Buy To Let

Buy to Let and The Housing Market Crash

by Peter Parsons

Over the last few years, most investors who have tried 'buy to let' (buying additional properties in order to rent them out) have profited spectacularly as the property market in most of the world boomed like never before. Historically unprecedented property prices in the USA, UK, Australia and most of Europe have made the concept of becoming a landlord look like an easy route to riches.

Of course, there really isn't any 'free lunch', and the situation now, as property markets start to crumble around the globe, isn't looking quite so good for amateur property speculators. Historically, booms of this magnitude are followed rather predictably by equally large crashes, and the smart property landlords evacuated the market over a year ago, selling at the peak to amateurs lured in by the prospect of easy money. These amateurs have typically paid way over the odds for their rental investments, and are in many cases having to subsidize their tenants (i.e. the rent doesn't cover the interest-only payments on the mortgage!). They did this on the promise that future property price appreciation would justify the monthly losses they make by subsidizing the tenant (Ed's note - a pro landlord would NEVER subsidize a tenant in ANY circumstance - yield is everything).

Buy To Let Landlords

So what's a newbie Landlord to do? Paid too much for a property, tenant's rent not even covering the interest on the mortgage and property prices likely to slip a dismal 30% or so over the next 5 years... is it harakiri time? No! There IS a way out, a way so obvious you have probably overlooked it.

Sell the property. Simple, huh? In theory yes, but not in practice. Right now, NOTHING is selling. Solution? DROP THE PRICE. You may have to take a 15% or 20% loss on the property now in order to get rid of it. Why on earth would you do this, I hear you ask, after all, aren't you in it for the long term? of course you are. But you must also treat it as a business, so let's look at the business case for the justification.

The property market has begun the downswing. Like an ocean going tanker, the market is slow to change direction, but when it does, it's going the opposite way, and for some time. The market ALWAYS punishes 'irrational exuberance' - that's almost a definition of a market. It could be anywhere between 3 and 5 years before this downswing bottoms out, and over that time, a 30% correction is probably the 'best-case' fall one can expect (this would take prices back to the long term mean. In reality they may even undershoot and fall further). After that, it may be another 3 to 5 years before prices once more claw their way back up to the highs of 2004.

Now let's be optimistic, let's hope it takes only 3 years down, and 3 years back up. Over that 6 years, you will be subsidizing your tenant each and every month, will be responsible for repairs, taxes, finding new occupiers, and all the hassle that a person would normally expect to get paid for. And you will be doing it for nothing. Nada. Zilch. If you are subsidizing your tenant to the tune of 20% or so (a common figure at present according to industry figures) this means you will effectively have lost about 9% of your investment anyway as the 6 years unfold in all their predictability. Add on the lost opportunity cost of using your money more effective over the 6 years, and you can realistically double that figure BEORE you look at all the hassle and heartache of being a landlord. In other words, pretty much the same cost to you as selling now at what looks like a bad loss.

Buy To Let Alternatives

The alternative? You are free to get on with life, and try to find some other way to make money. Additionally, if you manage to sell now, even at a 20% loss, it will probably fall at least another 10%. This means that you can buy again in 3 years time at the lowest point of the crash, and recover your losses in the 3 years that would follow, making a healthy 10% or so whereas as things stand you will only be clawing back to break-even by 2011. And the icing? Buying at the low in 3 years time means a smaller mortgage, which means lower interest payments, which means a respectable yield!. The calculations are quite complicated, but put simply, taking your medicine now in the form a of a 20% hit could mean that in 6 years time you are up perhaps 40%. The choice of course, is yours. And even if you decide to hang on for grim life, there is always a chance that you might make it out the other side with a small profit some time in the next 10 years or so. Best of luck, Landlords!

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