The other way to get into the property market
With another interest rate rise on our doorstep, the controversial topic of the Australian property market has been very much on my mind this week, especially how to get your foot in the door when you’re unlikely to own a home in the near future.
For mortgage holders, the Federal Reserve’s announcement on Tuesday that it would raise interest rates by 0.25 percent was an unwelcome announcement. For an average $600,000 mortgage, this increase would mean about $100 extra per month.
That might not seem like much in the grand scheme of things, but when gas prices are rising, health insurance premiums are about to rise, and other cost-of-living pressures remain, well… you know the rest.
But what if you’re among the one-third of Australians who don’t own a home? As tempting as it may be to assume the news has no impact, I can tell you from many years of experience that people not yet on the property ladder spend just as much time – if not more – thinking about it.
There is already a mountain of evidence to suggest that it is much harder for working-age Australians to buy a home today than it was 50 years ago. In 1976, properties in Melbourne and Sydney cost about three or four times the annual salary.
Today, that number has increased nearly 13 times. For wage growth to keep pace with real estate prices, the average salary today would need to be $190,000.
REITs don’t give you the keys to your own front door, but they are a different way to get into the real estate market.
What’s interesting to me is that although a lot has changed since then, our relationship with property is still largely the same as it was in 1976, even though there are other ways to invest in the market without taking out a huge mortgage. Enter: REITs.
Real estate investment trusts, or REITs as they are more commonly known, are similar to stocks in many ways. But since REITs are a trust, you buy units rather than shares.
At a very basic level, the difference between the two is that where shares are issued by a company to allow you to own a small piece and get some of their profits and growth through dividends, REITs make you a beneficiary of the trust you invest in. This means that you have a share in the foundation’s assets and are entitled to a portion of the income the foundation produces; This is called distribution.
Trusts own and manage large commercial properties such as office buildings, shopping centres, warehouses, storage facilities, supermarket premises and large-scale residential and land developments, and distributions are often made from rents from whoever occupies the properties, for example Coles or Woolworths. By their structure, REITs are established to generate income for their trustees and are responsible for paying out most of what they earn to investors.
There are also domestic and international REITs you can invest in, just like stocks, and these are available through the Australian stock exchange, which are traded in the same way as shares.
This doesn’t make it any more complicated for you as a buyer, but like all investments, it’s still important to research what you’re buying and the potential risks associated with it before making a final decision.
While many people choose to buy into specific REITs directly, there are also a number of REIT ETFs (exchange-traded funds) that offer you a basket of companies rather than just one.
A simple way to think of ETFs versus shares or units is this: shares in a single company or units in a single REIT are like a tube of toothpaste; An ETF is like your entire toiletry bag, carrying your toothbrush, deodorant, moisturizer, and headbands, as well as your tube of toothpaste.
ETFs are an excellent way to diversify your investment portfolio because you are hedging your bets. While investing in a single REIT buys you the entire pie of that trust, a REIT ETF buys you a slice of that pie and slices from several other different pies. Neither option is necessarily better than the other; What matters is what is best for you and what you want to achieve.
Like all investments, REITs have pros and cons. The first and most obvious plus is that the price point for getting your foot in the door is incredibly accessible. As average house prices begin to hit $1.17 million in Melbourne and $1.92 million in Sydney This year, you’ll need a deposit of $234,000 to $384,000 to sign on the dotted line and take ownership.
On the other hand, with REITs you can access the real estate market with as little as $10 and you don’t need that high of a deposit or an even higher mortgage. Plus no stamp duty, no building inspections, no moving costs, no renovations required, no painting, gardening or chasing plumbing quotes on the weekends.
And just like a house or apartment you can buy and live in, REITs have the same potential for capital growth because over time the value of properties within a REIT can increase, meaning the unit price in the stock market also increases. So a REIT you bought for $10 ten years ago might be worth $15 today.
Also, just like buying a home, REITs take on a lot of debt because they buy and operate properties. So when interest rates fall and money becomes cheaper, borrowing becomes cheaper, which increases profits.
But when interest rates rise as they did this week and the cash rate rises from 3.85 percent to 4.1 percent, the difference in the trust’s returns will be much greater than $100 a month because they are dealing with hundreds of millions, if not billions, of dollars worth of property. This means your distributions will likely decline until things improve.
But one huge positive difference is that unlike buying a flat or house, REITs are much better in terms of liquidity. If you want to unload a REIT, you can sell them and access the money within a few days. However, if you want to transfer a property you own, you will usually wait at least three months before you see any cash coming into your account.
But at the end of the day, the most important thing when it comes to investing is understanding what you are investing your money in and the potential risks associated with it.
No, REITs won’t give you the keys to your own front door, but evaluating options from a new perspective like we did 50 years ago is a different way to enter the real estate market.
Victoria Devine is an award-winning retired financial advisor, bestselling author and host of Australia’s #1 finance podcast. He’s after the money. He is also the founder and director of Zella Money.
- The advice given in this article is general in nature and is not intended to influence readers’ decisions about investments or financial products. They should always seek their own professional advice, taking into account their personal circumstances, before making any financial decisions.
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Victoria Devine is an award-winning retired financial advisor, best-selling author and host of Australia’s number one finance podcast, She’s on the Money. Victoria is also the founder and managing director of Zella Money.
