A poor quarter for rents

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  1. If yield s are approaching 5%, how far can house prices really fall without rents falling significantly as well. Are we simply used to spending a large amount on housing?

    It would seem to me that Australia will need a massive external shock and surge I’m unemployment to force the country back into tunable house prices and rents. Otherwise, the bottom would probably be when yields hit 5%. Any thoughts?

    • Are you suggesting that landlords should do their business for nothing? If the risk free rate of return ( sticking money in the bank) is the same as renting (that’s before costs, damage, and assumes a tenant 52/52) then why bother? Landlords should be looking at a yield on their investment to offset the aforementioned risks, generally thought to be 7% p.a. So until rents get to be 7% more than owning a comparable property, then something in the calculation has to alter. Property prices lower seems to be the easiest way of doing that alteration into a consumer market that indebted-to-the-gills and looking at stagnant real wages rises. Capital Gains used to be the off-setting factor. But with those now gone/suspended, where’s the benefit in being a landlord? ( NB: I note that in the USA rents are way higher on average than the cost of ownership, and property prices…are still falling!)

      • Landlords make their fortune as rents rise over time but their interest payments remain the same.

    • also as house prices fall further I’m sure the negative wealth effect will drag down rents as well. Probably not as fast as prices but still.

      • That’s exactly what happened in Ireland. Housing wrecked the wider economy and rents followed prices down, but not as far (around 10% down in Dublin).

    • The small investor isn’t really worried about some losses in the first few years of ownership. They will take the loan out interest only for the first 5 years and in that time if they get rents growing at 4% pa the rentals will then cover the holding costs. So for them 5% return is manageable, although 6% or better should be what they aim for – but many are amateurs.

      On a $500,000 purchase with a loan at 6% and a rental return of 5% then the investor is initially losing $100 per week – quite manageable for many people, and as rents increase the property becomes positively geared in about 4 to 5 years.

      Debts stay in nominal terms, thus reducing in real value with wage and rental growth.

      Any losses are claimed off their tax, and so are subsidised by 15% to 60% depending on their highest tax rate.

      I’m sure none of that is what you want to hear, but that’s the thinking behind small investors. Whilst there is demand for rentals with vacancies remaining low, then it will more or less work for them. To destroy that model you will need tenant demand to fall substantially, which can happen several ways, but hasn’t seemed to yet.

      Supply could increase, people could move in together, unemployment could become a factor.

      So what do you think will happen in your area of interest going forward? Don’t think about what you want to happen, consider only what you think will happen, it’s important to not be deluded here – rational thinking only wins the day.

      • “On a $500,000 purchase with a loan at 6% and a rental return of 5% then the investor is initially losing $100 per week – quite manageable for many people, and as rents increase the property becomes positively geared in about 4 to 5 years”.

        Peter, the rental yields quoted above are GROSS – i.e. before expenses such as maintenance, rates, land taxes, agents fees, body corp, etc – so it is inaccurate to quote a 5% rental return for the overwhelming majority of properties purchased in Australia.

        Second, the average discount variable mortgage rate is currently 6.7% according to the RBA, not 6% as quoted by you.

        Now re-try your back-of-the envelope calculations with some more realistic figures?

      • Leith – yes quite true, there are rates, insurances etc to take into consideration. There are still interest rates at around 6% fixed for 3 years, so it’s not such an unrealistic allowance, so in all likelihood the real costs are about $130 per week less the negative gearing benefits.

        That still won’t concern a small investor.

        There are many people earning well over $100,000 who really don’t care but they want to accumulate an asset, which after time will become positively geared.

        Personally I don’t think that it is a great plan in the current market, but many still believe it is.

      • Just plugged in a realistic scenario into my beta buy/rent calculator:

        House price $500K
        Loan $400K (assumes 20% deposit, no LMI)
        Interest rate is 6.7%
        Gross rental yield is 5%
        Net rental yield (after costs) is 4%
        Marginal tax rate of investor is 32.5%
        Rents rise at 3% p.a
        House price rises at 3% p.a

        Results:
        property becomes cashflow positive at Year 10 onward
        Investor cash position breaks even at Year 20 onward
        Investor net equity position breaks even at end of Year 2 – only because of capital gains

        Average CAGR for first 10 years is an impressive 9% – this drops to 7.5% post-CGT and selling costs.

        Reduce the yield to 4% (more realistic, IMO) and it takes 20 years to become cashflow positive.

        I’ve done these calculations before, but it is clearly evident that property investing REQUIRES capital gain to be investment grade at current yields.

      • On a buy/rent comparison for someone looking for a PPOR, I agree and its often forgotten.

