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Here's a surefire way to know if you're hooked on the property investing mania like us:
You've bought your property, found a tenant, and you've got a property manager taking care of the rental. The only thing on your mind now is "what should my second real estate investment be?"
Now it's time to think bigger and start building out your property portfolio.
Building a successful property portfolio boils down to three main things: diversifying your investments, bridging capital to get more properties, and strengthening your bases.
Let's look at these points in-depth, with everything from why to how to build a property portfolio, and some tips depending on what you're looking for along the way.
What is an investment property portfolio?
Here are the basics.
When we talk about a property portfolio or real estate portfolio, we're referring to all the investment properties you own. If you wrote down a list of all your current property investments, then that's your property portfolio!
Of course, to begin with, most people just have one investment property in their property portfolio. But then, some investors go on to grab more.
In fact, about 10% of rental property investors own three or more properties, and around 18,000 own six or more properties, according to AFR.
Now we'll explain why that is the case.
Why is it important to have a balanced property portfolio?
Let's talk about the philosophy behind building a property portfolio.
What motivations do you have to buy more than one investment property?
For many, one rental just isn't enough. Most investors go on to buy more properties because they want more returns. Instead of just having one property generating rent and increasing in value, you can have two, effectively doubling your returns!
If you're serious about financial freedom, retiring early, or whatever your goal may be, building a property portfolio is an important step to get there.
Now then, why do we say that the property portfolio has to be balanced?
Whether you’re investing in shares, bonds, or real estate, building a balanced portfolio is a smart investment strategy.
It’s all about finding ways to lower your exposure to risk and increase your chances of higher returns.
Here’s the thing: none of us can predict the future. The real estate market is constantly in flux, with supply and demand shifting between different types of properties and locations. But, one proactive step you can take to protect your money is to invest in different property types in a range of postcodes.
When it comes to property, the old saying of “don’t put all your eggs in one basket” couldn’t be more true.
If demand for one property drops, you’ll have stronger performers in your portfolio to counteract this potential loss.
It's also worth noting that once you get the ball rolling, it often becomes even easier to invest in the next property.
A common tactic is to leverage the equity in your first investment property to help finance a second investment property (and reduce the upfront costs of your next mortgage by eliminating things like lenders’ mortgage insurance).
In a nutshell, you need to build a balanced property portfolio for a few reasons:
- Increase your returns
- Lower your risk
- It's easier to invest in the second than the first property
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How to build a property portfolio
Now, here are the actual steps to building a balanced property portfolio.
The tactics you should use include:
- Create a mix of high rental yields and high capital return properties.
- Refinance your existing property to access equity
- Geographically diversify your investments.
1. Create a mix of high rental yields and high capital return properties
Not all investment properties deliver the same rental yields and capital returns. Generally, you’d expect to see stronger long-term growth in the value of houses while units are expected to deliver better rental returns.
But it’s not just the type of property you need to consider. Location can have a big impact on your rental income and long-term returns.
Historically, properties in Australia’s capital cities generated stronger rental returns and capital growth, while regional properties have offered more affordable housing, with some regions also offering considerable long-term growth.
In fact, more investors are looking outside of Australia’s capital cities to take advantage of the regional property boom in 2021.
Invest in a mix of the two.
This ensures that you’re generating a reliable stream of passive income (to cover the costs of repairs and maintenance) as well as setting yourself up to earn a positive return when it comes time to sell, that could help you finance your next investment property purchase.
2. Refinancing your property to access equity
With a property already under belt, you’re building equity (which is the value of your property, minus what you owe on your mortgage).
This is incredibly valuable when building your property portfolio as you have a powerful new way to access property portfolio finance.
Here’s how it works: you can refinance your existing property and use the equity in your home as the deposit for your next investment property.
Example: Say you have a property worth $1,000,000 with a mortgage of $800,000. The property increases to $1,300,000 in value after 1 year (yay!). You might be able to refinance that property to get a new loan at $1,100,000. The difference is $300,000, which is equity you can access. You can then use these $300,000 as the deposit for a new mortgage at a second property.
Plus, your existing property can act as security for your new loan, which can lower your interest rate (as you’ve got the assets to prove you’re a low-risk borrower).
This can speed up the process of growing your property portfolio as you won’t have to pull together a cash deposit for your next mortgage.
Instead, you’ll be able to use your home’s equity to finance your second property investment.
