Certain sectors of property market thrive and investors are taking advantage

A key danger for overseas investors can be a lack of local knowledge.

But will they be left holding the keys if the bubble bursts?

Property prices in Australia’s biggest city, Sydney, soared nearly 15 per cent last year, driven largely by investors wanting to snap up the attractive yields in apartments and houses. But an increasing number of foreign investors and holders of self-managed super funds (SMSFs) are also entering the property market.

At the same time, 11 per cent of property vendors sold at a loss – vendors lost close to A$500 million in the three months to the end of September 2013, not taking into account transaction fees, stamp duty, income or interest costs. The average loss per transaction, when compared with the purchase price, was A$62,726, proving more than ever that investing in property is not always, as they say, safe as houses.   

It wasn’t all bad news, though. Official interest rates in Australia were at their lowest in 50 years and close to nine out of 10 property vendors sold at a gross profit during the same period, averaging a gain of A$202,546, figures from research house RP Data show.  

 The appeal of real estate is not restricted to Sydney. New Zealand’s Auckland and cities across China have also seen huge spikes in property values. Auckland’s property prices increased 15.2 per cent, year on year, in 2013; in comparison, real estate values in New Zealand’s capital, Wellington, edged up by just 3 per cent. In Guangzhou and Shenzhen in China, new home prices rose by 20 per cent in 12 months; in Shanghai it was 18 per cent. In the same period, the price of existing homes in Beijing shot up 20 per cent and in Shanghai 14 per cent.

Several commentators have warned that China has a property bubble, and that when it bursts investors will be left holding the keys to properties worth much less than their purchase prices. It’s no surprise then that those investors who can have been drawn to other less volatile real estate markets.

China’s share of foreign direct investment (FDI) in property in Australia tripled between 2007 and 2012 to A$4.2 billion, third only behind the United States and Singapore. About one-third of real estate sold to foreign residents during the 2011-12 financial year was residential, and NAB’s latest Quarterly Australian Residential Property Survey estimates that about 12.5 per cent of all new properties in Australia are bought by foreign residents.

John McGrath, the chief executive of McGrath Estate Agents, says in his three decades in real estate he’s never seen the emergence of such a major market as the Chinese buying in Australia and they are interested in everything from small apartments to prime waterfront properties.

Now, because of this flourish of activity, real estate agents are scrambling to set up sales offices in Asia and hire Mandarin-speaking agents.

Because of this flourish of activity, real estate agents are scrambling to set up sales offices in Asia and hire Mandarin-speaking agents. 

Leanne Pilkington, the general manager of real estate agency Laing+Simmons, says many Chinese buy in Australia to “get their money out” of China. Others plan to send their children to study in Australia and are buying units close to universities.

A key danger for overseas investors, though, is a lack of local knowledge. Macquarie Capital’s head of real estate strategy, Rod Cornish, says investors should do their own research on property values, especially when looking at developments solely being marketed abroad. He advises a good rule of thumb is to compare the price of those properties with other similar developments in Australia, which have been bought by a mix of local and overseas buyers.

Terry Ryder, the founder of hotspotting.com.au, says that foreign interest is a key driver of development.

“We have a situation with the Melbourne CBD, where there are huge vacancies, but they are building more and they believe they can sell them all to the Chinese who are oblivious to the local conditions,” he says. “The Gold Coast is getting on board that syndrome as well.”

BIS Shrapnel’s managing director, Robert Mellor, says about 15,500 apartments will be built in inner Melbourne during the next three years, and many will be undertaken by Asian developers aimed at Asian buyers.

Buying property through burgeoning self-managed superannuation funds (SMSFs) has also surged in popularity in Australia, prompting the Reserve Bank – despite otherwise hosing down talk of a property bubble – to raise concerns that SMSFs may become a vehicle for “potentially speculative demand”.

Tight rental markets and strong yields have made property a particularly attractive addition to some of the A$506 billion in assets under management in the more than half a million SMSFs now in Australia.

