3 risks ahead for mining town investment properties

Louis Christopher of SQM Research has highlighted a worrying trend towards increasing vacancy rates in a number of mining towns. In this article on Property Observer and also here on Bloomberg, some of the larger recent rises were identified in Port Hedland, Karratha, Gladstone and Roma.

Investors in property are usually wise to seek out areas where vacancy rates are low as this can drive up rents and property prices. Interestingly, while Melbourne (2.6%) and Hobart (2.0%) recorded higher than the national average vacancy rates in March, other capital cities showed lower than average vacancy rates which in part explains why prices have been forced up a little since the middle of 2012.

Terry Ryder of Hotspotting highlighted on Property Observer how vacancy rates in Queensland’s Bowen, which he tipped for growth in 2011, 2012 and a few times in 2013, have leapt alarmingly, up to 18% according to local reports.

Bowen, although in a region influenced by coal mining, is not a pure mining town per se. I haven’t visited the land of the Big Mango since 2011 so any observation from me is valueless, but one assumes that the vacancy rates are largely related to seasonal agricultural work and fruit-picking, and so may only be temporary.

It’s all too easy to generalise when it comes to mining towns; rather they are to be assessed on a case-by-case basis.

As someone who grew up in South Yorkshire where mine closure after mine closure devastated our pit villages mining towns are not for me,  but if you’re going to invest in mining towns here are three of the risks to watch out for:

 

Risk 1 – Transition to production

In the resources sector it is often the case that the construction of a project is a highly labour-intensive business. But the operational phase is often a significantly less labour-intensive affair than the construction, and thus the property market dynamics duly shift.

Consequently, property investors need to be vigilant regarding projects approaching construction completion and be certain that demand for rental property will remain high. This is particularly pertinent at this point in time as the mining construction boom is finally reaching (or possibly has reached) its peak, with capital expenditure looking set to decline markedly in the 2013/2014 financial year and beyond.

A number of planned major projects or extensions have not received green ticks and therefore the decline in capex investment may accelerate faster than previously expected. Paradoxically, it is this very data set below which dictates that the next move in interest rates will be down, which in turn is likely to lure further property investors into the markets.

Throw in a benign CPI print on Wednesday and another weak Labour Force report on May 9 and the cash rate cut to a record low 2.75% could even be as soon as June 4…

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Source: ABS

 

Risk 2 – Commodity price collapse

Where a town is reliant on a single project which is highly exposed to one commodity price, be very wary. Certain commodity prices have been slammed over recent months, so you must tread only with precision.

As a former Group FC in the wonderful world of South Australian copper mining, I often cocked half an eyebrow at pundits promoting Adelaide property by talking up BHP’s ambitious Olympic Dam open-cut expansion. Sure enough, it was postponed indefinitely in August 2012.

Some experts have been tipping Adelaide for years now, particularly the cheapest quartile of the market, but RP Data reports that prices in the most affordable sector of that market are miles off where they were back in 2010, down some 10%. In fact, of the capital city markets only Sydney’s middle market has pushed on to new heights by around 2.4%, in particular unit prices which reached a new peak way back, almost a year ago.

To be fair, vacancy rates have fallen to just 1.3% in Adelaide so perhaps better times lie ahead, I don’t know. But as I note here, South Australia is treading through some very choppy waters right now.

Now for sure, there is more to South Australia than Olympic Dam (and indeed resources – healthcare and defence, for example), but be mindful and remember to be healthily sceptical of areas with land potentially available for release.

The manic-depressive Dr. Copper is looking borderline suicidal at the moment (we call him Dr. Copper because he is the only commodity whose price reflects a Ph.D. in economics for predicting turning points in the global economy).

Is the copper spot mooching around down at US$3.12/lb partly reflective of increased warehouse stocks? Hmm, possible, but unlikely. Or is the market price reflecting an expected substantial weakening in demand? Much more probable.

As for investing in property in a uranium mining town…well, if that’s your life’s calling and that commodity gives you a warm glow, then that’s your lookout. Personally, I (literally) wouldn’t touch it.

 

Source: Kitco

 

Risk 3 – Land release

Another area that sees much press is the Pilbara region with its sky-high rental high yields and stratospheric  median unit and house prices. I don’t pretend to be able to predict the future, and again I haven’t visited the region in two years, but there is an inherent risk in such regions of land release (South Hedland, Karratha…) impacting prices.

With regards to the Pilbara and manic-depressive commodity prices, refer to Risk 2 above. If you buy property where median prices are already very high, then this must surely elevate investment risk, for a key element of the return on any investment is the entry price.
There is perhaps no more manic-depressive commodity price at presents than iron ore, and while Fortescue might tell you that the outlook for the commodity is bright enough (well, they would – FMG is one mightily-leveraged iron ore play after all) most commentators forecast that the price will recede.

In my opinion, the very point at which Australians sail merrily over the crest of the mining investment wave (cliff?) is a poor time to borrow other people’s money for speculating in a mining town property.

You’ve been warned.

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Pete Wargent

About

Pete Wargent is a Chartered Accountant, Chartered Secretary and has a Financial Planning Diploma. He’s achieved financial freedom at the age of 33 - as detailed in his book ‘Get a Financial Grip – A Simple Plan for Financial Freedom’. Pete now manages his investment portfolio, travels and works as a consultant in the finance industry from time to time. Visit his blog


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