Xavier Perronnet | 20 November 2012

Why some properties gain value while some stagnate: A tale of three apartments

Why some properties gain value while some stagnate: A tale of three apartments

One of the most common mistakes a property investor can make is to believe that all residential property investments will behave in the same way.  Many people who favour direct property as an investment do so based on a misconception that it is easier to understand than other investment classes, and that strong returns are all but assured.  However, the property market is incredibly complex, and a failure to appreciate the different submarkets at play can lead to very different investment outcomes.

The following tale of three two-bedroom apartments illustrates how investments belonging to different sub-markets have fared in recent years.  The apartments have sold and resold over the past seven years, which is an important time frame that comprises the 2007 share market boom, the global financial crisis, the property boom of 2009-10 and the subsequent property market adjustment of the last couple of years.

 

Apartment 1

1506/100 Harbour Esp Docklands

Purchased: November 2006 for $460,000

Sold: November 2012 for $460,000

Annual compounding growth rate: 0%

Why?

One of the great marketing tools bandied about the market is to imply that strong population growth in an area is an indicator of future capital growth.  But people who think that population growth is in isolation a key indicator of demand are missing a very important reality.  Strong population growth in an area is a better indicator of a change in supply.  If there is strong population growth there must be a lot of available property for people to move into.

A strong increase of housing supply in an area can drive down prices to a level that entices buyers.  The take-up of excess supply can be qualified as demand for affordable housing.  As long as an area has the capacity for significant increases in supply, any evidence of capital growth in the area will trigger further housing releases, which in turn will water down value growth.

Docklands still has an issue with oversupply. Since 2001 its population has been growing by almost 22%. This growth rate is off a very low base of 700 in 2001.  However,  the Docklands population has still been growing by 6.5% over the last five years. This is well above the 1.5% annual population growth of Victoria.

Over the years the Docklands precinct has generally been a poor performer for investors. Many people suggest it must turn the corner soon and that the next 10 years will be much better than the last 10. However consider this, according to the 2011 census one in five Docklands properties is unoccupied.

Apartment 2

109/92 Kinkora Road Hawthorn Vic 3122

Purchased: June 2005 for $445,000

Under offer: November 2012 for $470,000 

Annual compounding growth rate: 0.86%

Why?

Developers continually fight an uphill battle as they struggle to match rising labour and material costs to produce a product that they can sell and make a profit. The most effective way they can do this it to cram as many apartments they possibly can onto each block of land. To do this they usually compromise the size of each apartment, and the first casualty is the kitchen, as it gets squeezed into the lounge room. Most people would prefer a separate, or at least a properly defined, kitchen area.

Often, developers price their new developments based on the costs to build plus a profit and risk margin.  The traditional method of valuation, where comparable sales are relied on to establish pricing, will only be employed if the subsequent value estimate is higher than the cost method.  Developers can often achieve their pricing through the offer of incentives such as stamp duty savings, rental guarantees, high levels of claimable depreciation, as well as taking advantage of foreign investors.  Such incentives are not available for subsequent purchasers of the property.

When the investor bought this Hawthorn property he or she could have purchased an apartment for less and made more money!

 

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