Question Mark

MULTIPLE MARKETS

Q: I seem to be reading a lot of comments from well known experts who say that the property market is set to languish in the doldrums for at least a year. One person even suggested selling now while the going was good. I have two properties and I’m getting nervous. Can you reassure me?

The key thing to keep in mind here is that there’s no such thing as a single property market. Each city and suburb has different characteristics, and every property is different. This means that there are multiple property markets, and each has to be viewed on its merits.

Some sectors of the market have stalled or are growing slowly, while others are still growing strongly. Generally speaking, areas that experienced a huge burst of development several years ago now have an oversupply of property and are having difficulty absorbing it. This is putting a dampener on prices, particularly in the inner-city apartment market.

By contrast, many established areas with continued popularity are doing well. For example, In Melbourne the median house price in Malvern East rose from $540,000 to $767,500 between September 2004 and September 2005, an increase of more than 40%. The key reason for such a strong rise is that the area is popular with homebuyers, and they are competing for a limited amount of stock.

Even in these kinds of areas, the property market can occasionally get the wobbles; that’s part of what makes residential property so dynamic. Unless you have good reason to believe that your particular properties are going to perform poorly for an extended period, it’s important to hold your nerve and take a long-term view '” that is, for at least seven years.

WHERE TO BUY

Q: I’m in a dilemma. I’d like to buy an investment property in the outer suburbs. A lot of people are moving there, so I figure it’s where the dollars are. But I’ve also read that the inner suburbs are getting good investment returns. Is one area better than the other? What’s your take on this?

You haven’t mentioned your key investment objective. Is it rental income or capital growth?

If it’s primarily a strong rental return you’re after, the outer suburbs may be a suitable place to invest. Population growth is strong and there’s plenty of new housing being built, so there’s a growing consumer demand for basic commodities such as fuel and groceries. Provided they’re well located, on roads with plenty of passing traffic, some commercial properties such as petrol stations, supermarkets and fast food outlets can also command a strong income stream.

On the downside, the entry-level price for quality commercial property is very high (about $1 million) compared with the entry level for quality residential property.

For capital growth you’re better off concentrating your efforts on the inner suburbs. Because the land has already been built out and there are usually strict controls on redevelopment, supply is limited. At the same time, there’s always strong demand from homebuyers and tenants, who are keen to live close to the CBD, shopping and entertainment precincts. This lack of supply relative to demand puts pressure on prices and encourages capital growth.

LAND VALUE

Q: I’ve read that land value is the primary factor that determines how much a property is worth. But what determines land value?

You’re quite right; land value is the main driver of a property’s overall value. There’s only so much land, so it generally appreciates in value.

By contrast, depending on local planning laws and height controls, you can always construct more buildings or knock down existing ones and rebuild. This is why buildings generally depreciate in value while land appreciates. Apartments in a multi-unit development, for example, generally show poor capital growth because they have a very small share of the notional land component.

Two inter-related factors determine land value:

Demographic trends. If there’s an increase in the net inflow of people to an area over a long period of time, land value will rise strongly. If there’s a levelling off or decrease, land value will stagnate or increase more slowly.

Supply vs demand. If there are more people wanting to buy in a particular area than there are properties available, land value will rise strongly. If there are fewer buyers than properties, land value will stagnate.

WHETHER TO RENOVATE

Q: I’ve got my eye on an investment property that’s quite cheap compared with other properties in the area, but it needs a lot of work to bring it up to scratch. It’s amazing how many people whisper in your ear at times like this; some people are telling me I should bite the bullet and renovate it to actively add value, but others say I should save myself the headache and just pay more upfront for a property in better condition. Help!

I’m sorry to put the kybosh on your 'inner renovator’ but I tend to agree with the friends who are telling you to avoid substantial renovations and go for something in better condition. The basic reason comes down to dollars and cents. Skilled labour is becoming increasingly scarce in Australia, so tradesmens' wages are going up. To stop wages eating into their profits, companies are using cheaper materials that are generally of a lower quality than in years gone by.

The net result is that you’ll pay more for the labour to help you renovate than you will for the renovations themselves.

When the time comes to sell, potential buyers won’t want to pay for the labour that went into the renovations; they’ll only
want to pay for what they can see.

This means that, even if the overall location has gone up in value, you may not recoup all the money you spent on those renovations. The property that was initially so 'cheap’ could suddenly become much costlier.