Rental yields slump as property values jump

by AB14 Oct 2013

While capital city values continue to climb, rental yields are starting to slump – and further drops are expected over the coming year, according to RP Data analyst, Cameron Kusher.

Although value growth may be strong at the time when mortgage rates are incredibly low, Kusher says that once rates eventually increase, value growth can quickly slow, which was evident in late 2009 and 2010.

“While there are benefits associated with negative gearing, investors may like to look at the longer term costs and benefits associated with housing market investment rather than just speculating on short-term capital gains,” he says.

Kusher says the problem with a strategy around purchasing for investment purposes in the current market are two-fold.

“Firstly, capital gains as opposed to rental return is not realised until the point of sale. Secondly, although home value growth may be strong at a time when mortgage rates are incredibly low, once rates eventually increase, value growth can quickly slow. A feature rarely seen across the residential housing market is simultaneous growth in values and growth in rental rates. Given that yields are based on rental rates and home values, if values rise quicker than rents you will see an erosion of rental returns.”

The September RP Data-Rismark Home Value Index covering capital city house values shows an increase by 5.7% over the past year, while unit values increased by 4.4%. At the same time, rental rates increased by just 3.1% for capital city houses and 2.6% for capital city units.

Over the years, Kusher says, the annual rate of rental growth has seldom outpaced the annual rate of home value growth. The two instances in which this has occurred was when home values fell through 2008, 2011 and 2012. Rental rates never fell on an annual basis over the period, however the growth was generally moderate.

Movement in gross rental yields over recent time shows that as home values experienced strong growth throughout early 2000, a significant deterioration in rental yields was evident. Since that time an improvement in yields during 2008 and 2011/12 can be seen as rental growth outpaced value growth. However, Kusher says that yields never returned to their previous highs. In recent times, gross rental yields have started to ease as growth in capital city home values outpaced rental growth.

However, Kusher believes that there will always be discrepancies between the performances of rental growth across individual capital cities.

“If we firstly look at the annual change in major capital city rental rates we will see that the general trend is that rental growth is either slowing or quite sluggish.”