Last year the Australian Securities and Investments Commission warned real estate agents, who generally don’t hold financial planning licences, that it was illegal for them to promote SMSF schemes to investors. The regulator also said it was aware some real estate agents had been offering commissions or benefits to financial advisers who recommended that investors use an SMSF to purchase properties on their books.

DIY super funds have also turned their attention to commercial property, which offers higher yields than the residential sector. In 2013 about A$23 billion of commercial, industrial and retail assets traded hands. Colliers International’s Australian Capital Markets Report noted that while “private investors are attracted to the yield that commercial property offers, most high net worth buyers will only want to allocate a relatively small portion of their wealth to the commercial property sector”.

David Mackay, the principal of LJ Hooker real estate in Avalon, Sydney, says private investors are wary of retail investment, “because once they lose their tenant it’s pretty hard to get one”.

“There’s an old saying: residential, low-risk, low-gain; commercial, medium-risk, medium-gain; industrial high-risk, high-gain,” he says.

Stephen Conry, the chief executive of Jones Lang LaSalle in Australia, says there is strong demand from private investors for commercial property.

“There are plenty who just go and buy a single asset. There are some who form informal syndicates with friends and other investors, and then there are the more formal syndicates,” he says.

After a strong year in 2012, followed by rising vacancies in 2013 as business confidence fell and the mining boom cooled, the office market is now dampening, he says. Plus, traditional bricks-and-mortar retailing is under pressure from online sales. The upside, however, is the need for efficient warehousing and distribution and that is now an attractive investment option, particularly because industrial assets have a lower buy-in price than other commercial assets.

“Your typical shopping centre and office building can be quite expensive but … in a lot of markets there’s more opportunity to buy a A$2 million or A$3 million industrial asset than there is A$2 million or A$3 million offices,” Conry says. Commercial yields generally range from 6 per cent to 10 per cent, with industrial on the higher end.

For investors wanting to put their money into property at arm’s length, buying equities in listed property companies can provide commercial exposure, as do unlisted trusts and listed Australian real estate investment trusts (A-REITs), which own and manage a mix of retail, industrial and commercial assets.

Unlisted non-residential property trusts returned 8 per cent in 2012 and 8.8 per cent last year. AMP Capital has predicted unlisted trusts will again return 8 per cent this year, before fees and tax.

A-REITs have been tipped to have a better year in 2014 after a series of new floats weighed on performance in the sector last year, causing the 18 A-REITs on the S&P/ASX 200 to deliver a 7.1 per cent total return in 2013, well behind the 19.6 per cent of general equities. AMP Capital has estimated that A-REITs’ total returns this year should be about 8 per cent. However, five-year total annual returns for A-REITs have averaged 11.59 per cent, versus 14.15 per cent for the S&P/ASX 200.

The recent returns are a vast improvement from the dark days of the global financial crisis, when highly geared listed property trusts on the S&P/ASX 300 A-REIT Accumulation Index plummeted by an average of 55.3 per cent during 2008 and one of the sector’s largest listed trusts, Centro Properties Group, collapsed.

Conry says retail trusts have recovered and the troubles of the financial crisis are “another reason for the diversity of one’s investments”.

“Something is always going up and something is always going down but, in the long term, investment in property has proven to be a very secure and successful vehicle for one’s investment dollar,” says Conry. 
 

Bargain buys

Like their Asian counterparts, Australians have been cashing in on the – until recently – historically high Australian dollar to snap up bargains in depressed or still recovering markets.

They are buying for lifestyle, picking up a cheap bolthole in Europe, or a beach block in Indonesia, and many have been mum-and-dad investors.

Australian property experts are loath to enthusiastically support the notion that investing overseas is a good option. They highlight risks such as taxation, foreign ownership laws, currency movements and the difficulty of managing property agents and tenants from afar.

Louis Christopher, the managing director of SQM Research, says investing overseas should be a last resort.

“It’s about knowledge. Your own local knowledge about the country you live in is valuable,” Christopher says.

