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May 24, 2007:
What is the best route for an investor to take who is looking to invest in real estate? Should they buy an investment property and let it out, or would they be better off putting their funds into a listed property vehicle?
Listed property refers to Property Unit Trusts (PUTs) and Property Loan Stocks (PLSs) which are professionally managed portfolios of property, and are listed on the JSE Securities Exchange.
A direct property investment implies that the investor buys the property himself and owns the property directly. This is often called the "buy-to-let" market as the investor is not using the property as his primary residence, but rather lets it out to earn rental income.
According to Jacques du Toit, a senior economist at Absa, listed property has not posed many risks to date, and for the foreseeable future the outlook is quite bright. "People who are looking to invest in listed property could be influenced by factors such as interest rates," he says. "When interest rates rose during the middle of last year, the listed property sector suffered a downward correction.
"Interest rates could increase again, but I do not foresee a lot of risk. The JSE is relatively strong and hitting a record in terms of the overall index. The all share index is increasing all the time and is now well above 28 000. But if the JSE cools down and there is a downward correction, it could impact the listed sector.
"If the broader economy experiences difficult times, that can impact the commercial property sector which will impact the listed property sector."
Personal control of ROI* or lack there of
According to du Toit, an advantage of investing in direct property is the control factor. "With direct property you have direct control whereas with listed property you have no control over what properties are invested in," he says. "An investor of direct property can determine what area to invest in, what type of property, what size property etc. because of his direct control. If he wants to move out, he can do so.
"Also, with the commercial property sector improving quite a lot, investors have seen strong returns, which has meant that many investors want to invest directly in commercial property because of the benefit of capital appreciation as well as income returns.
"Listed property has in fact found it more difficult in the recent past to acquire direct property because investors know that the sector has performed well in terms of capital appreciation and returns and as a result they hold onto their direct property investments rather than selling them. This means that in order to grow their asset books, listed property companies have to look at developing commercial property sites themselves.
"Also, remember that institutional investors don't consider the type of investments that the smaller player would consider," he says. "Often the smaller investor can obtain value out of direct property that the larger asset manager cannot do to the same degree.
Other factors to consider
With a direct property investment, the capital outlay will depend on the property sector (office, retail, industrial or residential) and whether or not the investor has partners in the venture.
With regards to residential (which is generally cheaper than the others in terms of R/m2), the median house price published in the April 2007 Standard Bank Residential Property Gauge is now R580 000, a significantly larger sum than required for investing in listed property.
A listed property investment, investors can purchase small quantities of the units or shares. The minimum quantity is 100 units. Depending on the company or collective investment scheme, the minimum investment could fall (approximately) between R100 and R2 000.
A risk factor with direct property is that unless an investor has an extremely large capital base, to acquire the same degree of diversification as listed property is challenging. It may also be impractical for an investor to have a spread that is both geographic and sectoral.
PUTs and PLSs on the other hand invest in well-diversified portfolios in different geographic regions as well as in different market sectors. This spreads the risk for an investor substantially.
Direct property may take some time to sell. Finding a buyer for the specific property can pose a problem for a seller, as well as incurring expenses. In addition, there can be a significant time delay between the decision being made and the investor realising his funds.
Listed property on the other hand is traded on the JSE Securities Exchange. As such, the investments are highly liquid: an investor can sell his stock and realise his funds within a week of making the decision to sell.
With direct property, the investor/owner must perform maintenance and rent collection himself, paying building maintenance specialists to do it whereas with listed property maintenance and rent collection are handled by professionals.
With direct property, practical uses of the investment include gearing against the purchase of the property with the concomitant benefits. Over and above this, if the investor has bought residential property, and if all else fails, he can at least make a home out of the investment.
The major practical advantage of owning listed property is that an investor can gear to an extent against the investment by going to a bank for a loan, as listed property generally pays out attractive distributions. The benefits of gearing are generally known to investors and it is a device employed when purchasing residential property.
