Choppy equity markets are making buy-to-lets look attractive. So is now a good time to become a landlord, asks Clare Francis
EQUITY investors are experiencing a bumpy ride while life for landlords seems rosy, with rents and yields rising — so investors are being tempted to switch. But it’s a close call.
When the technology bubble burst in 2000, heralding a three-year bear market, thousands of investors poured money into buy-to-lets. Shares were falling, house prices were rising and many people thought property was the best way to make money. It was the hot dinner-party topic, and the Council of Mortgage Lenders says that between 2000 and the end of 2005 the number of buy-to-let mortgages increased by 483%.
Justin Urquhart Stewart at Seven Investment Management, a wealth manager, said: “Investors were terrified of the stock market. Property was popular because people like investments they can kick and touch, particularly in times of uncertainty.
“After three years of recovery, confidence in stock markets had picked up but people are having their nerves tested again by the recent volatility. I expect it will continue for the next few months and I fear there will be a flood back into buy-to-let. Not that there is anything wrong with investing in property, but you shouldn’t put all your eggs in one basket.”
Over the past 10 years house prices have risen by more than share prices. Property values are 182% higher, according to the Halifax house-price index, compared with a rise of 57% for the FTSE All-Share index.
But property has not always beaten shares. In the preceding 10 years, 1986 to 1996, the All-Share rose 138%, while house prices went up by only 62%. And many people wrongly assume property has been the best-performing asset class of the past few years. Despite recent volatility, shares have outperformed property over the past three years — the house-price index has risen 38%, but the All-Share is up 50%.
And do not forget that property prices can fall too. Between 1990 and 1994 values dropped 9%. The All-Share climbed by 24% over the same period. So investing in bricks and mortar is not without its risks. That is not to say you should steer clear, however. Specialist lender Paragon Mortgages’ latest buy-to-let index found many landlords were planning to add to their portfolios in the next 12 months.
John Heron at Paragon said: “There has been a resurgence of buy-to-let activity since last autumn. Upbeat landlords are buying properties, secure in the knowledge that there is good tenant demand for the right property in the right place.” Demand stems from would-be first-time buyers, migrant workers, a shortage of social housing and an increasing number of students. The Association of Residential Letting Agents said that nearly half its members believe there are now more tenants than properties available. This is helping push up rents, which are rising at their fastest for five years, according to the Royal Institution of Chartered Surveyors.
Higher rents are having a positive impact on rental yields — income as a proportion of the property’s value — but at about 5% they are still relatively low. Yields have been squeezed over the past few years as house prices have increased faster than rents. Despite the recent pick-up in rents, it can still be difficult to get the sums to add up. Melanie Bien at Savills Private Finance, a broker, said: “You must do your research carefully to ensure you buy in an area rich with potential tenants and don’t overstretch yourself.”
A recent study by UCB Home Loans, Nationwide’s buy-to-let lending arm, found that rents have not kept pace with house prices in Belfast. As a result some potential investors are struggling to get finance.
In Liverpool, there is strong demand for university accommodation, but because of the number of new-build projects in the city centre, this part of the market has reached saturation point. And in certain areas of Birmingham UCB found that rents are sometimes insufficient to cover mortgage payments. Mark Durant, 30, pictured with his wife, Sam, 34, and children Mae, 7, and Billy, 6, believes there are still good buy-to-let opportunities. Durant, from Maidstone in Kent, runs a property company in conjunction with Investment Property Management.
He said: “I’m buying property all the time, and am able to negotiate big discounts from developers because I buy in volume. I always buy new builds, but you have to be very selective.”
Lee Grandin at Landlord Mortgages, a broker, warns novice property investors against trying to copy Durant.
He said: “Entrepreneur landlords who have been in the business for a while know what to buy, and they buy cheaply. The danger is that inexperienced investors will try to do the same. Five years ago, when house prices were rising rapidly, you could afford to make a mistake, but in a stable market like we have at the moment it is dangerous. If you buy the wrong property or spend too much, you will struggle.”
Even if the recent hiccup in stock markets has made you nervous about equities and tempted you to invest in property, advisers recommend that you do not sell your shares to do so.
Clem Chambers, who runs ADVFN, a financial website, said: “You should never sell your shares unless you think Armageddon is coming. A lot of people sold out in 2000. Many haven’t got back in and have missed out on some substantial growth.”
The FTSE All-Share index fell by 0.5% last week, and it is 184 points below its April peak. Many analysts expect this volatility to go on for the next few months, but most see it as a correction rather than the beginning of a bear market.
Stephen Whittaker, who runs New Star’s UK Growth fund, said: “Companies are still meeting or beating earnings expectations and, given attractive free cashflow yields, there is plenty of potential for bid activity. The fall has been quicker and deeper than many expected and it may take a couple of months for markets to digest the sudden rise in volatility.
“I believe the markets will steady, however, and go on to achieve double-digit returns by the end of the year.”
So what are the alternatives?
YOUR investment decisions should never be based on what is flavour of the month and you shouldn’t chop and change just because a certain type of asset is not performing well.
The aim is to build a balanced portfolio to suit your investment objectives and attitude to risk through varying circumstances. You should then be well placed to ride out any volatility.
I am looking to invest my money for up to five years
Advisers generally recommend you stick to cash-based investments if you are investing for less than five years. The main reason is that with all other types of asset, your capital is at risk and because the timeframe is so short you may not have time to recoup losses should markets move against you.
You should always have some money in an easy-access account, in case of emergency. Bradford & Bingley’s internet account pays 4.85%. There is no short-term bonus and the minimum investment is just £1.
If you have money you can afford to tie up you may want to consider a fixed-rate or guaranteed income bond (Gib). Heritable Bank has the best two and three-year fixed-rate bonds, paying 5.26% and 5.31% respectively, with a minimum investment of £2,000. AIG Life has the best three and four-year Gibs. Rates start from 4.02% and 4.06% respectively. Income is paid net of basic-rate tax, so the equivalent gross rate for a higher-rate taxpayer is 5.36% in the three-year bond and 5.41% for the four-year version.
I am investing for long-term growth
Should you wish to invest for more than five years, advisers recommend broadening your portfolio to include corporate bonds and gilts, equities, property and commodities. There are risks because you could lose some of your capital, but over the long term you should get better returns than if you had kept everything in cash.
Justin Modray at Bestinvest, an adviser, suggests a medium-risk investor should have 70% in equities, with 45% of that in UK shares, 25% in Europe, 11% America, 9% in Japan and 10% in emerging markets. About 15% should be in fixed interest and the remaining 15% in other assets such as commercial property, commodities and cash. If you own a home, Modray said you probably already have adequate exposure to residential property. If you are thinking of investing in a buy-to-let, you should research the best areas for capital growth and ensure there is a flow of tenants.
An alternative is commercial property, which is best accessed through a fund so that you can sell whenever you want. Modray suggests Swip Property Trust and New Star Property. Commercial property prices do not move in line with the residential market, so having exposure to both minimises risk. (timeonline.co.uk)