Which Is Better? A Net Yield Of 19%…Or A Surer One Of 5%?
Yields. That remains the name of the game for most experienced real estate investors right now.
Some I know are still chasing capital appreciation…looking for undervalued markets they think will spike in the next 12 to 18 months. Chasing growth in the real estate world right now, especially big growth short-term, is risky and unrealistic. Taking a very long-term view, you could put some of your real estate portfolio into investments for big capital appreciation, but yield-generating property is a better play right now.
But what is a good yield? My general range of acceptance is a net yield of 5% to 8%. Note that I’m talking about net yields. Many real estate agents and property marketers talk about gross yields. Gross yields, however, don’t tell you the whole story and therefore don’t allow you to compare yields across markets.
Compare a gross yield in Country A of 10% to a gross yield in Country Z of 15%, and you might think that Country Z is the place to put your money. But what if Country Z charges high property taxes and higher management expenses? Bottom line, you could end up with a net yield of 8% in both cases. With the net yields being equal, you have to look more closely to decide which place makes more sense for your investment.
A friend invested in a project in the Philippines early this year that was projecting 19% net yields based on the price at which he bought in (they increased prices throughout development, and the yield projections eventually dropped to 15% for the final sales).
I was skeptical as to how any legitimate outfit could project that level of return. After reviewing the due diligence my friend had put together, which was very thorough, however, I was convinced that the projections probably weren’t far off, thanks to a couple of extraordinary circumstances.
At the other end of the scale, you can pretty easily find reliable rental investments in France paying out net yields of 4% to 5%. I’m thinking of condo-hotel properties that are part of this country’s French Leaseback program.
With a Leaseback, the management company signs a long-term lease with each unit owner for a set net annual amount (payments are made quarterly). You’ve locked in your cash flow for the term of the lease (the initial lease is typically for nine years).
Which of these two things is a better investment? Most investors would jump on the Philippine investment over the French one, thinking that a double-digit yield is surely more appealing than one of 4% to 5%. Who doesn’t want to earn four times as much on his capital if given the option?
But what about the other risk factors?
In both these cases, you have currency risk; however, your currency risk against the Philippine peso is probably greater than it is against the euro.
I’d say the Philippines comes with more what I term “market risk.” Market risk in France would be very low. This is the world’s most proven tourist market, probably the safest place on earth to invest in a tourist rental.
The resale risk for the Philippines investment is unknown, as this was a new project in an emerging resort area. In France, again, I’d say the resale risk is low. The Leaseback program has been around for nearly decades, and an active resale market has developed among investors looking to buy operating Leasebacks already throwing off cash flow.
Finally, the Leaseback properties come with an inflation clause in the rental agreement, meaning your yield, modest as it is, is adjusted upward for inflation throughout the term of your lease.
Which of these two yield plays is the better investment?
That depends on your personal circumstances, on your level of risk tolerance, and on the make-up of your portfolio overall.
Are you shopping for safe returns (the French Leaseback is about as safe as international real estate investing can get)? Or are you looking to speculate a little with the hopes of bigger gains?
Best case, of course, would be to balance your portfolio with both plays.
Lief Simon
