While an investment property may be a nice home or hip apartment, it’s also a business. It required you to make a significant investment with the intention of it returning some of its costs in income. This is the nature in which investments work. However, how property as an asset differs from stock, is that you don’t have the luxury of a term deposit or fixed rate which quotes you a rate of return.
So, how can you predict the value of your investment property and the return it will give you?
When purchasing an investment property, there are three measurements of performance that are essential you track; rental yield, capital growth and gross yield.
What is rental yield?
Rental yield is the amount of money that you make on an investment property; it measures the profit that you generate each year from your investment/s as a percentage of its value. Therefore, a high rental yield equates to greater cash flow.
It’s important to understand rental yield, as it will enable you to know how much of the mortgage repayments can be met by rental income, as well as understand the ongoing return that you will make.
What is capital growth?
When assessing reasons why you might be interested in investing into property (or any asset, really), a big playing factor is the ability to build and create wealth. Capital growth tends to be seen as a real engine room for wealth creation.
Often referred to as ‘capital appreciation’ or ‘return on investment’, capital growth is essentially the increase of your property value over time. It plays a very important role when it comes to purchasing an investment property.
You can calculate your capital growth by finding the difference between the current market value of your property and the price you initially paid for it. The difference is how much you have achieved in capital growth. For example, if you paid $350, 000 for a property seven years ago and it’s now worth $600, 000, you’d have achieved $250, 000 in capital growth.
What is gross yield?
The third measurement used for helping to determine the value of your investment property is gross yield. Gross yield is calculated through annual rental income (rental yield) and property value.
Gross yield tends to be the most used calculation, as it enables you to quickly find out how a market is performing. Knowing the gross yield on your investment property is important, as it tells you the overall return on investment.
While most strategies for investment properties will entail some trade-offs at different stages (eg, you might find a property that is low-cost, so it has a high rental yield, but the area it is in might have low capital growth potential), the main reason for calculating your gross rental yield is to ensure that your investment is worthwhile over the period that you intend on owning it.
Conclusion
Knowing what metrics you need to track in order to assess the value of your investment property or a property you’re looking into investing into is so important – it can help you in determining the potential profits and losses.
However, whether you’re planning on flipping to sell or renting out your property long-term, we always encourage investors to focus on the bigger picture; don’t always go chasing the property with the highest immediate rental yield. Rather, consider the total return over the period you intend to invest. That way, you can hopefully have your investment property making you some money!
If you’re a property investor, you need to know the day-to- day details are in capable hands. Our number one goal is to take the worry out of property management and free up more of your time, so you can do more of what you love. To get in touch for an initial chat and to find out more information about our prospectus for investors, call (08) 8911 0741 or contact us online.