New research by interest.co.nz suggests why residential property has been falling out of favour with investors, with negative cash flows the most likely culprit.
Reserve Bank figures show the number of mortgages approved to residential property investors has declined from almost 7000 a month in mid-2016 to just over 2000 a month in March/April this year. (See graph below).
That represents a serious decline in investor activity. A new feature of interest.co.nz’s Indicative Yield Table shows indicative rental yields have become so low that many rental properties would have seriously negative cash flows if they were purchased at the current lower quartile prices.
The yield table shows the gross rental yields that would be achieved for three bedroom houses, and one and two bedroom apartments or units, in all of the major urban districts around the country, if they were purchased at the Real Estate Institute of New Zealand’s lower quartile price for the first quarter (Q1) this year, and rented at the median rent for that same type of property in each area.
A new cash flow figure has now been added to our Indicative Yield Table. This shows how much cash would be left for the investor after they had made the mortgage payments on the same property, assuming the property was purchased with a 40% deposit and the mortgage was for 60% of the lower quartile purchase price.
For example in Hamilton City, a three bedroom house purchased at the REINZ’s Q1 lower quartile price of $629,500 and rented at the median rent for three bedroom homes of $600 a week, would have a gross rental yield of of 5%.
If that property was purchased with a 40% deposit, the payments on the 60% mortgage would be $666 a week, which is $66 a week more each week than would be received in rent. (The mortgage calculations were for a 20 year loan term with interest at 6.83%, which was the average of the two year fixed rates offered by the main banks in Q1 2024).
The investor would be out of pocket by $66 a week after making the mortgage payments, and that’s before allowing for vacancy, insurance, rates, repairs and maintenance and any of the other expenses landlords can face.
So there’s a serious cash flow issue there.
The same calculations for two bedroom units/apartments in Hamilton provide negative cash flow of $27 a week. One bedroom units provide a cash surplus of $26 a week after the mortgage is paid, but that is also likely to be a loss after outgoings such as rates and insurance are paid.
The numbers also show how difficult it is to achieve positive cash flow from a traditional three bedroom house in most parts of the country at current prices/rents/interest rates.
And although returns are better for one and two bedroom units/apartments, they are often still marginal at best. (The table below leaves the fields blank for one and two bedroom apartments/units where the number sold or rented during the quarter was too low to provide a reliable figure).
Traditionally residential property was seen as a way of providing a reliable income stream. But these figures suggest those days are gone and the main motivation in recent times has been the prospect of capital gains, turning investors into speculators.
With capital gains now also becoming a distant memory, it appears that residential property investment in the current market is increasingly likely to provide the worst of both worlds – potential capital losses and negative cash flows.
For residential property to regain its position of providing a reliable and worthwhile income stream there would need to be:
- A substantial drop in prices, or
- A significant increase in rents, or
- A major decline in mortgage interest rates, or
- A mix of all three.
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