Property remains the asset choice of the world’s wealthiest, from the Queen of England and Donald Trump to listed property companies and large institutional investors such as pension funds.
The buy-to-let property investment model remains one of the most effective ways for investors to build wealth. An investor simply acquires a well-chosen property in a carefully selected area that offers both strong rental demand and good prospects for future capital growth, using gearing (a mortgage loan), and then rents the property to a well-screened tenant. The rental income should cover most – if not all – of the property expenses, including the mortgage bond repayments. As the rental increases year after year, the property starts producing a monthly profit, which increases exponentially once the mortgage bond is paid off. At the same time, the property – if well maintained – produces capital appreciation year after year.
In essence then, with the right buy-to-let property, investors can build an ongoing inflation-linked annuity income stream through an asset that also generates capital growth, using very little of their own out-of-pocket money to do so, as the property is acquired with mortgage finance and the rental income covers the mortgage repayments and other property costs.
Despite the economic, political and social uncertainty in the local market, there are undoubtedly investment hotspots in South Africa that are delivering inspiring returns. As just one example, the Rawson Property Group Brackenfell Roslyn franchise recently reported that in these areas a typical three bedroom unit with a double garage in a new security estate sold for R1, 350, 000 a year ago. Today, just 12 months later, the price tag will be R1, 5 million. This means that such homes are appreciating at 11% per annum, a significant capital gain by any standards. In addition to this, the investors is receiving rent, in this case at R13, 500 per month. This means that from early on the investor’s rent will probably cover his monthly bond payments (depending on the size of his deposit) and the overall return after, allowing for taxes, levies and agent’s fees, will again have been 11%.
Nevertheless, the uncertainty and volatility in the local and global investment markets have underscored the importance of diversifying an investment portfolio to spread, and therefore reduce, risk.
Fortunately, the property sector offers great scope for diversifying an investment portfolio, allowing investors to tap into the income-generating and capital growth-producing ability of buy-to-let property investment in numerous different ways and across diverse geographies.
Strategy one – Offshore Buy-To-Let Investment
The tried-and-tested model of buy-to-let property investment works anywhere, from the established towns and cities in the UK, US and Australia, to the growing capitals of Kenya, Nigeria and Tanzania and other emerging markets.
While the South African market offers plenty of opportunities for excellent buy-to-let investments, this investment model will work as well, if not better, in countries with stronger currencies, and more stable economic and political environments, allowing investors to diversify their risk from the local market, while also benefitting from low interest rates in other countries for financing.
For South Africans considering a Plan B in light of the current developments in South Africa, an offshore property investment can present a double benefit. To boost their economies through foreign investment, a number of countries offer various citizenship-by-investment programs, providing a direct route to citizenship based on investments in property. South Africans looking to invest in offshore property can consider this model of investment not only to build foreign income and capital, but also to gain a second passport.
With your offshore property investment, the world really is your oyster. There are many locations to choose from in many different countries, and regardless of where you choose to invest, the fundamentals remain the same. You need to pinpoint a good property in an area that offers solid current and future rental demand, as well as good prospects for capital appreciation, and tenant and maintain the property professionally.
Investing offshore has become somewhat easier with effect from 1 April 2015. The South African Reserve Bank (SARB) increased South African residents’ foreign investment allowances from about R4 million to R10 million per calendar year, with an additional annual R1 million per calendar.
“With offshore property investment, the world really is your oyster.”
Strategy two – Commercial Property Investment
commercial sector of the property industry, although the numbers are considerably bigger. In fact, many investors prefer commercial property investment, for numerous reasons. These include greater returns; long-term lease contracts with fixed escalation rates; finance based on the value and returns of the property and the lease contract, not on the investor’s personal finances; less onerous regulation favouring tenants; and shorter bond periods which means a commercial property investment will come to maturity much earlier than a residential investment.
Commercial investing can range from super-large shopping complexes to corner stores, but can also include a wide range of other properties such as offices, shops, warehousing, hotels and more.
Of course, commercial property investment requires expertise and investors are well-advised to enlist expert assistance from reputable local property brokers to ensure they understand the market dynamics for a specific area, including the demand and vacancy rates for the various types of commercial properties. Financing a commercial property is also more challenging, with banks requiring larger deposits, a solid business plan and returns on the commercial property of at least 10 – 12%.
