BTL still a good bet?

Is investing in buy-to-let still a good bet?

Figures released last month indicated that over the last decade residential property came second next to gold as the best investment class.

However, any financial advisor worth their salt will tell you that you shouldn’t extrapolate future returns from past performance. Remember those investors that ploughed into commercial property in the mid – late ‘noughties’ after strong performance only to be burned by the subsequent crash.

What are the future prospects for residential property?

As landlords know; much of any success will depend on the future direction of house prices
and this will be determined by several critical factors.

1. Cost and availability of finance

Despite interest rates being at record lows, the cost of borrowing still stays stubbornly high with buy-to-let mortgages at typically around the 5-6% mark. In fact the same as they were when the base rate was ten times the current level. This has inhibited many landlords from refinancing their investments as well as purchasing additional properties.

Availability of finance remains restricted; and this factor is heavily dependent on the health of our banks which as Robert Peston highlighted in his blog is far from robust.

There is increasing evidence that the heavily reported recovery in the housing market could be petering out, with much recent analysis showing that 1st time buyers are staying away and latest figures from Rightmove illustrating that increasing housing supply closer to normal levels are suppressing recent upward moves in prices.

2. Real income growth

The other factor that impacts on house prices is real income growth. Simply put; as we get richer we all can afford to pay more for our property, boosting property values.

The income figures are not encouraging.

The private sector has been cutting costs and many workers have agreed to wage freezes or even wage cuts to keep themselves in a job. The general expectation is that following the election big cuts in public sector will depress public sector wages over the next few years.

A landlord’s saviour – Inflation

Inflation the dread of many economists could just be a landlord’s saviour. Property investment is a great hedge as it inflates the value of the asset whilst reducing the relative value of the loan.

Despite the fact that the Government have passed the power for setting interest rates to the Bank of England many policy makers in Government must be preying for the return of inflation. The government as the biggest debtor in town, I suspect would love a bit of hyper inflation to bolster tax revenue whilst shrinking the real size of their massive debts.

The huge stimulus package being used by the government to keep the economy afloat could just end up bring about a serious bit of inflation in the medium-term. This could produce just the economic conditions that make property investment a great hedge against the falling value of money.

“buy land they are not making it anymore” – Mark Twain

One sure fact is that the UK is not getting any bigger but our population is.

Pressure on the limited supply of development land I suspect as the Barker review found will keep UK house prices moving upwards more quickly than our continental neighbours. Despite every government’s pronouncements that they will make the planning system more flexible and efficient to help increase the supply of housing. Each administration and in particular the current Labour government hit the planning system with a whole raft of additional obligations which can only achieve exactly the opposite. A more onerous planning & building control system means; less development land and ultimately more expensive housing.

This can only feed through to relatively higher house prices.

Projected returns

Having looked at the factors that may have a bearing on property prices over the next decade what are the potential returns in investing in residential property likely to be and is it still worth it.

I’ve used Property Hawk’s investor’s appraiser to generate a figure for likely returns for a landlord investing in residential property. This figure is likely to vary depending on what part of the country a landlord is buying in, but it gives a benchmark.

EXAMPLE – 10 year investment

• 1bed flat
• £100,000
• Rent £500 pcm
• 6% yield
• 70% LTV mortgage
• Mortgage rate 6%
• Property Growth 4.4%
• Inflation 2%
• Rental growth 2%
• Purchaser cost 1%
• Sales cost £2000
• Appliances £1000
• Monthly costs of £20 for redecoration & Insurance £15

The projected returns on this investment over the 10 years on an interest only mortgage are as follows:

On a total of £32,000 of a landlord’s equity the investment if sold at the end of 10 years would generate a gross total return of £39,383 equating to a 123% return on equity. This equates to 12.31% per annum. If a repayment mortgage is used the investment returns fall to 8.92% because more equity is tied up in the investment.

Is buy-to-let still a good bet?

A 12% gross annual return seems pretty good in anybodys book. However, as we have seen there are a many uncertainties in the current economic climate. Our projected investment returns indicate that buy-to-let still looks a good long-term bet. However, prospective landlords should prepare themselves for a few economic shocks and setbacks on the way to buy-to-let Nirvana!

Want to work out the investment returns on a potential investment?

Have a look at our FREE investment appraiser to work out your own projected returns.

Landlord insurance quotes