Best of 2023 #1: How to buy the highest quality property within your budget

Unlock the secrets to securing prime real estate without breaking the bank, as I, Stuart Wemyss, walk you through the strategic maze of property investment. Get ready to learn how even with modest means, you can pinpoint properties set to soar in value, thanks to the invaluable insights offered in this episode. We're scrutinizing the real estate market's ever-present supply and demand imbalance and understanding why this could be your golden ticket. I'll also reveal why the economic underpinnings of your investments are more than just background noise—they're the pulse that could dictate the heartbeat of your financial future.

Dive deeper with me as we dissect the non-negotiable characteristics of a property that's worth its weight in gold. From the undeniable influence of location to the critical contribution of land value, we leave no stone unturned. Empower yourself with the tools to assess a property's past performance and unravel the mystery of its potential, using data that demystifies the art of smart investing. And for those of you with tighter purse strings, rest assured—I've got the roadmap that will lead you to investment-grade gems in the rough, just a suburb over. This episode isn't just about property; it's about making your aspirations of wealth through savvy investing an attainable reality.

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Transcript

Speaker 1: 0:00

Hi, this is Joe Weems and welcome to the Investopoly podcast. My goal is to give you simple, easy to understand strategies, insights and tips to help you master the game of building wealth. And if you've listened over the last couple of weeks, you'll know that I'm reviewing the top three three most popular podcasts for 2023. And today I'd like to share with you the most popular podcast, and this podcast was titled how to Buy the Highest Quality Property Within your Budget. The reason I wrote this podcast is I often have a lot of conversations around setting a budget for an investment property and some people are in a fortunate position where they've got a pretty significant budget which allows them to sort of choose whatever area they want to invest in and typically obviously go for the highest sort of blue tube, best quality area. But unfortunately, some people have limited budgets and they might not be able to buy in that sort of really blue chip location. And then, of course, we're going to think about, well, how do they go about buying the highest quality property? And that's why I wrote the article to invite people to really come back to fundamentals so that if they're going out to speak to a buyer's agent or they're speaking to well-meaning friends or family, giving them advice that they can try and marry up that advice with these sound fundamentals. And during the podcast I talk about there's three attributes that investment grade property must possess in order to be considered to be investment grade and therefore going to generate good quality returns. And so I talk about those three characteristics or attributes in detail, and again, they're evidence based, they're rooted in sound logic and evidence, so it's not just my opinion. These are fundamental factors that drive that capital growth within properties that we're all desire. So it's a really good quality episode I think, one of my favorites that I wrote this year, because it's really about the fundamentals and that they don't really change. So this episode should be not only popular in 2023, but hopefully almost perpetually useful because it's not time sensitive.

Speaker 1: 2:17

Okay, and that's probably one from me, let's get into the episode. Okay, so let's get into this week's episode, then, which is really how do you go about buying the highest quality property within your budget? Now, the idea for today's podcast really came about because not everyone can afford or has the budget to go and buy themselves an investment-grade house, which I think is really the best option when it comes to investing in property, and if you want an investment-grade house in Melbourne, you really need a budget of up to one and a half million, probably somewhere between a mill and a mill and a half if you're investing in Brisbane and want to do it well and properly, and you're probably going to need north of two not probably definitely north of two if you want to buy an investment-grade house in Sydney, and then, obviously, if you're looking at other capital cities, the arranges are going to be different yet again. Now, not everyone has a million to a million and a half to invest in properties, so I started to think about, if I was in the issues and I had a limited budget, how do you then go about buying the best quality property within your budget? But also people that do have a substantial budget will also benefit from this podcast, because really, what I'm going to do is talk about what are the attributes that an investment-grade property must possess in order to generate perpetual, long-term capital growth, and really applying those, or having a good understanding of those attributes is, I would argue, important for every property investor, regardless of your budget. Okay, so anyone that's listened to probably more than a couple of episodes of this podcast realised that I'm staunchly in love with the idea of using a evidence-based approach when approaching any sort of financial decisions, particularly with respect to the investments that you choose to make, and it's certainly no different with respect to residential property.

Speaker 1: 4:15

I believe that there's three attributes that a residential property must possess, and it must possess all three of them to even be considered investment-grade, which is not to say that every single property that possesses these are investment-grade. It just means that they have to have them to be considered investment-grade. And then you've got the non-financial or subjective considerations that you need to take into account. These three attributes get you a long way and, most importantly, it will prevent you from making mistakes. So it'll prevent you from buying or investing in a property that isn't considered investment-grade, and we all know that financial mistakes are very costly, not only because you might end up losing money, but also there's an opportunity cost element to it and, most importantly, you waste time in the wrong investment, and really, time is a necessary ingredient to any investment strategy. Okay, so the attribute number one.