Not surprisingly, given the stagnant growth in the South African economy, the local commercial property market is currently subdued. According to the latest Rode’s Report on the SA Property Market, the performance of rentals in top suburban office nodes in Johannesburg is poor to modest. Rentals in Pretoria and Durban decentralised are faring slightly better, with the best performance coming from decentralised Cape Town. Growth in industrial market rentals are also well below the growth in replacement costs, and industrial rentals have contracted in real terms.
Nevertheless, in certain industrial nodes, tenant demand outstrips supply. Careful selection of the right property and the right tenant has seen numerous investors acquire excellent local commercial investments.
Investing in offshore commercial property is another option. Globally, and particularly in the US, investors prefer specialised investments in various subsectors of commercial property, including hospitals, hotels, cellphone towers or renewable energy assets such as wind farms. South African investors have access to very specialised offshore commercial investments, for example, in self-storage facilities or parking facilities, in fast-growing offshore nodes.
Strategy three – Listed property
Essentially, listed property companies are large-scale buy-to-let specialists operating mainly in the commercial property sector. Just like residential buy-to-let investors, listed companies acquire a property using finance (gearing) and then rent the property out to tenants, earning both an ongoing, inflation-linked income as well as capital growth over the long term.
Listed property companies are experts at the buy-to-let investment model and have professional teams who optimise every aspect of the property portfolio. It is no wonder then that the returns in local listed property shares and indices on the Johannesburg Stock Exchange (JSE) over the past five years and more have exceeded 20% per annum.
Investors can invest in listed property through Real Estate Investment Trusts (REITs) or Property Exhange Traded Funds (ETFs).
Listed REITs are regulated by legislation which requires excellent governance and reporting. For investors who want to back the winners in the listed property sector, a useful resource is the annual Investment Property Databank (IPD) Direct Property Investment Awards, which highlights superior fund performance, based on annualised results for the three years. The awards focus on property fundamentals and give a fair evaluation of the quality of stock, asset selection and management performance and reflect the underlying value of a property portfolio.
Investors who do not want to pick stocks can opt for Exchange Traded Funds (ETFs), which simply passively track the FTSE/JSE property indices, by exactly replicating the indices in terms of the number and weighting of the property shares held. Grindrod Bank’s PropTrax SAPY ETF replicates the FTSE/JSE South African Listed Property (SAPY) Index, investing in 21 of the top (measured by market capitalisation) property companies listed on the JSE. The Stanlib SA Property ETF tracks the same index, but with a low total expense ratio. The Grindrod Bank PropTrax Ten ETF tracks an index of the top ten listed property shares on the JSE, with funds equally weighted (around 10%) into each of these top ten property shares.
Experts warn, however, that listed property’s stellar performance locally is unlikely to continue indefinitely and caution investors to have more reasonable expectations for the sector’s returns going forward. At the current valuations, listed property is also on the expensive side. Nevertheless, while fundamentals of property companies may be weakening in the current economic climate, they are still solid. Investors are well-advised to consider investing in smaller property funds that offer better yields.
At the moment, the fundamentals in offshore commercial property are stronger and funding costs are lower. As a result, many analysts are now suggesting that global property exposure may offer better prospects.
Strategy four – Offshore Listed Property
Investing in commercial property offshore gives investors access to global income streams and also provides a Rand hedge. There are a number of local listed property companies with substantial global property holdings. Most focus on Europe, particularly Germany and the UK. For example, Intu Properties’ portfolio features prime UK shopping malls. Redefine International has a focus on Germany and the UK but also owns properties in Switzerland, the Netherlands and Australia. The Investec Australia Property Fund offers exposure to the Australian property market. MAS Real Estate invests in property in Switzerland, Germany and the UK.
A number of property companies listed on the JSE will provide local investors with focussed access to global commercial property portfolios, such as Capital & Countries Property PLC, with a portfolio of central London properties and Intu Properties PLC, one of the UK’s largest listed property companies, as well as New Europe Property Investments PLC (NEPI) and Redefine International PLC. There are currently nine unit trust funds that are classified as global real estate funds.
“Investing in offshore commercial property gives investors access to global income streams and also provides a Rand hedge.”
