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The COVID-19 pandemic has changed the way we work, live and certainly how we invest in property.
The current market presents a unique opportunity for savvy investors to purchase their first or next investment property.
But I warn you, not all properties make good investments.
It’s not simply a case of picking a property and renting it out – sure you could do that but that doesn’t make particularly good investment sense, as not all properties are “investment grade” – ones that will provide you with wealth producing rates of return.
Fact is if you want to be a successful property investor there needs to be more strategy involved than that.
Instead, here are my top tips for choosing the right investment property.
Which property is good for investment?
A good investment property should be able to give an investor excellent returns in the future, not only in the form of capital growth but also in the form of rental returns.
So it’s important then that an investor is able to maximise investment return by selecting the right property for investment.
Here are 6 characteristics I look for in any investment (and in particular in real estate investing):
- Strong and stable rates of capital appreciation
- A steady cash flow
- Liquidity – the ability to take my money out by either selling or borrowing against my investment
- Easy management
- A hedge against inflation
- Favourable tax benefits
Investment properties vs investment grade properties: What’s the difference?
Less than 4% of properties on the market are what I consider ‘investment grade’.
Of course, any property can become an investment property.
You can buy a property, move out the owner and put a tenant in it and it’s an investment property, but that doesn’t make it ‘investment grade’.
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They’re the sort of real estate that property marketers and developers sell in bulk to naive investors, particularly those who buy “off-the-plan”.
But while these are marketed as investor opportunities, they aren’t ‘investment grade’ because they don’t have owner occupier appeal, they lack scarcity and there isn’t any opportunity to add value.
And when you look at all the fingers in the pie, including marketers, developers, advertising, referrers etc., you’ll find the price of most new properties is highly inflated.
There are so many investors sitting on these types of property who will never see a return from their investment.
On the other hand, what I consider ‘investment grade’ properties appeal to a wide range of affluent owner occupiers, are in the right location, have street appeal, offer security, have the potential to add value through renovations and also have a high land-to-asset ratio.
So now we know the characteristics of an investment grade property, let’s look at what you need to do to find one.
Because remember, not every property is worthy of being a great investment property.
1. Location, location, location
Location is integral to acquiring a good investment property.
In fact, it might not surprise you to hear that the location could do about 80% of the heavy lifting of your property’s capital growth.
In which case it’s clear that with the right location, the chance of gaining higher returns from your investment is far greater than if the location isn’t right.
By this I don’t just mean buying an investment in a suburb where there are multiple drivers of capital growth, or where the street has appeal (it’s quiet, well maintained, green or has a great outlook for example) but in a suburb which is also a short walking distance to key lifestyle amenities like cafes, shops, restaurants and parks.
Access to public transport has also become very valuable and will continue to do so in future as our population grows further, our roads become more congested and people want to reduce their commuting time.
Have you ever heard of the 20-minute neighbourhood?
The concept of having everything you need within 20 minutes of your property was popular before the Covid-19 pandemic appeared, but it’s even more prevalent now.
It seems that in our new “Covid Normal” world, people love the thought that most of the things needed for a good life are within a 20-minute public transport trip, bike ride or walk from home.
In fact, it’s more like the new gold standard desirable lifestyle.
And there’s even more you need to take into consideration when buying in the right location.
Given some suburbs will always be more popular, some areas will have more scarcity and some will have land which increases in value more than others, it’s important to buy an investment property in a suburb which is dominated by more homeowners than tenants.
Because, remember, suburbs with more affluent owners will often outperform the cheaper suburbs.
Because wealthy people don’t like to commute so they generally tend to live within 10-15 minutes drive from the CBD or water in most major cities.
The fact is, in general, the more established suburbs with better infrastructure, shopping and amenities tend to be close to the CBD and the water and that’s where the wealthy want to and can afford to live, and they’re prepared to pay a premium to live there.
So let’s break it down.
If you look for a location which has street appeal, within 20 minutes of amenities, close to public transport, and which is dominated by homeowners, you may just find an investment that outperforms the market and delivers strong value and growth over the long term.
2. Look for the right type of property
Once you’ve decided on a location, you need to look for the right type of property for that location.
Because when you’re looking for an investment property, you need to look for one which will be in continuous demand by both tenants and future home buyers.
One thing you should factor into your search is the appropriateness of the property for the average age of residents in the area.
What do I mean?
Find out the demographics for the area and determine what’s important for that demographic.
You wouldn’t want to buy a property with a lot of stairs in an area where the demographic is older.
You also wouldn’t want to buy a property with no living or outside areas in a place where the demographics mainly consist of young families.
Putting this extra thought into the type of property about its future demand is a great place to start when looking for an investment grade property.
3. Offer security
This partly comes under looking for the right location and the right property in that location.
But by being located in the right suburbs as well as having security features (either existing or a property where you can install these features) you might just give your property investment a little boost.
I’m talking about things such as gates, intercoms, alarms or even secure off-street car parking.
4. Focus on the returns
I’ve talked many times about how many property investors make the crucial mistake of letting emotion get involved in their property investment decisions.
It’s a mistake I’ve seen all too often.
Making a bad investment decision, or buying the wrong investment property, could see you lose out on capital growth or even monthly rental income.
In some cases, it could even see your monthly costs to maintain the property add up to be even higher than any income you get from it.
