Thursday 9 May 2019
Comparing returns on your investments - Savings, ISAs or property?
Wow it's been a whirlwind of a month. Those of you following me on LinkedIn and Facebook will no doubt have kept abreast of the various property meetings I've been going to. I've discussed at length people's strategies when it comes to getting good returns, and I must say that there is a very wide range of investments returns that people are happy with (all dependant on the risk involved).
One key thing that came up is that none of the people I spoke to considered the "rate of payback" on their investment. By and large all of them worked on the presumption that having assets was the most preferable strategy - this is why they came to talk to me in the first place, primarily because of my asset-heavy investment strategy. My desired period of holding a property is of course, forever!
Let's however consider a few things. I had mentioned in a previous post that there are various options when investing in property - it doesn't have to be by purchasing assets per se; these are, in London, often prohibitively expensive so that strategy doesn't suit everyone. However let's assume for the sake of comparison that there is £120,000 to invest and that the risk profile of the investor is OK with using leverage to increase returns.
I've made a few assumptions of course:
1. The investor is happy to purchase an HMO style property such as one of the ones I've purchased in the last few years (refer to previous articles to read more).
2. The investor is not remortgaging at the end of the initial term to release more capital (doing so will dramatically increase returns but it gives rise to too many variables and falls outside the scope of this article).
3. I've assumed that the 15 years AFTER the Savills 5 year forecast on which I relied is a bit more optimistic (not much though) at 5% per 5 years growth. I think we can all agree that normality will return to the UK housing market after the politicians have cleared up their Brexit mess (according to Savills this will take 5 years) so my predictions should be conservative.
4. I have not factored in any increase in rents over the period. Naturally this would be by at least the rate of inflation, and in London I foresee a 5-10% year on year increase in areas of good demand. Therefore returns in reality could (and probably will be) greater than I've put on paper.
5. The Return on Capital Employed figure I use for my investments is 20% so our hypothetical property investor gets this as well. That's return on money in the deal after all expenses, so invest £120k, get £24k net before tax.
6. The rental income starts coming in at month 6, assuming some building work, refurbishment and some void for getting it dressed. Again, in practice this is much quicker but let's be conservative.
Now - returns in residential property that I propose are dictated by two things: rental income and capital growth. The latter of which can only be realised upon sale, but it can also be leveraged by drawing down some of the equity by means of remortgaging. As mentioned let's keep it slightly more simplistic: Investor parks £120k in a property and pays for a managing agent to do the repairs/maintenance/running around so it's by and large as passive as putting the money in a savings account (well, as close to that as property will get).
So the numbers: Here is what Savills says will happen with capital values over the next 5 years. They don't have a crystal ball, but let's assume by and large they are right.
Here you have it... comparing some other forms of (perhaps shorter term) property-based investments you can see that a buy to let property really outstrips any sort of investment.
Key takeaway though is that the penultimate row of the table shows that if you hang on to the property and you do not dispose of it or refinance your return on capital will never quite reach your target of 20% per annum - especially the first year where you had significant outlay/costs and you only started receiving rent after 6 months, thereby cutting your returns in half for that year. This all changes drastically of course if you refinance after your initial term, which in the current climate I would probably recommend to be 5 years. Although the market may have only risen 4.5% on average the fact that you bought cheap and added value will raise the property's value to a point where it becomes worthwhile to extract some capital. This capital extraction means that your returns will go up in this investment, and although it won't be enough (on its own) to purchase another property you can diversify and use another investment vehicle to get better returns overall.
So.... is buy to let for you? Perhaps. Bear in mind it's a long game - it's not as passive as putting money in the bank, no - but under the right circumstances you can make healthy returns - very healthy when leveraging. If you are interested in talking further then please reach out via email and start the conversation. I have helped dozens of clients over the years and demonstrated that great returns are possible in South London - what are you waiting for?
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