Research report: Performance review of investment-grade apartments

It is my observation that investment-grade apartments in Melbourne have under-performed (from a capital growth perspective) compared to houses over the past 8 to 10 years.That is, apartments have generated very little capital growth (sometimes none), whereas houses have grown in value by between 5% and 8% p.a. over the same period.I have prepared a detailed report investigating the factors that have contributed towards this capital growth performance gap. Whilst I have focused my analysis on the Melbourne market, many of the factors identified and discussed have had an impact in Melbourne and to a lesser extent, Sydney.I provide a brief executive summary below. I invite you to download a copy of the full report (link is at the bottom of this page).We know that property growth tends to occur in cyclesThe chart below sets out the distribution growth in the median price of apartments in Sydney, Melbourne and Brisbane over the past 40 years.It is clear that growth cycles tend to last between 5 and 10 years (although Brisbane between 1980 and 2002 is the main exception). This is constant with what I have observed for houses, as previously charted here.Chart 1We need growth of circa 9% p.a. to make up for the under-performanceIf you purchased an apartment 7 years ago for $600,000 in Melbourne, it may be worth $650,000 today. Most people would (and should) be disappointed with receiving only $50,000 of capital growth over 7 years. Applying the change in land values (as implied by the actual change in house prices) to apartments, one could argue that the intrinsic value of this apartment may be closer to $900,000. This intrinsic valuation is illustrated by the blue dotted line in the chart below.I calculated that this apartment would need to generate an average capital growth rate of 9.2% p.a. over the next 10 years to “make up” for its past under-performance (i.e. to grow from value A to value B).That is, the value of the apartment would need to increase from $650,000 to $1.55 million over the next 10 years. Whilst that might seem unrealistic, we note that apartments have delivered growth above 9.2% p.a. in the past, as illustrated in the chart above.Dramatic increase in supply of new apartments between 2008 and 2018It is likely that the increase in supply if new apartments (i.e. new construction) has been the main contributor to the low levels of capital growth. When supply equals demand, price growth does not occur. However, when demand exceeds supply (like it has in the housing market), this imbalance contributes towards price appreciation.The chart below sets out the number of residential unit constructions commenced per quarter. This trend data is provided by the ABS and is seasonally adjusted. In the main, supply began increasing in 2008/9 but has started to taper off around 2017/8.This increase in apartment supply is evidence in investment-grade suburbs too. The next chart below sets out the proportion of apartments listed for sale compared to houses in a selection of investment-grade, blue-chip Melbourne suburbs since 2011 (when the data series began).As you can see, in 2011, on average, 60% of properties listed for sale in these suburbs were apartments. By 2017, that proportion increased to 78%. Importantly, the proportion of apartmMy new book is available for pre-order now: Pre-ordering the book will help me get it into bookstores. So please do me a favour - please consider pre-ordering now - links and pre-order bonus are available here: https://prosolution.com.au/book-preorder-bonus Do you have a question for the podcast? Email us at [email protected]. If you're interested in working with our team and me, discover how we can work together here: https://prosolution.com.au/family-office-servicesIf this episode resonated with you, please leave a rating on your favourite podcast platform. Subscribe to my weekly blog: https://prosolution.com.au/stay-connected IMPORTANT: This podcast provides general information about finance, taxes, and credit. This means that the content does not consider your specific objectives, financial situation, or needs. It is crucial for you to assess whether the information is suitable for your circumstances before taking any actions based on it. If you find yourself uncertain about the relevance or your specific needs, it is advisable to seek advice from a licensed and trustworthy professional.