There is also the risk of negative currency movements – either during the purchase or by when you’re ready to sell. But Vincent Selleck, of 888 US Real Estate in New South Wales, says he is buying about 30 US properties a month, generally under US$100,000, for his Australian clients.

“With targeted investment, we can easily see properties doubling within the next three years. Given their historic value and the cost to replace them, there is great potential there for capital gains,” Selleck declares.

The US city of Atlanta, Georgia, is proving popular with Australian agents. Property prices there rose 15.5 per cent last year after falling for four consecutive years. In Detroit, one of the worst hit American property markets, prices finally picked up last year, rising 23.2 per cent. But they still only have a median value of US$104,700.

Selleck says that only about 5 per cent of his clients actually fly over to the US to see the properties.

That worries consumer advocate Neil Jenman. “Only the extremely naive or the very foolish will buy anything they have not seen,” says Jenman.

A key danger for overseas investors can be a lack of local knowledge.

A key danger for overseas investors can be a lack of local knowledge.

Direct investing: Choosing the right residential property

A key danger for overseas investors can be a lack of local knowledge.

Despite the upsides of property, it’s “really easy” to lose money on the Australian housing market, says property expert Terry Ryder, founder of hotspotting.com.au. He says investors tend to blindly, and dangerously, follow the herd.
 

Invest with purpose
Have a clear objective. “You’ve got to understand some things about yourself, how much can I afford to borrow, am I a risk-taker?” says Ryder. First investors should play it safe by buying in major cities and avoiding off-the-plan purchases, advises Louis Christopher, managing director of SQM Research.
 
Have room to hold
“Most property investors don’t hold and they don’t get the financial independence they want,” says Michael Yardney, head of Metropole Property Strategists. Often they run short of cash and are forced to sell at inopportune times.

Be cautious about hotspots
Trying to pinpoint the next hotspot is risky: you might strike it lucky but there’s every chance you won’t.
 
Seek stable areas
Reliable returns are best found in areas with strong employment and higher disposable income levels, rental vacancy rates under 3 per cent, low mortgage repossessions, a diverse economy and good infrastructure. Areas with a high proportion of owner-occupiers can mean less rental competition and better maintained properties, too.
 
Stay relatively affordable
Higher priced properties have a smaller pool of renters and buyers, which is why many experts like to purchase real estate that’s around the median price.
 
Seek liquid markets
Investors rarely think about their exit strategy upfront, says buyers’ agent Rich Harvey, managing director of Propertybuyer. Shallow markets during a downturn should be a red flag.

“Look at how long the average property stays on the market. Sydney has come down to 27 days on market. Go up to a place like Port Douglas, it’s about 365 days. And I don’t really want to buy in an area that has got a 10 per cent vendor discount, that to me says … I am being a mug.”
 
Understand what you’re buying
Not every property is investment-grade, warns Yardney. “You avoid main roads, you avoid secondary locations,” he says. Drill down to what owner-occupiers like and for what price.

“What pushes up future values is the fact that owner-occupiers are buying similar properties to yours.”
 
Go boutique
In apartments, a boutique block of about 12 to 20 units is best, says Harvey. “It is easier to manage and your body corporate fees are fairer.” At sale time, you won’t be competing with dozens of other cookie-cutter properties. “Equally, you don’t want to buy properties that are too unique, like something that is just wacky architecture.” In houses, seek good bones.

“Look at what proportion is land value. Check it’s got the right aspect on a nice, reasonably level block. Make sure it doesn’t have big tree issues.” 
 
Adding value
Hunt out properties that can be renovated to add value “down the track”, advises Harvey. For houses, changes to planning laws could open up opportunities such as easier subdivision or allowing “Fonzie flats” above garages, which can be strata titled and sold.
 
Pay the right price
Buyers’ agent Chris Gray, chief executive of Empire, says always get a valuation before auction, along with building and strata inspections. As valuations tend to be conservative, “if you can still buy within that bank valuation range, the chances are you’ve bought very, very well”.