
By Calum Ross
Special to the Financial Independence Hub
The Problem
Real estate investors often fail to objectively assess their existing portfolios in the same way that a holistic wealth management professional or financial planner would when dealing with equity investments.
Many real estate investors who began their investment careers following sound investment principles have got caught up in the hype and strayed from their core investment principles. When a particular asset class performs well, there is often a sentiment of irrational exuberance that develops around that asset class. When this happens, savvy investors adapt their strategy while others continue to “go with the herd” and experience the eroding effects of inertia.
The problem is highlighted today in two key ways:
- Yield on Toronto and Vancouver Real Estate Has Diminished: Rising real estate prices in these markets have outstripped the increase in rental rates that has eroded yields. This now means many real estate investors are over-weighted in one asset class, and that many new real estate investments are in reality speculative-grade investments because they don’t meet the suggested 3% interest rate cushion to sustain cash flow (a metric outlined in more detail in my recent book on borrowing to invest).
- Investors are Demonstrating Irrational Exuberance and Greed Towards Real Estate: I’m deeply concerned by the number of people who believe real estate values will continue to climb at these uncharacteristically high levels. Not only are current appreciation rates unsustainable, but the fact that rental increases are not even close to keeping pace makes real estate investment even less appealing.
There are too many investing in real estate who are chasing returns through appreciation alone. There’s an alarmingly high net inflow of money to real estate in overpriced markets even as yields continue to plummet.