Speaker 1: 5:11

Let's get into it. The first attribute is there needs to be a persistent imbalance between supply and demand, and I'd like to underline the word persistent, really. Now, of course we know that supply and demand is a basic economic concept. That explains how many investments work and lots of things that work in the economy. The goal is to buy an asset that is in finite or fixed supply that also benefits from excessive or growing demand. So, just notionally, if you can find a property where there's notionally 10, 15, 20 potential buyers for that particular asset, well, there's only one asset and you've got multiple buyers and as long as that demand is perpetual, so that excessive demand will persist over very long periods of time and that should result in price appreciation and you really don't need a huge level of growth. What you're really aiming to do is the highest average level of growth for the longest period of time. So, for example, if you can get an 8% capital growth rate and hold that asset for 30 years, you'll have a 10x return. So your investment will be worth 10 times more than what it is today. Now we as human beings find that conceptually difficult to get our numbers around, as human beings struggle with these multiple and compounding numbers. But the reality is, when you look back in history and if we're buying that property that really does benefit from excessive demand, those numbers are unrealistic, I should say. So let's be a bit deeper then in those concepts.

Speaker 1: 6:51

And the two sides of the equation is supply and demand. So let's talk about supply then, and what you want is finite, fixed and maybe even falling supplied to some extent. So the first thing to think about with supply is how much vacant land is available within close proximity to where you're investing. So, for example, if I'm investing in a well-established blue chip suburb, there's probably likely not to be any vacant land really within probably a 15, 20k radius. And so that means land in that particular suburb, that particular street or location is fixed. It's not going to change its finite and it's a question of fact rather than subjectivity. I can see that it's finite.

Speaker 1: 7:37

Supply can also come about as a result of architectural style or those sorts of things. So, for example, if we're looking at that art deco architectural style 1960s, circa 1960s whether it's an apartment or a house, no one's really building those double brick art deco stole properties anymore. So again, that supply is finite and Potentially, as they deteriorate, it could be even falling as well, as some of those buildings get knocked over eventually Not yet, but eventually it might happen. And again, if we're talking about Apartments. You know, an art deco apartment might be sitting on a 1500 square meters and they build six or eight apartments on that pass of land. So they've got a really strong underlying land value component, whereas if that block was developed today they'd put 20 or 30 different apartments on it. So again, it's very finite that no one's building that style anymore.

Speaker 1: 8:34

And now let's talk about the other side of the equation, which is demand. Really, what you want to do, to my mind, is an invest in an area where the wealthiest 20% of Australians desire To either live, invest, but that particular location attracts the top 20%. And why the top 20%? Well, just because the fact that wealth is unequally distributed and that top 20% controls most of the wealth. And I've done a few episodes on that in the past, the last Couple of years. Again, the links are in the show notes and so forth.

Speaker 1: 9:07

But then if you're investing in area where the top 20% desire, you're not reliant on average wage increases, and so some of the arguments with respect to the affordability of Australian property Economists link it back to well, average wages aren't rising that fast, so property prices can't sustainably rise that fast, which is true. And if we're looking for sustainable price increases over a two, three, four decade period you want to be reliant on, or you want those to be driven by, not just average wage increases, and so you've got the wealth effect of inheritances, just their asset values. You know they might have a huge income, but wealthy Australians will have a strong asset base. Typically, and also for talking about incomes, their incomes are rising Quite often that rates that far exceed, certainly, inflation, but also other wage inflation as well. So when you look at demand, you want those properties to be demanded by that sector, that cohort of Australians that are going to be able to afford to pay more and more as time goes on. And, furthermore, you want diversified demand. So you just don't want one sector of the economy or one type of buyer to be demanding the property or the location that you're considering investing in. So you want that come from multiple sectors of the economy or demographics, so it could be families, it could be professional couples, upgraders, downgraders, investors and so on and so forth. So if you've got, notionaly, 20 potential buyers for a particular asset, you want some of those to be downgraders, some of them to be professional couples, some of them to be investors and so forth. And that's more likely. If you've got that multifaceted demand, that's more likely to add to not only overall demand over the long run but also the sustainability of that demand from year to year or periods to periods rather, and sort of smooths out kind of any volatility, if you like. So the first attribute is really that persistent imbalance between supply and demand.

Speaker 1: 11:11

Okay, the second important attribute in investment grade property must possess is evidence of past growth. So we don't want to be throwing darts at a dart ball. We don't want to be investing in property and just crossing our fingers and hoping that it's going to grow at 8% or 7% or whatever it is that we're targeting. We want to give ourselves the highest probability of it doing so, and so one of the best ways to minimize risk is to invest in assets that have already have a strong track record of demonstrating or providing growth. Now, there's a common disclaimer in financial services that past performance is not a reliable indicator of future performance, and quite often you'll read that or see that published, particularly with respect to share investments and so forth. And whilst that might be true with many asset classes, I think past performance is often a reliable indicator of future performance when it comes to residential property.

