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    Seed Weekly - Residential Property in the Western Cape - the Best of a Bad Bunch

    South Africans like to own property. A secondary home, or even a holiday home, is no strange phenomenon in our country. The security of owning a physical asset that we can see and touch provides one with a sense of security and “wealth”. Property is personal and provides people with the ability to express their creativity and inspiration, something no other asset class can provide. Many South Africans also believe that property will always be a good investment.

    As they say, “The proof of the pudding is in the eating”. Looking at the performance of the residential property market using the FNB House Price Index, it does not paint a pretty picture.

    Graph 1 : Major 5 Regions House Price Inflation Rates (year-on-year)

    Source: FNB Property Barometer, April 2017

    The graph above, as at the end of March 2017, illustrates the slowdown in residential house prices. The Western Cape has been the darling of the residential property market since mid-2011, outperforming all of the other four major regions on a year-on-year basis. The year-on-year average house price growth for the Western Cape measured 6.2% in the first quarter of 2017. This is slower than the 7.7% rate of the previous quarter, and now considerably slower than the 10.6% multi-year high recorded in the first quarter of 2016. As illustrated in the graph above, there has been a significant decrease in residential property prices since early 2015.

    Over the last seven years, homeowners have been struggling to find any real returns from their residential properties, as house prices have hardly kept up with inflation. There has also been a significant decrease in the demand for buy-to-let properties. According to First National Bank, transactions have decreased from a peak of 25% in 2008, to below 6% in 2016. Since the beginning of 2010, the average house price for the Western Cape has risen cumulatively by 78%. That is an annualised capital growth of roughly 8.5% over the past 7 years. By comparison, the next strongest growth was in KZN, with a modest 46%, and Gauteng with 41% over the same period. This amounts to an annualised capital growth of 5.5% in KZN, and just over 5% in Gauteng. Hardly any real capital growth, outside the Western Cape, if you consider an annualised inflation rate of 5.5% over the past 7 years. Alternatively, a property tracker fund tracking the SAPY would have returned 16.5% annually over the same period.

    Graph 2 : Major 5 South African Regions House Price Increase since early-2010

    Source: FNB Property Barometer, April 2017

    As with all investments, there are also some risks to consider. Tenants paying late (or never), and an increase in interest rates, are some of the key risks that investors will need to consider before investing into a buy-to-let property. Rates and taxes have also been rising, on average way above the inflation rate per annum over the last few years.

    Higher interest rates bring me to my next point: “What will the impact of South Africa’s credit downgrade be on the residential property market?”

    As we are entering unchartered territory, we are not completely sure what to expect. However, one of the key risks of a credit downgrade, which can have a significant impact on the property market, is higher interest rates. With a potential increase in interest rates, investors will also have to deal with increased mortgage payments going forward.

    Some will reason that the average house price index is not a true reflection of the property market segments, as suburbs on the Atlantic Seaboard in Cape Town, or Westcliff in Johannesburg, have seen annualised house price growth in double digits since 2010. This is certainly true, though these properties are the exceptions to the general property market in South Africa. It will require some thorough research to identify the right area to buy in and determine which types of properties are in demand to uncover these gems.

    Property allocation is essential to a well-diversified portfolio, but taking the risks and returns into account, I would much rather place my allocation in listed property than residential property.

    Kind regards,

    Stephan van der Merwe

    Tel +27 21 914 4966
    Fax +27 21 914 4912
    Email info@seedinvestments.co.za

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    Permalink2017-05-03, 12:12:04, by Mike Email , Leave a comment
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