That just doesn’t make any investment sense.
It’s so important then that any investor looking to buy a property does so with potential returns at front of mind.
And I’m not just talking about rental yield here – investors who buy and invest for cash flow will never get the financial freedom that they’re looking for.
It’s clear then that capital growth should be the main focus of any property investor (as opposed to cash flow from rental income), at least in the short-term before they have built a sufficiently large asset base.
The key reason here is because capital growth isn’t taxed while rental returns are, and as your property increases in value, the rent increase will also generate more cash flow in turn.
Capital growth is a much more important driver of wealth creation than cash flow.
Sure you need cash flow to allow you to hold your portfolio for long enough so that the power of compounding of capital growth kicks into gear, meaning you must have a financial buffer to see you through the lean times.
This means you need to be careful about your cash flow and your ability to service your debts.
In the end, cash flow keeps you in the game, but it’s really capital growth that gets you out of the rat race.
Here are 4 ways a returns-focused property investor needs to think about:
- Capital growth: Does the property have a high land-to-asset ratio? Is it in a ‘good’ suburb or street? Is it close to amenities and transport? Does it suit the area demographic?
- Accelerated or forced growth: Is there potential to ‘manufacture’ growth by adding value through renovations or even development?
- Rental returns: Does the potential rental return cover your potential maintenance costs? (remember this is a secondary consideration and shouldn’t take priority over capital growth or accelerated returns).
- Tax benefits: Would the property put you in the position where you could benefit from things like negative gearing or depreciation allowances? (again, this is a secondary consideration).
5. Take a strategic approach
Last but most important is that you need to remember that property investment is a process, not an event.
And it’s a long term process. It’s likely to take you 20 to 30 years to develop a big enough asset base to give you the cash flow for the lifestyle you desire.
The difference between the average property investor and a strategic property investor is that most property investors find a property they like and then look for some data to justify their preconceived decision – this is an emotional decision and we all know emotions and investments don’t mix well together.
Instead, a strategic investor starts their investing process with a plan in place.
Here is my 6 stranded strategic approach to buying an investment property:
1 – Only buy a property which will appeal to owner occupiers
Why? Because owner occupiers will buy similar properties and push up local real estate values.
This is particularly important in the future as the percentage of investors in the market likely diminishes.
2 – Only buy a property below its intrinsic value
What do I mean by this?
An intrinsic value is a measure of what an asset is worth.
This means you need to make sure to only buy an investment property which is valued correctly, and avoid paying the current trading market price of that asset (which would likely be higher).
This is why I’d suggest to avoid new and off-the-plan properties which come at a premium price – you’re not paying the true value of the, and certainly not paying below it, but instead you’re paying an extra premium for the privilege.
3 – Only buy a property with a high land-to-asset ratio
The land-to-asset ratio is the proportion of the overall property value made up of the land component.
For example, if a property has a purchase price of $1 million, and the land value alone is $500,000, the land-to-asset ratio is 50%.
The point here is not to necessarily look only for a large block of land, but to look for a property where the land component makes up a significant part of the asset value.
Why is this important?
Because increasing land value is the primary driver of increases in overall property values.
In fact, in most cases, the dwelling itself would actually depreciate in value.
So it’s important to have a high land-to-asset ratio to make sure the investment will continue to increase in value – by contrast, a property with a low land-to-asset ratio could see a depreciation in value below what you paid.
Remember: land appreciates over time and buildings depreciate.
4 – Only buy in an area of strong capital growth
As I mentioned previously, location is a huge factor that could determine whether your investment property is ‘investment grade’ or not.
By buying in an area that has a long history of strong capital growth and that will continue to outperform the averages because of the demographics in the area including gentrifying areas, you’re setting yourself up for a great return on your investment.
5 – Only buy a property with a twist
By this, I mean that you should look for an investment property which is able to offer something unique, special, different or scarce rather than a cookie-cutter style of property.
Because after all, it’s those points of difference which create demand, and the more demand there is the higher the value will rise.
6 – Only buy a property where you can add value through renovations
Here we’re looking at properties that are able to manufacture capital growth through refurbishment, renovations or redevelopment rather than waiting for the market to do the heavy lifting.
This both supercharges growth in value and also protects you against periods of lower organic capital growth where you may see an investment property value edge up only slightly.
6. Work with the right people
The bottom line is buying the right ‘investment grade’ property is all about following a proven blueprint that successful investors follow.
This increases your chance of better financial returns and reduces your risks of getting caught out as our property markets move into the next, less buoyant stage of the property cycle.
It’s vital therefore that investors work with the right team of property strategists and buyers agents which are able to build the best plan for you.
And that’s how we, at Metropole, can help.
Whether you’re a first-time or seasoned property investor, we can build a customised and personalised Strategic Property Plan to help you make the best property investment decisions.
Because when you have a Strategic Property Plan you’re more likely to achieve the financial freedom you desire because we’ll help you:
- Define your financial goals
- See whether your goals are realistic, especially for your timeline
- Measure your progress towards your goals – whether your property portfolio is working for you, or if you’re working for it
- Find ways to maximise your wealth creation through property
- Identify risks you hadn’t thought of.
And the real benefit is you’ll be able to grow your wealth through your property portfolio faster and more safely than the average investor.