It can be easy to get lost in the jargon when researching a property investment opportunity. Which is why we’ve come up with a clear explanation of the fundamentals, and how investors can apply these metrics to their own situation.
To develop this guide, we sat down with Alex Reithmeier, DPN’s in-house researcher and property economics guru. It is Alex’s job to identify the next emerging growth areas, looking carefully at value, potential for capital growth and also rental yield.
We will start by explaining how these metrics are calculated and why they are important.
We monitor the many property markets across Australia to identify the best combination of total returns for our clients.
Similar to a dividend a shareholder receives, rental income from an investment property is a regular payment. Representing yield as a percentage is a useful way to compare one property’s performance against other, or to compare it with other property options and asset classes.
Here’s how to calculate gross rental yield:
Sum up your total annual rent that you would charge a tenant
Divide your annual rent by the purchase price of your property
Multiply that figure by 100 to get the percentage of your gross rental yield
A good rental yield for property is 4.0% to 6.0% per annum.
When a property appreciates in value, say from $800,000 to $1,200,000 over a period of time, we call this capital growth, and, in this example, growth of $400,000, in percentage terms is a 50% gain on the original investment.
Capital growth is most frequently expressed per annum, as a percentage.
When you’re already in the market you can compare the capital growth of your property by looking at the purchase price compared to its current value. But if you’re looking to get into the market, how can you get an indicator of a property’s future growth?
DPN has access to predictive capital growth forecasts for suburbs for the next 5 or 8 years.
If you’re looking to buy an investment property you should be less concerned with past performance and look to the future. DPN has access to market leading, independent data which provides predictive capital growth forecasts at a suburb level for the next 5 or 8 years.
DPN targets properties for capital growth gains starting at 4.0% per annum, which in addition to their rental yield, affords investors the ability to build wealth.
Total return harnesses both rental income and capital growth to identify the holistic outcome. This is the rate of return for an investment over a particular time period. For property this is the total value of rental income, plus the capital growth of the property.
Total returns = Rental gains + Capital gains
To demonstrate the calculation of total returns let’s look at DPN clients, David and Fran Dunne. They purchased a house and land package to build a Dual Income home in the suburb of Horsley, near Wollongong. This property has delivered strong results with a total return of 9.4%.
This property has delivered strong results for the Dunnes with a total return of 9.4%.
David & Fran Dunne
Dual Income home in Horsley, NSW
$717k in Oct 2015
$922k in May 2021
$910 per week
*See calculations below
Why are total returns important?
Well for starters, total return is good for comparing different asset classes, such as real estate against comparative investments in stocks, bonds or even bank interest, to show the real appreciating value of an asset.
Australian property has historically performed well over a long-term horizon, averaging 10.2% per annum over the last 20 years compared with Australian shares averaging 8.8% p.a.
Australian shares returns v residential investment property returns, with and without gearing
20 years to December 2017 (Source: Russell Investments, ASX)
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The DPN difference
At DPN we monitor the many property markets right across Australia to identify the best combination of total returns for our clients. Typically, total returns are in the 8-11% range per annum for DPN clients - try finding a bank with returns like that!
DPN property investments typically exceed even local suburb performance through our tried and tested methodology:
Identification of high growth areas in Australia to capitalise on infrastructure and population trends.
Focus on houses over units, which historically provide greater capital gains due to a house providing greater proportion of land ownership in its intrinsic value.
Dual income home designs which increase rental return and maximise return off the land price.
Land acquisition on sites which reduce build costs, in locations which are desirable to renters.
Building new, which allows higher rental returns, with the added benefit of being able to claim depreciation for tax deductions.
We hope this has helped you understand what makes a successful property investment so you can evaluate the right metrics and make well informed decisions. As always, we are happy to answer any questions you may have around property data.
Capital gain = $205,000 (922,000 - 717,000). Capital growth = 4.7% ((922000/717000)^(1/5.5))-1). Rental yield = 6.6% (Current yield $910*52 / 717,000). Total Return = 9.4% ($253,000 rent + $205,000 capital gain = $458,000 + $717,000 original price = $1.175m ((1175000/717000)^(1/5.5))-1).
This information is provided by DPN Pty Ltd ABN: 94 630 700 186, Australian Credit Licence 514759. DPN Finance Pty Ltd is an authorised credit representative 504129 and a related entity of DPN Pty Ltd. Casa Capace Operations Pty Ltd ABN: 79 624 981 184, NDIS provider Number 4050038018 trading as Casa Capace.