        But as an investment comparison, its part of the initial investment, including buying costs (which I havent added to that calculation yet). Reduce the deposit and the CAGR naturally goes up…

        Apart from the straight line analysis, the other problem is after 5 years of zero house price and rental growth, its a -6.3% CAGR on your initial investment so the opportunity cost, compared to placing the same amount of cash in the bank – even at 4% or less – is nearly 10% a year, compounded!!

      • I agree, I always use 100% borrowings in my calculations. LMI can however be sidestepped by using equity from another house for the deposit.

        There are a lot of IFs such as if we get capital gains, if we get good tenants, if we don’t pave periods on non occupancy etc, but for a long term holder it can work, for a short term flipper not so good.

        Note that I’m not advocating investment houses, but explaining how small investors rationalise the investment.

      • I am always surprised to hear simple assumptions like rents will always increase and NGed property will become PGed after a few years. Yes, in a magic pudding world.

      • So what do you think will happen in your area of interest going forward?

        forget what i think is happening, ill tell you what IS happening here in melbourne.

        house prices are falling, now rents are falling. investors doing their balls on both capital losses and falling rents.

        “The small investor isn’t really worried about some losses in the first few years” oh yes they are.

      • GB – I expect house prices to fall in Melbourne.

        Yes investors are concerned by price falls, but I clearly meant rental shortfalls in my words above.

      • 5% yield? not sure I’ve really seen this. my place would be around the 500k asking price and I’m paying $330 a week that comes in quite a bit below 5%. obviously anecdotal but still.

      • Serenco are you in Melbourne – the yields there are quite poor. In Brisbane I can find places with 6% rental income.

      • adelaide, as inner city leafy suburb as you can get (2 houses down from me is a castle, literally)

      • Thanks – I have no explanation in that case.

        Nice city Adelaide – I was there this time last year.

        Cheers.

      • In melbourne 320 a week house would be ~600-650 but I am longterm renter. … In Brunswick for a 2 bed terrace.

        Pretty sure the Owner bought it for 80k in the late eighties when Brunswick was still uncouth!

  2. Not that there’s any better data out there on rents, but it’s hard to read too much (or anything really) into a city-wide straight median figure (i.e. not compositionally adjusted in any way.

    Every sector of the market could have moved up or down and if the median price had a large enough mode, the overall median could be flat.

  3. The rents are insane. Just four months ago a friend moved to Sydney at rent $630/w for 2 bedrooms apartment. The same apartment, next door, now is advertised with asked rent of $660 and another for $690. The previous month the same apartment was for $650/w. This is insane, this is not a normal market. One cannot ask 5% increase every quarter and 3% increase every second month. Then they say the rents are down when these greedy landlords can’t get what they are asking.

      • Comparative marketing? If the units are all owned by the same entity, then the oldest ploy in the book is to advertise one at a ‘bargain rate’ to the others. (It’s the same strategy used to sell properties, as well “Look, here’s one at $900k, but the ones down the road are at least $1.1m” – all owned by the same company!)

      • Forrest GumpMEMBER

        Remember that statistics are based on the “Advertised” price, not the actual price paid. In my case, negotiated the price DOWN. Im sure others also do the same. In any case, most people have a 12 month lease, so the stats are released monthly are of no value since most landlords are locked into a fixed price over a 12 month period. So even if rents move each quater, its not relevant to any landlord until the lease is up for renewal. IN that case, if the tenant decides to move out (not pay the extra) then the landlord will fail to gain the lost income from the time the property is re-leased to another tenant. That may take upto 4 weeks if you consider the advertising and selection and nomination of a prospective tenant. Then to add salt to the injury, the agent will also take the first weeks rent for the privilidge of “Writing a new lease”. The reader needs to read “advertised” rental prices with a grain of salt.

      • well if they are still vacant then its no real indicator other than a delusional owner. I rent my place in adelaide (inner city) for a fraction of the purchase cost

      • We are in the same position of renting in the inner city of Adelaide for a fraction of the purchase cost.

    • The rents are insane. Just four months ago a friend moved to Sydney at rent $630/w for 2 bedrooms apartment.

      Where, though ? $630 could potentially be quite a bargain if it’s in the right place.

      Ten years ago I was paying ca. $400-450/wk (can’t remember exactly) for a 2 bed apartment and my wife and I didn’t consider that overpriced (compared to similar apartments in the area) at the time. 4%/yr puts that up to $600-650.

