Rentals struggle to outsmart inflation

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19 Nov 2012

Investments in the domestic rental market are not currently able to deliver yields above inflation levels, according to the latest PayProp Rental Index, although increasing house prices are putting upward pressure on what is currently a rather flat rental market. 

Gross rental returns are, however, not the best way to compare property returns, as property assessment rates, sewerage and refuse collections are often left for the landlord to pay. This, along with a home maintenance cost index and agent income, must also be subtracted.

According to Louw Liebenberg, PayProp CEO, the good news is that investors’ total return on their investments, including the capital value of their properties, is at its highest level since September 2011. 

The average year-on-year increase in rental income currently stands at only 3.9%. 

Using Absa medium-sized house prices, PayProp has developed a gross rental yield index. This index is recording gross rental yields of 6.1% for the month of September. It is up from 6.0% from a year ago, but also slightly lower than at beginning of the year when returns were closer to 6.4%. 

The 6.1% gross rental yield is fairly constant and has not changed by more than 0.1% in the last four months. These gross yields have also remained fairly constant between 5.5% and 6.4% over the last three and half years, and at present are better than yields in a bank account where investors can expect to get only about 5%. 

Gross rental returns are, however, not the best way to compare property returns, as property assessment rates, sewerage and refuse collections are often left for the landlord to pay. This, along with a home maintenance cost index and agent income, must also be subtracted. 

Total deductions for a landlord on the average property are estimated to be R1 488 per month. This lowers the gross monthly rental from R5 221 to R3 733 per month. 

Nett rental excluding maintenance would leave a yield of 4.4%. However, not doing maintenance would lower capital returns on the property.  

Rental yields. Source: PayProp and economists.co.za

As can be seen in the graph opposite, the rental yields have remained relatively flat for more than three years now despite increases in the price of a medium-sized house and steep raises in assessment rates and other municipal services. 

This indicates that landlords try and (in the main succeed in) passing on municipal and house price increases to renters; albeit over the long term rather than the short term. 

However, net rental yields have remained far below interest rates that investors can get in the bank, as well risk-free government bonds. At stages over the last four years, net rental yields were half the risk-free rate which, for government bonds, was 6.5% for September 2012 for the 10-year bond. 

However, rents are only one part of the return that landlords will get over time. Adding capital value increase to the net rental (including maintenance) shows that total returns were 6.7% in September 2012.  

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