Speaker 1: 12:10

And the reason for that is that the factors that drive prices higher over time tend to be static and factual, which means that they will be likely responsible for driving growth in the future as well. So static and factual let me talk about those two points. So static means that those positive attributes that drive values higher tend to remain unchanged for many decades, or maybe unchanged at all. So, for example, a property's proximity to private schools in school zones, arterial roads, shopping strips, entertainment venues, all those sorts of amenities rarely change. If you've got a particular shopping strip in a suburb that has its own culture and vibe and really adds to the livability of the area, it's likely that shopping strip has been around for decades, and it's likely that shopping strip will be around for the next few decades as well. And so if these attributes have driven demand for a particular location over a long period of time assuming those attributes don't change and they really do then you can be confident that they're going to be around to drive growth over the next period of time as well.

Speaker 1: 13:20

And the other descriptor was factual. That means that these attributes are merely a question of fact, not an opinion. So, conversely, when you think about the share market and when you look at the value of a stock, it tends to be influenced by lots of subjective elements, really the market's expectations about company profitability, growth, risk management, ability to drive growth, all those sorts of things. All these factors can be actually highly or they are highly subjective. However, with property, it's really a question of fact.

Speaker 1: 13:52

For example, if we look at the small suburb in Melbourne, east Melbourne that's located very close by into the city, obviously to the east. It's proximity to the CBD and all everything that the CBD has to offer in terms of entertainment, work options, employment options, those sorts of things. That's why East Melbourne's been such a great suburb to invest in from a capital growth perspective, and it's a question of fact. It's not my opinion that East Melbourne is close by. It's not my opinion that East Melbourne offers all these amenities. It's really a question of fact. So if these things are static and factual, what it means that then is that past growth can be quite a good, reliable indicator of what future growth expectations look like. So, of course, if you know of something that's going to change, so if you know a school zones changing or a school reputation is deteriorating or something like that. Of course, if there's evidence these things are changing, then you need to take that into account.

Speaker 1: 14:53

But quite often I find that there's not just one thing that's driving property prices, and hopefully that's what you want to do is invest in an area that there's lots of positive attributes. Just in case one doesn't persist in the future, you can still rely on the whole host of other positive attributes to drive property forward. So therefore, when contemplating investment or looking at a particular property, I like to have a look at what it's been bought and sold for over a period of time and then calculate the compounding capital growth rate. I've got a link to a calculator in the show notes to help you do that. And then what I would do is look at properties in close proximity, so next door and the one across the road, and maybe a couple of doors down, as long as they're comparable, you know. So same sort of accommodation, type and style and size, same land size, etc. So you want to look at those attributes to make sure you're looking at comparable properties and also calculate what they've been bought and sold for in terms of calculate the capital growth rate. And once you do that, once you look at a, you know, a handful of properties five or six that are relatively comparable, it'll start to build a bit of a story. It gives you a bit of data on what that sort of growth rate looks like and whether it's been consistent. And that's what you're trying to look for is a bit of that consistent data, because that's more compelling, I think. And the good thing is these days a lot of that data is available online. You know, you don't have to pay to get it. But if you can't find that data, then you might be able to use or rely on some of your advisors, whether it's a buyer's agent or a mortgage broker. Quite often professionals have access to those sorts of databases.

Speaker 1: 16:29

And then the last attribute is you want a strong land value component. So a property's total value is made up of its underlying land value plus the improvements on the land, which is the dwelling, of course. So land values to a large extent drive capital growth. As you know, highly desirable land locations appreciate and value over time. Naturally, and to a large extent the dwelling value or proportion drives the rental income. So, for example, a brand new property will generally generate a much higher rental yield than a much older property because tenants are happy to pay for more accommodation and better accommodation, whereas I believe investors should be more willing to pay for more land and better land.

Speaker 1: 17:13

So, as we know, land appreciates over time and buildings tend to depreciate, particularly as we need to spend more and more on maintenance and so forth to keep them up to speed. So, therefore, if you want the highest capital growth rate, or at least position yourself to maximize your capital growth rate, then you really need to be spending more on land and proportionately less on building. And that means that if an investment grade property really has to have more than 50% of its overall value in its land value because if the other 50% is depreciating because it's the building component, you need more than 50% to offset depreciating component. And this normally means avoiding newly constructed properties. You know, off the plan, those sorts of style of properties don't make good investments, whereas an investment that's generating a low yield typically can mean that you've got a strong land value component and actually that means what you miss out on yield you make up in capital growth.

