Strong rental yields accompanied by tightened housing supply

Posted by Luke Graham

When Blue Wealth Property considered entering the Melbourne market in 2014, the research team was briefed on two challenges Melbourne faced with regards to our research model. First, rental yields were notoriously low which could have a negative impact on cash flow ratings. Second, the internal size of newly constructed homes was tiny. In some cases, inner-city property developers were attempting to create a two-bedroom apartment from the space usually set aside for a one-bedroom apartment elsewhere in the country. Alas, we were fortunate to find areas and vendors in this market that were aligned with our stringent criteria.

Accompanying the perception of weak rental yields was a heavily reported belief in the existence of housing oversupply in Melbourne. In truth, this oversupply was unique to specific areas. Take for instance the infamous inner-city suburb of Docklands. The suburb was experiencing a rental vacancy rate of 8.8 percent at the end of 2013 and had reached an eye-watering 10 percent twice in the preceding 24 months. In contrast, Collingwood’s rental market was in significant undersupply despite being just a few short kilometres away. Collingwood’s vacancy rate has only briefly exceeded 3 percent once in the last decade. The sales markets also contrast with one another, where Docklands has experienced a correction since 2015, yet Collingwood has performed considerably stronger.

With the supply of new housing plummeting across the country over recent years, talk of oversupply has certainly dissipated. Recently, we discussed cases of Brisbane rental vacancy rates dropping to below-equilibrium (meaning that the city is effectively undersupplied). This tighter market isn’t expected to let up any time soon, with The Urban Developer recently reporting construction projections continuing to fall from already-decreased levels. Brisbane could be the hardest hit, with as little as 900 new homes expected to be constructed in 2022.

Our earlier concerns about rental yields have certainly been mitigated by the strong rental performance of our Melbourne projects. Helen, who heads Blue Wealth’s property management integration, reported an average rental yield of 5.36 percent in a recent West Melbourne project. It took an average of just 12 days to find a tenant, despite its proximity to Melbourne CBD and Docklands. This once again reinforces the importance of nuance when it comes to property markets. It also highlights the futility in tarring an entire market with the same brush.

A property investor with such a strong rental yield in this market will find themselves in a very comfortable cash flow position. There are various benefits to this, including the ability to hold the asset longer and building your portfolio faster. If you’re considering selling your asset, we would challenge you to consider why. Why would you sell an asset that is costing so little to hold? With the reserve bank cash rate expected to drop again in the face of COVID-19 uncertainty in the financial markets, it’s very possible property investors’ cash flow could benefit further in the short-medium term.

Posted by Luke Graham, on 17th Mar 2020