Wealth is created through asset appreciation not through cashflow – you should prioritise capital growth over rental yield.
The most successful property investors recognise this truth, and invest in the type of properties that increase the most in value over time: Houses. Land appreciates in value, whereas the dwellings that sit on land tend to depreciate in value. Think about why you get a property depreciation tax break when you rent out newly built properties? Properties with reasonable land content (e.g. Houses or Townhouses) experience significantly higher capital growth than properties that lack land content (e.g. Apartments/Units).
Most of us know this intuitively, but what does the data say?
This graph shows how Melbourne House Prices have changed over the last 7 years compared to Unit Prices.
Year-on-Year % Growth in House Prices of 10-15% has been common, whereas Unit Price Growth typically hovers around 5%. During Melbourne’s last growth cycle, from 2013-2018, House Prices increased far more than Unit Prices: from $548,000 to $921,000 (+68%) versus $484,000 to $619,000 (+28%). Even allowing for the worst deflationary period in living memory, from late 2018 to mid 2019, House Prices today are +60% higher than they were in early 2013; Unit Prices are +40% higher.
Higher purchase prices and holding costs are the main reasons why Property Investors would consider Apartments over Houses
Houses are generally more expensive than Apartments, and the rental yield you get from them is relatively lower. But, our analysis proves that House make for far better Investments than Apartments because capital growth is more important to building wealth than rental yield.
The 3 key metrics that every property investor should know:
- The Equity ($ Cash) Needed to purchase and retain a property investment – based on the Loan:Value Ratio and mortgage repayments made after rental income
- The Equity Gained through Capital Growth
- The Net Position – difference between Equity Needed and Equity Gained
This below graph shows the performance of a typical House Investment made in 2012, and compares it to a typical Unit (Apartment) Investment made at the same time. The House Investment required more Equity, but delivered far greater Capital Growth. The difference in Net Position is significant.
In the common example graphed above, a House would have cost you about $120,000 more in 2012, and assuming an 80% LVR, that would mean you’d have had to stump up an extra $24,000 of your own cash at the time of purchase. And, because the Rental Yield of the House is lower than a Unit, you’d have to tip in an average of $4500 per year to support the mortgage, compared to about $2400 for an Apartment.
But, because House Price growth has been so much greater than Unit Price Growth, you would be far better off today – like $124,000 better off.
