In recent weeks I have noticed something interesting when sitting with potential clients.
More specifically those who are existing homeowners and perhaps have one or two investment properties.
Their homes have performed strongly on most occasions, but in many cases, their investment properties have struggled and in some cases, fallen behind.
It got me thinking, “Why does this happen so frequently?”
In my opinion, while there may be many factors to consider when buying a property, many investors appear to overlook some basic fundamentals.
Interestingly, it is the exact same fundamentals that most investors would look for when they buy a home, but when they invest somehow they do things differently.
If they had taken a similar approach to the way they bought their home, they would likely be in a better position financially and would likely have accumulated more property and therefore more wealth.
So, what are some of these fundamentals that are being overlooked?
1. Supply and Demand
I always advocate buying in locations where demand substantially outweighs supply.
That is why we favour our bigger capital cities, with a multitude of large-scale employment hubs, creating tens of thousands of jobs.
This in turn creates greater demand for housing, as most people want to live as close as reasonably possible where they work and avoid long commutes.
That is why we favour the inner to middle ring suburbs of Sydney, Melbourne and Brisbane.
Importantly also, you will also notice that there is virtually no supply of vacant parcels of land yet to be built on or developed.
The number one rule when investing in property is getting the location right as it will do 80% of the heavy lifting.
Then, when digging a level deeper, it is equally important to finding the right type of property within that location.
In recent times there has been an oversupply of apartments in our inner-city capitals.
Many investors have overlooked these fundamentals in favour of secondary considerations like cash flow or tax benefits and have paid a heavy price.
And it’s really been the same in areas with house and land packages, which have also underperformed in areas where the supply of land is high.
2. Land to Asset Ratio
If you purchased a property for $1million, what part of this property is rising in value?
Probably 100% of people surveyed said the land and they would be 100% correct.
Understanding that it is the land that will be increasing in value is another critical fundamental, as it is not the size of the land under the house but rather the value of that land we look at matters.
Equally important is understanding that all types of properties have an “intrinsic” land value.
If that property we just purchased for $1million was a house, I would want to know what the value of the land is and make sure it was greater than a minimum of 50% – 60% of the purchase price.
I know in Brisbane, with a $1million purchase, we would want to make sure the land value was at least $700,000 – $800,000.
If it were a House and Land Package in an outer suburb, quite often you will find the house value outweighs the land value, which means the biggest part of your asset is depreciating or losing value.
It can be a little more tricky to apply this principle to units, however, you can imagine that a boutique complex of 6 or 12 apartments will have a greater land value attributable to each unit than a complex of 300.
3. The 20%
Now that we have the 80% right, which I see as the cake, we can turn our attention to the icing.
This can be made up of a number of ingredients:
- Top Schools
- Lifestyle Precincts / Walkability
- Public Transports
To make this icing taste sweet, you need ALL the ingredients working in your favour.
Home Buyers understand this as they do not want to compromise on where they live, but investors are willing to make exceptions.
I often hear investors say that I am investing in “Suburb A” because there is a new university/train line/hospital – something that is a once-off.
While it may have one or two other ingredients, it does not encompass the vast majority.
As an investor, act as a home buyer and do not break the rules.
4. The “Do Not Buy” List
Equally as important as a “must-have” list for these fundamentals is also to have a “do not buy list.”
Once again, something homebuyers are very good at sticking to but tend to overlook when they invest.
I am sure I am not alone when I say I would not consider living on or backing onto busy main roads and train lines.
Neither would I consider properties where apartments are being built or have the potential to be built around me.
I also do not need the hassle of dealing with floodwater and stormwater.
I am sure you can think of many other things to add to the list.
In short, you want to have as many people wanting to buy or rent your property as possible, this is another way of saying high demand.
If you start buying on main roads or flooded areas, you will rule out many buyers or tenants and will not get the above-average rates of return to build your wealth faster.
If you are investing in property, perhaps you should start seeing things through the eyes of a Home Buyer.
Many people I sit with have had their homes increase at a rate 3 or 4 times faster than their investment properties.
It is something I am coming across now on a regular basis.
Rather than sticking to some very basic fundamentals, they get side-tracked by a media headline, chasing cash flow or a so-called “property expert’s” opinion.
Often, they focus on a potential solution to their short term needs or ideals and make rash decisions on a longer-term purchase.
If they had stuck to their instincts and reinforce what they already knew, their chances of growing their wealth would be far greater.
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