Chapter 10: Property Flashcards
SYSTEEM T- direct property
1> Security (default risk)
- Depends on tenants quality
- risk of ‘voids’ - periods where property is not let
Other risk:
> Obsolescence - of buildings : Expenditure in modernization
> Government intervention: Rent and planning controls
2> Yield (real or nominal, expected return)
>Real return=> expected broad inflation hedge
> E[R]> Return on indexed-linked government issued bonds
Because property:
- less marketable, less secure
- Does not provide exact hedge against inflation
- More expensive to buy, sell and manage
- Indivisible
- risk of obsolescence / depreciation
- Running rental yield varies by type of property
. Running yield - rental income(net of all management expenses) / Cost of purchase (gross of all purchase costs)
3> Spread (volatility of market value)
- Volatile capital values in the long term
- Stable capital values in the short term
4> Term (short, medium or long term)
Freehold - perpetuity
Leasehold - 99/999 years
5> Expenses
- High dealings and management costs
6> Exchange rate
- Holding a property in a different country
7> Marketability
Direct property - may be very unmarketable:
- Large unit size - Indivisibility
- Uniqueness
- Property valuation is both subjective and expensive - infrequent
8> Tax
In SA:
Tax on capital gains and rent income
✓ Risks of voids
✓ Political interference
✓ Risk for obsolescence + need for refurbishment
✓ Income forms a stepped pattern over time
✓ Subjective in frequent valuations, lack of information
✓ Large unit size=> indivisibility
✓ Uniqueness
✓ Characteristics can be changed by owner=> redevelopment
On what factors would a prime property score high? (nCALL STreet)
nCALL STreet
1> the number of Comparable properties to determine the rent and rent reviews and for valuation purpose
2> Age, condition and flexibility of use
3> Location (transport links, proximity to workforce etc)
4> Lease structure
5> Size
6> Tenant quality
What are disadvantages of direct property investment? (SDL VE)
1> Size
- many properties are too big for most investors to afford
2> Diversification (linked to size)
- many properties are need to create a well-diversified portfolio
- The size of each investment might make this impractical for smaller funds or individual investors
3> Lack of marketability:
- the time taken
- and costs associated with buying and selling make properties unmarketable
4> Valuation
- Property values are never known until sale
- Estimate of values can be expensive
5> Expertise needed
- Much of the profit to be made through property investment comes through detailed local knowledge
- Many investors will not have specialist expertise
What is freehold ownership of a property and what are the rights and restrictions on the freeholder?
Freehold ownership: Ownership in perpetuity, meaning the owner possesses the property and the land it sits on indefinitely.
Rights of a freeholder:
i. Occupy the building or lease it out to others.
ii. Refurbish the property or develop it further, subject to regulations and permissions.
Restrictions on freehold ownership may include:
i. Covenants: Agreements or conditions that restrict the owner’s use of the property or require certain actions, such as maintaining shared spaces.
ii. Easements: Rights granted to others, like rights of way, that affect the property.
iii. Planning and building regulations: Local and national rules governing the use, development, and alteration of properties.
iv. Statutory requirements not to cause nuisance to others: Laws that prohibit property owners from engaging in activities that cause unreasonable disturbance or harm to neighbors.
What is a lease
and how does a leasehold property differ from a freehold property from an investment perspective?
Lease: An agreement where the leaseholder has the use of a specified portion of a building owned by another party (the freeholder) for a specified period in return for a payment.
Payment: Often in the form of annual ground rent.
Leasehold differs from freehold from an investment perspective because:
i. Leasehold has a fixed term, unlike freehold, which is owned indefinitely.
ii. Leasehold may involve a capital loss to the leaseholder at the end of the lease.
iii. Leasehold properties might offer a higher initial rental yield compared to freehold properties.
Long leases, such as those for 99 or 999 years, can be considered close to freehold interests from an investment standpoint due to their extended duration
What examples of indirect property investment?
1> Open ended scheme=> property unit funds
2> Close ended schemes=> property investment trust
3> Share in property companies - (can be property developers or property investors)
4> Listed JSE REITs
- The JSE lists Real Estate Investment Trusts (REITs) - which are companies that manage, operate and own a real estate portfolio consisting of income-producing property
Describe the cashflows occurring when investing in property company shares?
> An investor pays an initial lump sum to purchase the shares
> In return, the investor receives a stream of dividends during the period when they own the shares
> And a final lump sum at the point they sell the shares to another party
> The amount paid for and received for the shares will be set by supply and demand for the share among investors, as for other equities
> The amount of dividend will be set by the property company each year and will depend on the company’s profits
> For a property investment company, these profits will be generated by the excess of rental income over expenses
> For property development companies, the profits will also reflect the costs and profits of development
Define net asset value per share
> Net asset value per share is the value
of the company’s net assets divided
by the number of shares.
Net assets in this definitions means asset net of liabilities. Also net of intangible assets
Property share trading at discount to NAV
Normally property shares stand at a discount to NAV
The discount to NAV reflects:
1> Any difference between the way in which investors value share and the way they value property
2> Risk of forced sale due to cashflow requirement - cashflow requirements result in property companies being more likely to be forced sellers of property than institutions undertaking direct property investment on their own account
A smaller discount, or possibly even a premium, to NAV is possible where:
1> the market has positive view of developments giving the potential for capital gains
2> the valuations underlying the NAV are conservative
3> the property company has a good management track record
What are the relative merits of direct property investment(CUT FLADN UI) compared with indirect property investment( MADE DAPPER) (property company shares)?
1> Direct property
C - Control
U - Utility value
T - Tax advantages
F - Forced selling risk reduced
L - Lower volatility (short-term)
A - Avoid management fees
D - Diversification away from the stock exchange
N - Not exposed to high risks of property
U - Unaffected by high volatility caused by gearing or discount to NAV
2> Indirect property
M - Marketability better
A - Access to larger, more unusual properties
D - Diversification within the property market
E - Economies of scale => large share properties
D - Divisibility
A - Avoid direct property expenses
P - Professional expertise of company managers
P - Potential excess return (volatility)
E - Easier valuation - quoted markets
R - Tax advantage
