The Yield Shift

Posted by Daniel Joseph

For the past five years, property investors who have been brave enough to invest despite the biggest financial crisis of a generation have enjoyed almost utopian conditions, low rates, limited competition for properties and high yields among them.

Yields are a significant factor in property investment. From 2003 to 2007, a typical yield for a property was about 4 per cent. Anything above 5 per cent was considered strong. Post 2008, a fundamental shift occurred in property yields, and anything under five per cent was suddenly a bad investment.

This occurred for a number of reasons, the most significant being a market readjustment in new supply. Pre-GFC, developers needed a small percentage of pre-sales to start construction, and buying off the plan was far less common. Post-GFC, developers need 50-70 per cent of their project sold off the plan to start construction, something most people were reticent to do. This meant we had poorer market conditions with fewer buyers and more difficulty in the sales process. Little wonder approvals hit an all time low in 2008-09, resulting in severely constricted new supply and typical yields in excess of 5 per cent.

This recent property upswing, however, will cause a shift in yields back to pre-GFC levels. To think about this logically, you have now three forces working against you as an investor driving down your yield through the simple equation of supply and demand. Rates are lower and therefore more renters are now buying – decreasing demand. Investors have led the charge in this upswing, with investment loans as a proportion of total loans reaching the highest ever recorded level in October 2013 at a staggering 41.2 per cent – significantly increasing the supply of rental stock. Off the back of this developers are capitalising, with approvals at all time highs and sales being easier than ever to obtain – increasing supply. Developers are also finding, through a mix of stronger market conditions and council zoning changes, that sites are feasible when twelve to eighteen months ago they were not – further increasing supply for those ever-ready investors. If you want evidence of this, just take a look at how many cranes and building sites you can see around your city. It’s like this in almost every capital in the country; we are in a building boom.

Taken together, these factors result in increasing vacancy rates, which we have seen in ALL markets. This phenomenon is not isolated to new properties or new markets; it is happening in some of the most desirable and established markets in the country.

What should be remembered, before you all get fearful about a market of lower yields, is that, as an investor, a 5, or even 4 per cent yield when you are paying under 5 per cent interest is still costing less than $100/week. Also, with this increased demand, prices are shifting and, ultimately, growth, not cash flow, is what will make you wealthy. Add to this the power of leverage and compounding and there can be no doubt you are still investing your money in the right asset class.

So what we are experiencing is a shift back to the historical normal for yields. With rate increases forecast later this year, this will bring the market back into equilibrium. And what about continuing to invest in a market with higher supply? Well now, more than ever, the Blue Wealth philosophy of investing in the right asset comes to the fore.

Posted by Daniel Joseph, on 1st Apr 2014