Snapshot: Capital Growth vs. Rental Income
Having worked in the investment space for quite some time, I am always fascinated by my clients need to invest. As I mentioned in one of my previous blogs, not every investor is the same, so it is extremely important for me to identify and source the right product that is going to fit within the strategy at hand. Any investor will tell you that growth and rental income are the engines that will keep your investment moving, so it is vital to understand which is aligned with your short- and long-term goals.
Capital growth or (capital gain) as some may call it, is essentially a long-term investment strategy whereby an investor is willing to wait anywhere between 7-10 years, sometimes even longer, to see significant results from their property. The right approach is to purchase in an area that has not yet reached its potential with the goal to sell in the future.
So many times, you hear people say; ‘I wished I had bought that house years ago’. My Father experienced this in the late 90’s when he nearly purchased in the suburb of Altona, situated 13km south-west of Melbourne’s CBD. He felt that the suburb was far too close to the oil refinery (funnily enough it still is) and believed no one would want to live there. What he didn’t consider was the proximity to the city, road and transport upgrades and its leafy streets so close to the beach!
The median house price in 1997 within the Altona catchment area were just shy of $100,000. In today’s market the ‘median price is $840,000, with an annual growth rate of 6.70% (Source: Your Investment Property Magazine).
Many investors start their property journey by opting for a cashflow strategy, whereby their main goal is to have an investment property that is going to deliver strong rental income. The thought of an investment paying for itself, especially early on, can put an investor ahead as they experience very few out of pocket expenses.
The additional income received can be used in numerous ways such as: paying down the home loan, investing in the share market (if they wish to diversify) or even support their lifestyle. I have seen many clients successfully access lending to acquire further properties, as banks tend to be more comfortable in providing finance for customers who have a cashflow positive portfolio.
For this reason, you might hear people say that they are “chasing a good rental yield” because they have identified the advantages of holding an asset of this nature. The way to measure rental yield is as follows:
Let’s say your property is worth $600,000 and you are receiving $600 per week in rent, the gross yield will be 5.2%, this is calculated by multiplying the weekly rent by the number of weeks in a year (52x$600=$31,200) over the market value of the property ($31,200/$600,000 x 100 = 5.2%).
The below table provides a good snapshot of the median rental yield across our major cities for both houses and units:
If your plan of action is to seek an investment property purely for rental returns, you need to remember that there are other factors that can affect your rental earnings. Such as taxes on the additional income you are receiving, and potential rate increases which can lead to a lower rental yield. It is also worth noting that investing in areas that are heavily reliant on one type of industry can lead to disaster, as we saw in Western Australia during the mining boom. We witnessed house prices plummet; many investors were left with empty properties with no tenants in sight. ‘In July 2012, the median price for a house in East Pilbara was $880,000, in July this year that figure had significantly dropped to $170,000, a massive 80.5 percent slump’ (abc.net).
In conclusion, when it comes to choosing between capital growth or rental income it all comes down to personal preferences and circumstances. At Alfy, we can work towards identifying the right investment strategy that suits your property plan, by focusing on your needs and working together.
Until next time,