Plunging rents hit residential property investors

Plunging rents a worry for property investors

Rents falling faster than prices in Perth and Darwin is a “draconian dilemma” for investors. Photo: Dean Osland

DUNCAN HUGHES    13 March 2015  Australian Financial Review

Rents are falling faster than house prices in one-time boom residential property markets, creating a “draconian dilemma” for investors of over-priced properties as well as massive over-supply.

Darwin and Perth, superstar property markets during the 10-year mining boom, are reeling as the slowdown is worsened by a sharp increase in housing that started about three years ago.

House rents in Darwin over the past 12 months have plunged by 16 per cent as prices fell by about 1 per cent. Perth, which has a more diversified economy, has posted 7 per cent falls in house rentals, as prices fell by more than 2 per cent.

Yield, which is measured by dividing the property price by rental income, falls as prices rise.

But it can also fall when a landlord cannot find a tenant, or has to slash rent prices because of excess supply and falling prices.

The end result can often be long periods of negative equity, which happen when the market value of a property falls below the outstanding amount of a mortgage secured on it.

Darwin and Perth contrast with Melbourne and Sydney, where jobs, prosperity and confidence – some claim irrational exuberance – contribute to high, single-digit price rises and reasonable rents. Australian and overseas investors are bidding up prices in the hunt for assets that provide better returns than record low interest rates.

THINK LONG TERM

Contrasting fortunes of Australian east coast capitals and the nation’s other large cities highlight the need for investors to think long-term, be flexible and buy quality property that will attract, or retain, tenants in good times and bad.

Louis Christopher, managing director of SQM, a property research company, says the overall national scene is “fairly stable” but rents falling faster than prices in Perth and Darwin is a “draconian dilemma” for investors.

“The difference between the cost of borrowing and average gross rental yield has remained the same in the past two years, which means there has been little difference in cash flow [for investors],” he says.’

David Simon, a partner with BT Advice, an advisory group owned by Westpac Bank, says building approvals during January were five times higher than predicted by market analysts, suggesting a steep step-up in supply.

“Apartments are getting more expensive to buy [in Melbourne and Sydney] and returning less cash flow through rent,” Simon says. “Investors may be paying too much and [residential] property investing looks increasingly high-risk,” he says. “Don’t get in over your head by borrowing too much or over-capitalising. Work out which property is best for your investment profile, rental returns and projected capital gains.”

Christopher says approvals are broadly in line with long-term trends, with surprise increases caused by large projects.

Tony Bates, an independent adviser for high net worth families, says: “It is about buying the right asset. That means you need to buy where the tenants are going to be and remember you are buying an income stream.”

MINIMISE RISK

Other property sectors, such as commercial, retail and industrial, also need to be considered more selectively to minimise the risk of being caught in a correction, fund managers with billion-dollar property portfolios say.

Michael Kingcott, head of property for AMP Capital, the diversified financial services giant, says there are still terrific opportunities for investors, particularly in Melbourne and Sydney’s central business district office markets.

Kingcott, who oversees the management of about $17 billion in diversified property funds, says a big rise in borrowing by buyers, or another cut in interest rates, could lead to better returns in the sector this year and next.

“But given the cycle is closer to the top than bottom, investors must be disciplined to minimise downside risk,” he adds.

Richard Wakelin, director of Wakelin Property Advisers, says yields “can go into the doldrums”. But this underlines the need to buy quality real estate with some unique attributes, such as being close to transport, shopping and other attractions.

RETAIL LESSON

A former Melbourne food and fashion hub highlights the problems confronting many investors considering diversifying from residential to retail property investing.

The reputation of Richmond’s Bridge Road as a fun, funky shopping strip has faded as trendy tenants are forced to quit because of high rents and low patronage.

The fall in property yields from about 5 per cent to less than 3 per cent has been exacerbated by the struggle to find new tenants to fill empty shops.

Owners’ overall returns have been shielded by 20 per cent-plus growth in local real estate prices during the past 12 months, which continue to hit new highs as the once working-class suburb has been gentrified by successive communities attracted by its character and proximity to the city.

But falling rents and a swathe of empty shops are depressing returns for yield-hungry investors, some of whom need rental income to pay the mortgage.

Dan Bradley, manager of Messieurs, a menswear shop that expects to close about Easter, blames the downturn on the lack of parking, new-generation tram stops that take up half the road and nearby direct factory outlets.

“No one seems to be coming to Bridge Road any more,” Bradley says.

Some tenants are refusing to take long leases, in a bid to contain losses if their business begins to struggle.

By contrast, Swan Street, which runs parallel to Bridge Road, has been rejuvenated as former Bridge Road tenants relocate there because of lower costs.

Bridge Road Traders’ Association has been working with the council to find ways of bringing back the crowds, including turning it into a medical precinct around a hospital.

A recent think tank has offered a range of options to the council aimed at rejuvenating the area.

It’s a familiar story in other Australian capitals, such as Oxford Street, Paddington, where shoppers and diners have deserted once-bustling retail hubs.

Chris O’Shaughnessy, director of real estate agent Biggin & Scott Richmond, which is based in Bridge Road, estimates there are nearly 60 vacant shops in a two-kilometre strip east of his office.

O’Shaughnessy, who employs about 40 people, believes the council could do more to help shop owners by making it more accessible, with, for example, improved parking.

His expanding business moved recently into an adjoining shop that had been empty for several years.

Original article here 

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