  4. I wish these rental falls applied to the building I’m in. But instead rents have increased over the past year.

    I suppose it’s economically neutral. While it decreases the spending power of the tenant, it boosts that of the landlord by the same amount. One person gets richer, another gets poorer, but in aggregate terms — which is all mainstream economists give a fig about — nothing changes. It’s the hot bucket + cold bucket = normal situation. So what’s to worry about?

    And then we have the wonderful news on BS today that there has been a surge of Chinese apartment buying — that should help to drive up prices and shut out a few more locals. I support foreign investment in general, but I think a necessity such as shelter should be reserved for locals.

    There is a stench about the Australian property market. A stench of greed and rigging and self-interest.

  5. I thought Harry was complaining last week that his Chinese investors had disappeared. Something about the Chinese buyers as a percentage of his total sales dropping from 80% to 65%? Regardless, it isn’t an ‘iron hand’ supporting the market. They’re buying a very low percentage of the stock, and in very niche, concentrated forms. Poor form for RG to be such a blatant Harry mouthpiece.

  6. And now rents are falling too? Wow, that just tops of a not so great year for property investors!

    • I’m pretty sure this will be australia’s equivalent to americas 2006 where we were all in delusion as to the state of the property market, then the real falls begin. wait until those 850k empt houses reported by the ABS from the last census pop onto the market. Then our drastic housing shortage will magically disappear lol

      • Census data shows that the percentage of houses vacant on Census night rose from 3.5% in 1911 to 9.4% in 1976 and then flattened out and reached 9.9% in 2006.
        So if something could drive our vacant house rate back to 1976 levels it would free up just 39000 dwellings, and going back to 1961 levels would free-up 287000 dwellings.

        Could someone tell me what the immigration rate is again?

      • “Could someone tell me what the immigration rate is again?”

        Population growth (including immigration) in Australia is less than it was in Spain and Ireland before their property bubbles burst.

        http://bit.ly/IeKIhd

      • Population growth (including immigration) in Australia is less than it was in Spain and Ireland before their property bubbles burst.

        What is the significance of this statement?

      • and obviously a land tax would achieve just that, I imagine the vacancy rate would drop very quickly indeed lol

      • haha I’ll give you a little bite. Surely if you believe that imposing a land tax wouldn’t increase vacancy rates (by making people rent out vacant houses) then surely you can’t see any down side to the removal of NG as it achieves the same outcome.

  7. Like the GFC I think it’s got potential to crash and burn in spectacular fashion without substantial warning and without favour. We were just lucky that the problems that plagued nearly every other Western country didn’t strike us at that time due to our luck in having such a dependency on China. We might not be so lucky next time especially if China starts to wobble as is being predicted…

    Also, to agree with Lori, Janet and Sherlock (above), there’s a lot of dirty tricks being used to keep people paying too much like comparison marketing. I’ve seen a few rental contracts in my street fall over (or new tenants move in constantly after 3 months or so in one property) and I’m wondering if it’s because the agents themselves are poaching established tenants to new clients/properties? The other possibility is that the tenants themselves find a better deal (or realise they can’t afford the rent after a short period of time). Just an observation.

    • Oh, he has.. Apparently, it’s all because FHBs are jumping back into the market.. LOL. I guess in the Ando La La Land, the stamp duty concessions for FHBs were never removed 🙂

      These results indicate there is less competition for rental accommodation as first-home buyers have jumped back into the market, taking advantage of improved affordability. This is particularly the case in Sydney, which had a surge in first-home buyers late last year.

      http://smh.domain.com.au/real-estate-news/sydney-rental-fall-takes-the-heat-off-tenants-20120413-1wx6e.html

      • thomickersMEMBER

        lol. The last few auctions I watched FHBs were letting properties get passed in on VB. Then attempting to negotiate for scraps, with the result ending in “private sale listing” at 10% more than the advertised auction price range.

        the median index calculates the “real median + dream premium”

      • I wonder, maybe the sellers offer cashbacks? Being a FHB-to-be myself, I would have bought for a humble 20% cash back 🙂

      • haha we all know theres never a bad time to buy right? so that piece of informatino lets you interpret things like rents and vacancies however you want. Such as this gem. not a shred of evidence (such as polls or surveys) but stated as probable fact

  8. innocent bystanderMEMBER

    well, this doesn’t tally with my, and freinds, personal experience here in Perth. Very difficult to find a rental and rents have increased. I had to move to temp accommodation before Xmas when I couldn’t find anything to suit my needs, postcode 6070, have just secured something after looking for nearly 4 months. Rent is $420pw for a 3×1 – suspect it was lower for previous tenant.
    Friend who owns a place in West Perth had it rented for $475, wanted to increase it to $495, tenants said nope and left, advertised it for $550, rented it for $610pw.
    Nothing to see 20 or so propective tenants at home inspections and open gazumping to secure.
    Just my personal experence, maybe some Perth suburbs are more normal.

