One of the most interesting things I do is meet many investors every week (i.e., prospective clients). It is something that I have been doing regularly for almost 20 years, so I’ve literally spoken to thousands of investors.
It is interesting because it provides me with the opportunity to reflect on peoples past investment decisions with the benefit of hindsight. There are some common themes. People tend to make one of a handful of mistakes. I think past mistakes provide very valuable learnings.
Property mistakes are predictable from the outset
I believe that all financial “mistakes” are completely avoidable. Virtually no financial mistakes (i.e., losses or underperformance) occur because of random bad luck.
They are avoidable if you follow an evidence-based approach. For example, if your share investing methodology involves buying highly speculative stocks, then you only have yourself to blame if you don’t make any money after several years, because the evidence shows that speculation has a very low probability of generating reasonable returns over the long run.
Therefore, based on my 20 years of experience, if you commit one of the mistakes below, there’s a very high probability that you’ll end up with a dud investment. Conversely, if you avoid all these mistakes, you maximise your chances of success.
I must remind readers that I am completely independent. We do not buy property on behalf of clients, so I have no vested interest in you following the below advice. I am merely sharing what I have observed over the past two decades.
(1) Buyers’ agents buying outside of their domicile State
It is becoming more common for buyers’ agents to buy property interstate for clients. For example, a Sydney-based buyers’ agent might buy property in Brisbane. In my view, this is a no-no.
One of the most important things I hope to benefit from when engaging the services of a buyers’ agent is their experience. I know that selecting the right property is part-art and part-science.
The science part incudes all the objective considerations such as past growth, location, land size, land value, zoning/restrictions and so on. The objective assessment is driven mostly by data and a lot of this data is now available for a small cost online. I probably don’t need to pay a professional to collate such data.
However, the art part of selecting a property is obsoletely critical. It requires local area knowledge. Things like, one side of a particular street under-performs, or a block of apartments has always experienced management problems. Or tenant turnover is too high because too many cars get broken into. These are all real examples that I have come across. If I am going to engage a buyers’ agent, I want them to have more than 10 years’ experience in buying property in a particular location. That will ensure they have experienced a few market cycles. They have learnt from past mistakes (we all make mistakes in the first years of practicing our craft).
Given the subjective nature of property, experience is crucial to ensure you don’t make any costly mistakes. The more experience, the better.
(2) Buying a development site without sufficient due diligence
Some investors are attracted to developing property e.g., small-scale development such as building two or three townhouses. In theory it seems like an attractive way to make a quick profit. But it’s certainly not hands off and not without risk either.
Unfortunately, a more recent trend I have come across involves investors buying development sites without undertaking enough due diligence. This has happened even if they used a buyers’ agent or not, which is unfortunate. Obviously, they used the wrong agent.
When undertaking due diligence on a property development, it is very important that you allow for cost overruns and unforeseen expenses (i.e., a contingency). A property development must have a large enough profit margin to cover these risks and give you a sufficient reward for your effort and risk. Make sure you receive advice from an experienced and reputable buyers’ agent and if you have any doubt, seek a second opinion from an independent party such as an accountant.
In addition to the development due diligence, it is obviously critical that you can afford to fund the development. I know this sounds obvious, but unfortunately, I’ve come across a couple of investors that have developments which they cannot fund. Financing is always a risk, as borrowing capacities can change. Also ensure you have enough buffers in place to provide for a contraction in borrowing capacity.
(3) Buying newly (or not yet) constructed property
Newly constructed property never makes a good investment. I wrote about this 5 years ago and the advice remains unchanged. I have never seen a client enjoy good capital growth over the long term from investing in newly built property (which includes buying property off-the-plan).
The reason for this is simple. Newly constructed properties are mostly building value. The underlying land value tends to be a small portion of the overall value. As such, they don’t have the attributes to drive long-term capital growth.
I would never invest in a newly built property. I’d rather stick pins in my eyes!
(4) Placing too much emphasis on rental income
Last week, I wrote a blog about the importance of prioritising growth over rental income when selecting an asset. In fact, I would say that rental income is a distant second to growth in terms of importance.
Unfortunately, too often I see investors try to balance both. As a result, they end up buying a property further away from the CBD to get a larger home within their budget (and therefore more rental income), or they buy a building-value heavy asset. My financial analysis demonstrates that in the long term, that is a mistake. The maths does not lie – trust the numbers.
(5) Not getting any advice
It is easy to make a mistake when selecting an investment property if you don’t have 10,000 hours of experience. That includes buying the wrong property or incorrectly deciding to not buy the right property i.e., missed opportunity. It is obvious that a “mistake” will cost a lot of money – either because you must sell and replace the asset in the future or due to missed growth (opportunity cost). A 1% p.a. differential in growth rate over 30 years results in over 30% more or less value.
My thesis is that you should take all reasonable steps to increase the probability of buying an asset that will deliver the highest capital growth rate over the next 20-30+ years. And one of the best things you can do is seek advice from an experienced, and reputable buyers’ agent. It’s not a guarantee. But someone that has been operating in a specific geographical market for 10+ years is likely to know a lot more than you.
The way I look at it is that I will pay a buyers’ agent a large fee today to maximise my growth in 30 years. And if they are successful in buying a property that will deliver 1% p.a. additional growth, I have probably generated over 8,000% return on my money (i.e., buyers’ agent fee versus additional growth. That seems like a good return in my view.
Please avoid these mistakes
“Learn from the mistakes of others. You can’t live long enough to make them all yourself.”
– Eleanor Roosevelt
Hopefully, these insights and observations help you learn from other people’s mistakes.
