream is rising.
The fourth piece of advice is “diversify”. Diversification reduces risk. Those who accept this often work on building a portfolio by buying one property per annum and, in their portfolio, they try to be in a wide variety of areas and in different types of property, e.g. both residential and commercial.
Rule five is: once your investment is up and running, avoid the temptation to plunder it by drawing on the equity via an access bond. Never forget that the reason for investing is to build capital – from which you can earn an income. Shun those temptations to live an unsustainable debt-ridden lifestyle.
Similarly, try to avoid sophisticated, complex, and expensive legal structures such as trusts, companies, and syndicates which are quite likely not only to be complicated but also subject to a higher tax. The best results, he says, are obtained by single ownership. If possible, do not invest with family and friends as this can lead to acrimony and family breakups down the line if and when things do not go to plan. In general, beware of those clever financial schemes, sometimes linked to your property, sometimes not. In recessionary times, they are all too often the first casualties.
Rule six is, as far as possible, to use the bank’s capital not your own: always try to obtain a 100% bond and keep your capital for those bad times when repairs or non-paying tenants make extra resources essential.
It is not altogether accidental that up to 30% of the assets of the world’s richest people are in property.