Monday, August 09, 2010

Low Rental Yields

If you think Vancouver has low yields, check out other figures from parts of Asia, courtesy Global Property Guide:

Taiwan: Price Yields 2.84%
Hong Kong: Price Yields 3%
China: Price Yields 3%
India: Price Yields 3-4%

Those are some mighty poor cash returns, if I might say so. Certainly GPG holds back no punches calling bubbles in all the above countries and territories. Remember these are yields before expenses. In Taiwan, it is likely newly-minted landlords are making a 0% cap rate.

But before we pass off these countries as simply being in a giant asset price bubble fueled by low interest rates, it's worth asking why their yields are so much lower than in North America's. Certainly avid speculation and a lack of perceived viable investment alternatives may play a role. There is one fundamental statistic, however, that can justify lower yields: high rental and income growth rates. While inflation is high in these countries, incomes are continually outpacing inflation by a healthy margin as they play catch-up to the developed world. (Albeit Hong Kong is pretty darn first world!) This in turn increases the present value of future cash flows and justifies a lower present-day yield. This is a similar concept why single family dwellings in areas experiencing density increases have low yields: their future cash flows due to re-development will outpace expected rental growth of the current structure.

Rents in Hong Kong increased over 6% last year; in addition, it is estimated 90% of mortgage loans are variable rate, with the variable rate currently around 2% or so. But it is worth noting rental yields have been low for a long time, what Global Property Guide analysts attribute to the wealthy using property as a method of diversification. Though if rents are increasing at a healthy pace, there may be more to it than diversification. In addition, while the "wealthy" certainly have the luxury of throwing a few % of their net worths into real estate, the majority are blithely going along for the ride with a significant and relatively undiversified portion of their net worths.

It helps to look at these Asian countries' property markets since a large number of buyers and sellers in the Vancouver area originate from these countries. It gives us some perspective of the attitudes and comparables these buyers are using when determining the value of North American (and specifically Vancouver) real estate. That said, I have some concern that the economics that, in part, can reasonably justify lower rental yields in certain countries are being improperly applied to North America, where wage growth is limited close to inflation.

6 comments:

takloo said...

Vancouver and Toronto are close to the bubble category by this measure... 4-5% yield

I own a condo in an affluent Toronto suburb and had it rented from 2007-2009... with negative monthly cash-flow (with only 10% down)!

the situation is much worse now... my condo has gone up 40% but the rent has barely moved!

patriotz said...

So why haven't you sold it?

One factor that has to be considered is interest rate risk. Hong Kong has a convertible currency with a fixed exchange rate against the USD. This means that HK has NO control over interest rates and rates could increase considerably if fundamentals dictate. Such risk should result in higher yields all other things being equal. HK had a 50+% real bust in the late 90's and you'd think people would know better.

China's in a bit better position, it has a quasi fixed fx rate without convertibility. Taiwan is floating (officially) and convertible. But in both cases one would think monetary policy would be oriented toward trade, not the RE market. In other words the PTB would be less worried about a housing bust than over here.

China has already shown ample evidence of this - the measures they've taken and language used would be unthinkable here or in the US, where the masses think prosperity can be based simply on high RE prices, and the politicians openly agree (whatever they may actually think).

JimTan said...

Fair comments.

One point to note. The high-price low-yield places tend to be politically stable. Therefore, risk premium is low.

The struggling places with high yields reflect high risk and low capital accumulation.

jesse said...

Jimtan, I think the "risk premium" note is important on two fronts. First yes there is a premium vis a vis other jurisdictions (China I'm not so sure) but second there is a perceived, and perhaps real, notion that other available investments are too risky and unregulated.

On the risk front a family member told me of a friend he has in Malaysia who owned a flat there in the '80s. He went on a 3 week vacation and returned to find his neighbour knocked down the walls and turned it into a double size flat. It was tied up in the courts for years. Needless to say Malaysian rental yields are higher. :P

Larry said...

Good for Canada for having low rental yields, and speaking of rental, I just had an vacation at Niagara Falls and I just got myself a room at the New York apartment rental (short term) which was very economical for the whole family.

With the same comfort as staying in your own house, the short term apartment rentals (New York) just hit the spot on these kinds of things.

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One factor that has to be considered is interest rate risk. Hong Kong has a convertible currency with a fixed exchange rate against the USD. This means that HK has NO control over interest rates and rates could increase considerably if fundamentals dictate. Such risk should result in higher yields all other things being equal. HK had a 50+% real bust in the late 90's and you'd think people would know better......

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