The Downside to Capital Growth

Huh, downside?

Yes, there is actually a downside to a location performing… the downside being that you tend to see rents flatten out. Let me explain how the cycle works:

When a market has peaked and buyers start to disappear, land developers and high rise unit developers tend to stop any new developments they have in the pipeline. The reason being that when they purchase a farm or paddock, there is one set of council rates. But should they finish the subdivision of say 100 blocks for 100 new homes or build a unit complex with 60+ units, they must then pay council and water rates for all the new properties. So if the buyers have disappeared, this makes no financial sense. So, they hold the DA and let it sit in limbo. Many will try and on sell the DA (Development Application) approved block to other developers who may not be as astute to the market place as them. Generally, out of area buyers.

So as the years tick by, fewer and fewer new dwellings are built. But the population keeps increasing. Slowly, but surely, the vacancy rates start to tighten. This continues until we see a shortage in available properties and rents start to increase. It’s a simple under supply, over demand scenario. Prices have also flattened and decreased during this time due to the lack of buyers. So whilst prices decrease, rents increase and we start to see attractive yields again.

Now the astute investor is already seeing the signs here and buying up all the bargains. And yes this is wHere I invest – wHere nobody else is!

As time ticks on and buyers start to see the signs, they start to do their due diligence on both the new perceived price point and rental yields available. I tend to find that this “due diligence” period takes between 3-6 months for most investors. This is my prime time for bagging a bargain.

After this due diligence period ends, properties start to sell and so starts a new upward property cycle. As the market starts to warm up, the first thing to occur is when what I call “dead wood” stock sells quickly. Now, dead wood properties are the properties that have sat on the market for a very long time, over 100 days. They are generally houses that require a considerable amount of renovation work to bring back to life. Examples are cluttered properties or houses with overgrown gardens. That said, some of these can be your best buys as many buyers will look to invest with their “love eyes” on. They make decisions on investing with the view of – “well, would I live in this?” And that’s a huge mistake.

Now the market is in full swing, the reverse of what happened in the dead part of the cycle. Developers either re-ignite their old DA’s or process new ones. So as the market gets going, along comes a whole bunch of new properties being sold Off the Plan. The developments can take anywhere from 12 months to 3 years to complete. This depends on whether they are House & Land packages or High Rise Units.

The interesting twist to this scenario is the current market place we see ourselves in now. We are currently in chartered waters. Never before have we seen cooling markets in Sydney and Melbourne with the lowest interest rates in history of Australia. For this reason, we are still seeing a whole bunch of activity with many houses selling. But what we are not seeing are the huge record sales prices we were seeing a year ago.

The real winners of this will be Brisbane, Gold Coast and the ACT whose property cycles are just getting into “Hot” mode, right now. Watch this space on these locations over the next 12-24 months for some pretty impressive capital growth figures. And Perth will see a faster return to the upward cycle than usual because of these conditions. Gee, did I just give away wHere I am investing?

As we have all seen and experienced, there has been a huge influx of building going on all around Victoria, NSW and QLD. The developers and builders cannot build fast enough to satisfy the volume of property buyers in the market place. But what this does, is then balance out the supply verses demand ratio. As a result, the rents then start to stagnate due to more available properties to lease.

As the market continues more and more, new stock comes onto the market and throws the balance the other way. Meaning we then start to see many vacant properties and vacancy rates start to rise upwards of 2% towards 3%. And this is where we start to see a correction in rents. It’s at this time investors need to be smart and keep their tenants in their property and not try to increase the rents they are receiving. Going further on this, we then see markets like high rise units where thousands too many are built. This results not only in huge vacancy rates and dramatic rental decreases, but also property values decreasing. This is occurring in Sydney, Melbourne, Gold Coast & Brisbane right now. Perth is also seeing this in large volumes of properties being built but an end to the mining Boom not seeing the influx of new people coming to the state anymore.

Now, depending what type of investor you are, flattening or reduced rents can be the downside to capital growth.