The investment prospects for the buy-to-let sector continue to be challenging. Although the industry has created a significant amount of wealth for a large number of individuals in recent years, its outlook appears to be difficult.
For example, yields on property have fallen substantially in recent years, while there may be an opportunity cost from failing to invest in other assets such as the stock market. And with there being an ever-present concentration risk from undertaking buy-to-lets, now could be the time to look elsewhere for high long-term returns.
Low yields
With house prices having enjoyed 25 years of almost uninterrupted growth at the same time as wage growth has been relatively low, it is perhaps unsurprising that yields have generally fallen. Although rents in many areas have risen, they have failed to match the seemingly insatiable rise in house prices that has caused affordability to become an increasingly relevant issue for first-time buyers.
For new buy-to-let investors, past rises in house prices mean that the returns available are relatively low. While low interest rates may mean that a high yield is not necessarily required in order for rental income to cover mortgage costs, over a five or 10-year timescale this may not prove to be the case, since interest rate rises are expected to occur over the medium term.
Concentration risk
Concentration risk has always been a challenge facing buy-to-let investors. Due to the significant costs in buying even one property, it means that investors in the sector are likely to only have a small number of properties in their portfolio. In fact, in many cases, they may have just one property which they rely on for a second income, or which forms a large part of their retirement plans.
This could prove to be a risky strategy, since having only a small number of assets within a portfolio may mean that a failure to collect rent on just one asset for a period of time may lead to significant losses. Likewise, an extended void period between tenants or issues with the property itself in terms of repairs that are required may impact negatively on an investor’s quality of life. In contrast, other assets such as the stock market make diversification simple and relatively cheap.
Opportunity cost
While house prices are relatively high at the present time, other assets such as shares could offer better value for money. As such, investing in property may lead to a significant opportunity cost for an investor, since the returns available elsewhere may be higher over the long run.
As ever, markets and asset prices move in cycles. With the FTSE 100 having failed to offer much capital return in the last two decades and property prices moving higher during that time, there could now be a new era where shares outperform house prices. Therefore, now may prove to be a good time to switch between the two, with the risk/reward ratio of shares seeming to be more appealing than that of a buy-to-let.