    • This higlights the fact that stats covering a national market are meaningless. Each city/region/town has different factors affecting its market, Eg: we have heard how Melbourne and the Gold Coast has overbuilt, Sydney we are told has a shortage. IB’s experience in Perth fits with what I’ve seen in Perth, massive rental increases due to a rental shortage due to the unflux of ‘economic migrants’ from around Oz and the world.

      From what I’ve seen the asking rentals are more than projected by APM.

      Over the weekend I saw a bankrupt estate house 3 bedrooms, 1960/70 build, liveable but not fantastic (a knock-over according to the agent) and the agent said, correctly in my opinion that it would rent for $800 per week. I know that another house in the street rented in august last year in much the same condition goes for $50 per week.
      In summary while it might be a bad time to invest in a unit or house in Melbourne it might not be a bad time in say Perth, Darwin or elsewhere.

  9. TheRedEconomistMEMBER

    Well in and around Sydney. I do not see the desperation for rentals. I have not had a rent rise in 3 years and many places that are not in good conditions are being left empty. Investors are getting nervous and concerned that the capital growth is gone. Real estate agents closing there door left right and centre in North Western Sydney. Whilst stock is limited, buyers are just not willing to offer near the unrealistic demands vendors. Job security in Sydney is a worry. Why buy when rents are 50% of the minimum repayments on a overpriced 25 year mortgage.

    • Don’t necessarily agree on everything there.
      Agree # of agents has contracted.

      Sydney rents have increased steadily. I was in same position, when you are in a place for a number of years and you dont get a rent increase everything seems OK (ie the landlord wants a secure tentant). But if you leave and come back again, you’ll experience how prices have moved.

      • Agreed there. Sydney rents are exhibiting a very high degree of scarcity. However they are very cheap when compared to Greg Norman’s yacht. Also cheaper than buying a house.

      • Yes renting certainly has an option premium for avoiding mortgage slavery attached, and assuming you have a good savings plan in place it isnt the end of the world.

    • “If you want to start a business, do so in Melbourne. Lower rents for people = more discretionary dollars to be spent.”

      Well, yes, but if our house price falls continue due to what looks like a fairly large oversupply, then a reduction in the wealth effect will result in less money being spent.

      • Sure there is some oversupply, but mothing cures oversupply better than a fall in prices!
        i.e. some renters get a chance to buy w/o govt subsidies and schemes and having to pay 60% of income.
        (I know a novel concept in Australia)

    • thomickersMEMBER

      hopefully Oxford street doesn’t turn into Melbourne’s Chapel street.

      You can afford to meet your rents if your turn your shop into a night club and get everyone drunk, drugged up and violent.

      • Bingo, thats what will happen. I don’t think people will want to live there given the traffic noise etc.

  10. Ok, my innerchest of Sydney 2 bed rented apartment bought for 550k in 2003. Currently valued at 600k. Rented for 550 per week.
    Landlord wants to raise rent, so we are moving.
    Now we are looking at 3 bed houses bought for 750-800k and renting at 600-650 per week. They’ve almost all been renovated since purchase so at least 50k spent on bathrooms and kitchens. They don’t go fast and plenty out there. (I always research history of property before we offer)
    Above 700 per week, there is so much stock, it’s insane. It just sits there, week after week…
    I simply don’t understand how landlords do it. I don’t want to buy so I am glad people can’t use excel to build a spreadsheet.

    • When you only need a 3% annual gain to cover the opportunity cost of not renting, you can understand why some property bugs don’t care if the property isnt rented out for a bit…or even awhile.

      Regardless of house price growth, most negatively geared investors are not cashflow positive for at least 10 years or more.

      They rely solely on capital gains – anything above 3-4% a year – to make the money.

      This is just analysis, not indictment. I can use a spreadsheet – the “positive in less than 5 years” advertisements are just marketing speak, not analysis.

      • Sorry, I meant Inner west of Sydney. Current landlord estimated to have made 50k in 8 years, although doesn’t include stamp duty, strata fees, blah blah. I personally don’t see rental growth in next two years to get cash flow positive or the capital gain to feel its all been worthwhile.
        I keep on looking at it thinking I must be missing something.

      • Ps. Did like your rent v buy calculator Prince. Great excel skills, please keep it under wraps!

      • All I see there is 9% nominal growth in house value in 9 years lol. I can imagine the lost opportunity cost there once you’ve taken into account the holding costs associated