3. Diversifying your investments
In a similar vein, a balanced property portfolio helps you to reduce the impact of the ups-and-downs in the property market. Over time, supply and demand will shift and will cause both rental returns and property prices to fluctuate.
By investing in a variety of property types in different locations, you’ll have a resilient portfolio that will continue to deliver strong returns during turbulent market conditions.
Let’s take a look at an example:
- Let’s say there is an oversupply of apartments in the inner city. With less demand for this type of property, you may need to lower your rent to secure a tenant. Plus, this could eat into the passive income you’re generating from your investment property and make it difficult to pay for expenses (such as repairs and maintenance).
- However, also having a family home in the outer suburbs in your portfolio (that is continuing to generate strong returns) will safeguard your passive stream of rental income and give you positive cash flow to cover expenses, too.
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A few tips for financing your property portfolio
While there is no ‘silver bullet’ when it comes to choosing the perfect investment strategy, there are a few things to consider when deciding whether to follow a positive gearing or negative gearing strategy for your property finance.
- By adding a few positively geared properties into your portfolio, you’ll be able to generate a reliable source of passive income. This will safeguard your money and help you cover the costs of maintenance and repair, with the potential to also make a capital gain when you sell up.
- It’s also worth following a negative gearing strategy for a handful of properties in your portfolio, as this gives you a greater chance of earning high capital growth (which can give you the funds to finance your next investment property).
- However, negative gearing can be a riskier strategy as you’ll be making a loss while you hold the investment (and there are no guarantees your property will make a capital gain when it comes time to sell).
Ultimately, you need to consider your appetite for risk when building your property portfolio.
While negative gearing can give you the capital to grow your portfolio, there is a high level of risk that you may make a loss. And while positive gearing is a lower risk option, you may not generate enough capital to finance your next investment property without taking out a large mortgage.
How to choose your next investment property
But everyone’s circumstances and needs are different.
So, let’s look at a few case studies about how to grow your investment property portfolio depending on your goals.
If you’re looking for capital growth
The key to generating high capital returns is to understand what types of property and locations are likely to increase in value.
Typically, standalone homes in the outer suburbs of capital cities show the greatest potential for capital growth. That’s because these properties are in higher demand and there is a limited supply (unlike high-rise apartments or townhouses).
Plus, it’s worth considering well-positioned houses in regional locations that have good schools, local amenities, and plenty of job opportunities across a range of industries.
These are becoming more desirable as many offices embrace remote working, helping to increase demand and increased prices across regional Australia.
If you’re looking for higher rental yields
On the flip side, generating a reliable source of passive income comes from securing an investment property in an area experiencing high demand.
By looking for properties with a high rental yield (usually between 8-10%) you’ll be likely to earn stable returns from your investment property.
It’s important to look for properties with low house prices and rising rent prices. This can often be found in some of Australia’s smaller capital cities, such as Hobart (TAS), Canberra (ACT), Darwin (NT), and Adelaide (SA).
When doing your research, make sure to look at market trends in each suburb as high vacancy rates usually indicate there is an oversupply of properties in this area.
While purchasing an apartment in a capital city might be a lower upfront cost, having too many of the same style of units in the same area can cause demand to dwindle and rental yields to plummet, too.
If you’re looking for a balance of both
While it can be difficult to find a combination of high capital growth and strong rental yields, there are certain investment properties that can deliver on both.
Typically, townhouses and duplexes can be purchased for slightly lower rates, while still delivering on good rental returns and the potential for capital gains when it comes time to sell.
The main tradeoff here is that these properties often don't come cheap.
Again, the outsider suburbs of capital cities and well-positioned properties in regional areas tend to offer the best opportunity for long-term growth.
Plus, with fewer townhouses and duplexes on the market, you’re more likely to see rises in rent rates over time, too.
Wrap up - the key to building a successful property portfolio
Investing in different types of properties in different locations can help to balance your property portfolio, lower your exposure to risk, and help you ride out market ups-and-downs with confidence.
By having a mix of properties that have the potential for capital growth and deliver high rental yields, you’ll have a stable source of cash flow to take care of your investment properties and the equity to purchase the next property in your portfolio.
Once you have a few more properties under your belt, consider bringing a property manager on board. More properties mean more complexity, so using a property manager to manage multiple properties is very common.
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Disclaimer: The views, information, or opinions expressed in this blog post are for general information purposes only and should not be relied upon. We have not taken into account specific situations, facts or circumstances, and no part of this blog post constitutes personal financial, legal, or tax advice to you.