If you’re just starting out in property investment and you’re not sure which investment strategy is right for you, it’s worth exploring the differences between yield and capital growth.
Understanding the differences can help you work out which strategy is right for you, and therefore the type of property you should be looking for.
What is yield?
Yield – or rental return – is calculated by considering a property’s cost or market value and the annual income it generates.
Yield calculations are worked out by dividing the annual rental income on a property by how much it cost to buy.
Gross yield vs net yield
Gross yield includes everything before expenses. Net yield takes into account running costs, such as maintenance, management fees and insurance. For residential properties, when comparing yields, most people talk about the gross yields, though the net yield is what you put into your pocket.
Gross yield = annual rental income (weekly rental x 52) / property value x 100.
If you buy a property for $750,000 and rent it out for $700 a week ($36,400 annually) the annual return on your investment – your yield – will be 4.8%.
What is capital growth?
Capital growth is the increase in value of your property over time.
While capital growth depends on where and what you buy – and there is no guarantee a property will increase in value over time – historically, real estate experiences steady growth over the long term. It’s about time in the market, not timing the market.
If you buy a property for $750,000 and it has capital growth of 6% per annum
After 1 year it will be worth $795,000
After 10 years it will be worth $1,343,135
Land and building ratios – why they matter too!
Understanding land and building ratios also contributes to the type of investment strategy you should employ, and therefore, the type of property you should look for.
A percentage of your investment goes towards the land; a percentage of your investment goes towards the building. Land increases in value; building depreciates in value. This impacts your property choices.
If you employ a yield strategy, you will be buying more building than land, can expect a higher rental return, and lower growth.
- Land-to-building ratio: 10-30% land: 70-90% building
- Strong yield, lower growth potential
- Strong depreciation benefits
- Seek best location, excluding inner city
- Look for small apartment blocks
- Low maintenance – set and forget
Capital growth strategy
If you employ a capital growth strategy, you will likely hold the property for the long-term, expect stronger organic capital growth, more maintenance, weaker depreciation and lower rent.
- Land-to-building ratio 70%+ land: 30%- building
- Hold for long-term, organic capital growth
- Well maintained older houses
- Seek growth drivers – infrastructure, transport, convenience, jobs and amenities
Part yield-part capital growth strategy
You can also mix these strategies. If you employ a 50-50 yield-capital growth strategy, you can maximise the benefits of both strategies.
- Land-to-building ratio: 50% land: 50% building
- Balance between cash flow and growth
- Good depreciation benefits
- Seek good growth drivers and yield
- Low maintenance – set and forget
As you can see, the strategy you choose will impact the property type, location, drivers and investment benefits.
If you’re not sure what type of strategy would best for you or you would like to learn more about different strategies, why not download our 4 Strategies to Success fact sheet.
If you want more information about property investing, why not read our Get Ready to Invest in Property eBook.
Or, if you’re ready to talk about property investment, why not complete our Getting Started form to get the ball rolling.
If you’re ready to invest and you’ve got any questions about finance, call us for a free Financial Health Check: 08·9381·7450 or download our Finance Services information.