Listed companies invested in more ‘exotic’ markets, such as Eastern Europe, have been doing exceedingly well, delivering strong returns, such as Rockcastle Global Real Estate which invests in Poland and Zambia, and NEPI, which is Romania’s largest shopping centre owner, and has diversified into Serbian shopping centres.
Investors can also explore options offered by investment fund managers focussed on global listed property, such as Reitway Global. For example, the Reitway BCI Global Property Fund, which has been approved by the South African Financial Services Board, offers a exposure to a portfolio of distribution-producing global real estate securities. The fund is a South African domiciled, rand-denominated collective investment scheme investing in REITs and property-related securities via the asset swap mechanism. For a minimum R500 per month investment, it offers investors geographic, sector and currency diversification, moderate volatility and attractive yields.
Strategy five – Crowdfunding
A relatively new development, crowdfunded real estate investment allows many individual property investors to pool their funds and invest in a property investment opportunity or project. These investments are accessed via websites called CrowdFunding Portals (CFPs), of which there are many to explore.
Three property crowdfunding models already offer investors further diversification beyond geographical diversification, by raising funds for specific buy-to-let property acquisitions, for property development and for individual mortgages or buy-to-let loans.
Reputable CFPs combine relatively small investments from investors to acquire buy-to-let property, usually in a Special Purpose Vehicle (SPV) that is a limited liability company. Investors then own a share in the SPV company, which tenants and manages the property professionally, and investors then share in the rental returns and sometimes the appreciation.
This allows buy-to-let investors to diversify their risk by investing smaller amounts into different types of properties and across geographical areas. Furthermore, unlike an investment in, for example, a REIT, investors are investing in a specific property – not a pool of properties, which increases transparency and control, and saves on fees. And because most real estate crowdfunding platforms offer investors the functionality to monitor their investments online, investing in real estate becomes as easy as investing in stocks in publicly traded companies.
Crowdfunding can certainly add an interesting dimension to a diversified portfolio, especially for sophisticated investors. Nevertheless, crowdfunding investments should be approached with the same diligence and intelligence as any sophisticated investor would apply to any investment.
Before investing in a crowdfunded real estate project, ensure you understand the business, how and when you might get a return, and whether you will receive an equity share in the business or a regular dividend or interest payment. If you don’t know how to value an investment opportunity or to assess the risks involved, get advice from a more sophisticated investor. And, no matter how good the opportunity, never risk more than you can stand to lose.
Strategy six – Fix and Flip
For investors who prefer a more hands-on approach, a “fix-and-flip” property investment strategy could offer a lucrative alternative. It involves buying a run-down property in a good area and making an additional investment to renovate the property, which can then be sold at a substantially higher price. It is less risky than simply speculating on short-term capital appreciation, because the capital appreciation is not based on market factors beyond the investor’s control, but rather on adding value through a calculated investment in upgrading the property.
The key to success for a fix-and-flip strategy is to acquire a structurally sound but neglected property that requires mainly cosmetic fixes and upgrades, at a price discounted sufficiently to cover the costs of renovating, and in an area where demand exceeds supply to minimise the risk of not being able to sell the property at the required price after renovations.
Some renovations are relatively inexpensive and will add substantial value to the property once completed. For example, repairing leaks and repainting ceilings and walls, replacing worn carpets and scratched countertops, updating old light fittings and sprucing up an overgrown garden do not require large investments, but can make a massive difference to the property’s curb appeal and future sales price. In a neglected property with sound plumbing, a bathroom make-over or renovating an old, dated kitchen can substantially increase the value of the property.
The services of a property inspector are essential for investors who intend to ‘fix and flip’ or renovate and sell a property. An inspection usually takes about two hours and includes a full check of the interior and exterior of the home and outbuildings, including structural soundness; plumbing; potential problems, such as damp and subsidence; and safety hazards; as well as the crucial estimates of the costs to fix and repair problems.
This is essential investment intelligence for a property investor, ensuring that the investor does not end up with a property with problems that simply cannot be fixed, such as serious structural problems, cracks and shifts resulting from problems with the foundations or local geology; drainage, flooding or damp problems due to poor sitting; and signs of serious soil erosion or land slippage. It will also ensure that the discounted purchase price negotiated with the seller, plus the full cost of the necessary repairs and renovations, will not exceed the current average market value for the area, which will reduce the chances of selling quickly and getting a profitable price.
BY MONIQUE TERRAZAS