The worst properties to buy in an uncertain market

After some wild price growth in some areas (we’re looking at you, Sydney) and falling prices in others, there is currently some correction and stabilisation occurring in the property markets Australia-wide.

While these conditions always create an uncertain environment for investors, there are two property sub-markets that are particularly vulnerable in fluctuating environments.

While these markets might look attractive on paper, they can present significant risks for investors.  

As always, knowledge is your best defence against error, so let’s have a look at these “worst markets” and why they pose a risk to investors.

Off-the-plan apartments

While buying off-the-plan isn’t inherently bad in every circumstance, the risks are often much higher, for several reasons.

Firstly, when you buy off the plan, you’re locking in a purchase price at what is meant to be the current market value of a dwelling that won’t be completed for several months, or even a year or two.

Of course, you hope the property will increase in value during the construction phase and by the time it’s completed you have a little nest egg of equity already in place.

However, that’s not what has been happening over the last few years and, disappointingly for the buyers, on completion most off-the-plan properties are valued at considerably less than the contract price.

In my mind you should get a discount for all the uncertainty that goes with buying a property that has not been completed, but instead marketing costs, agent’s commissions, developer’s margins and GST add a premium to the price.

That together with the banks’ reluctance to lend as much on this type of property and you’ll need to be able to immediately front the shortfall between the lender’s revised mortgage amount and the purchase price.

Plus you’ll often find hundreds of identical apartments listed simultaneously for sale or lease which will only add fuel to the fire, potentially lowering values further.

And if you purchased to sell at a profit, you might have to reduce your sale price just to stay competitive in a market flooded by investors with the same idea.

At worst, you might find yourself having to hold onto the property, if there aren’t enough buyers in the market.

The fact that off-the-plan properties mainly appeal to investors rather than the deeper owner occupier market, means that’s it’s a property sector to clear of at present.

House and land packages

For similar reasons, investors should tread carefully around house and land packages.

They share the same vulnerable characteristics as off-the-plan apartments, in that values can fall during construction, leaving buyers with a gap to pay on completion.

In addition, while you’re getting a shiny new investment with great depreciation benefits, you’re also paying a premium price and don’t have the potential for value-adding to your investment.

That means you’re relying solely on market movement to gain capital and earn equity which is unlikely because the demographic who buy in these locations are usually interest rate sensitive.

And while they tend to be hard workers, young family’s wages tend to rise by CPI at best, meaning there is little momentum to push house prices higher.

How should you approach these markets?

In essence there are safer options available than purchasing off-the-plan properties and house and land packages; ones that aren’t so vulnerable to changes in market conditions.

I prefer to buy established apartments, townhouses or houses in the inner and middle ring suburbs of our capital cities where there is a strong demand from affluent owner occupiers who can afford to and are willing to, pay for them.

These properties tend to have the essential pillars of growth: Near great infrastructure and transport, proximity to large job centres, the ability to purchase at fair market value (rather than at a premium) and the option to “manufacture” growth through improvements.

Without a flood of similar properties on the market, as is common with new developments, competition amongst buyers and renters will drive prices and rentals. This is a foundational growth factor that can be absent in off the plan markets.

For mine, there are too many risks currently in the off the plan and new house markets for property investors.

Michael Yardney is a director of Metropole Property Strategists, which creates wealth for its clients through independent, unbiased property advice and advocacy. He is a best-selling author, one of Australia’s leading experts in wealth creation through property and writes the Property Update blog.