Speaker 1: 18:16

And I wrote a, I did a podcast last year the link is in the show notes about. You know, focusing on growth is the most important aspect and in fact, focusing on growth as opposed to income over a 20 year period is about a million dollar difference in today's dollars, just from that, different focal points in terms of returns. So certainly check that out to sort of learn a little bit more and why a strong land value component is so important. So let me summarize, then, the three attributes you want a persistent imbalance between supply and demand, you want strong evidence of past growth and then you want a strong underlying land value component. Okay, so if we know those are the three attributes we need for a property to be considered investment grade, what do you do then if your budget doesn't extend to those investment grade locations? Well, simply, what you need to do is start in the investment grade locations and then work your way out through to a joining suburbs and try to identify properties that look as close to investment grade as possible, considering those three attributes that I just spoke about.

Speaker 1: 19:26

Obviously, the thing that you might end up compromising on is that first element, the perpetual imbalance between supply and demand, because obviously, as you move further out and the property starts to get more affordable, then the you know the supply and demand elements can change a little bit, but if you're thinking about those attributes generally, you're better off to make compromises on the size of accommodation or even the size of your land before you make compromises on the size of the location. So, for example, I'd rather buy a townhouse or a villa unit. A villa unit tends to be an older style of property on a smaller block of land, but still in a good blue chip suburb, than a full block of land, a full house, normal house block of land in a suburb that's further out. That's an inferior location. More land is better, but better quality land is better. So even if I'm ending up with 300 square meters instead of five, if that 300 square meters is in a much better location, then that tends to be a better way to go. Now that should be reflected in past growth rates.

Speaker 1: 20:40

Now the point here, though, is make sure you look at very long term growth rates, because sometimes, if you just look over the last 10 years or five years, it can distort it. Property can move, you know, in ebbs and flows, and a particular location can have, for whatever reason, a massive burst over the last five years. That doesn't necessarily mean it's going to have that perpetual growth over the next 30. So it's really important to look for long term growth trends. Now, if you can't buy in a capital city, in a main capital city, like if your budget doesn't extend to that, then you can also consider regional locations and regional cities, again using the same sort of attributes. You're looking for an imbalance of supply and demand and the historic growth rate, strong land value component all those the three attributes I just spoke about. I guess if you're considering regional, just consider the fact that regional has enjoyed a really strong amount of growth through the COVID period.

Speaker 1: 21:40

We know property markets tend to move in two distinct cycles a growth cycle and a flat cycle. Just be wary of investing in those locations. If they've just gone through a growth cycle. You might invest now and just experience a flat cycle for a period of time. That would be my only proviso there. Also, if you can't invest in a investment-grade location straight away and this is particularly for people that are home buyers, because I try and counsel clients to take an investment lens towards selecting their home I did an episode about a leapfrog strategy a couple of years ago, which is buying a good quality asset, something that you can manufacture a little bit of equity in by doing the property up.

Speaker 1: 22:29

Hold that property and enjoy a little bit of growth and then sell, crystallize and then leapfrog up into a better location. You might need to do that two or three times before you're able to get into the dream suburb, if you like. That you're really targeting Now. Property is a long-term investment. We don't tend to like to buy and sell, but particularly if it's a home and we're trying to get into a particular location, it can be a good strategy, particularly, obviously, since we don't pay capital gains tax on our home. If you're interested in learning more about that, I've got a link in the show notes, of course, to that particular episode.

Speaker 1: 23:03

Look. The last thing I'd like to leave you with is that if you're going to invest a substantial amount in property, it's good to get good quality professional advice that I'm referring to really a buyer's agent here. It's important that your buyer's agent understands these attributes that I've just spoken about, that they really understand what makes a good property versus a not so good property from investment perspective. They need to have plenty of runs on the board. They need to be an expert in that particular geographical location. Quite often it was just the other week I was talking to a buyer's agent on behalf of a client and that buyer's agent said I've lived in that area. I still own investment properties in that area. As a result, that buyer's agent is going to know it very, very well when you put your money where your mouth is. That's really, I think, a really strong indication that person's going to know a lot about that particular geographical market. Therefore, they're going to make sure that you avoid making, sometimes mistakes that aren't blindly obvious at the beginning. That's a really valuable thing to do.

Speaker 1: 24:15

I did an episode a few years ago around what are the benefits, I think, of using a buyer's agent and how to find a good one. Again, I'll include the links in the show notes A bit of a longer one this week. Apologies for that. Again, if you're looking for that ebook that I mentioned at the beginning of the podcast, just go to prosolutioncomau forward slash ebook. Hope you get plenty of value out of that. Of course, until next week. Bye for now.