As with any asset class, real estate investing carries its own set of industry specific risks. Whether you’re investing into commercial real estate or residential rental property, there’s always a chance of coming up short in terms of returns, and it’s not difficult for a first-time investor to end up in a deep financial hole.
REI identifies three of the most common risks that property investors face in South Africa and looks at some of the strategies that they employ to mitigate them.
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1. SYSTEMATIC RISK
Markets are always in flux and will experience several ups and downs related to the local economy, geopolitics, interest rates, and other market trends. While it’s impossible to fully insulate yourself from these risks, there are ways to lessen its negative effects. A common way to lower risk is to diversify and invest in different types of properties in different geographical areas. South African cities tend to have their own boom and bust cycles.
Having assets in multiple markets reduces risk from market downturns in one centralised market, however, it’s important to note that buying properties in different locations might diversify market risk to a partial extent, if the wider real estate market falls, diversification is unlikely to alleviate the systematic risk successfully. In the current global economic climate, it is wise to diversify the portfolio to included assets that are not directly related to the real estate market, this could be in government bonds or stocks representing industries that are independent of the real estate market.
2. LIQUIDITY RISK
The property investor generally needs to have a long term outlook as the main disadvantage of real estate investments is the lack of liquidity compared to other types of investments such as mutual funds. By REI Editorial MITIGATE INVESTMENT RISKS 38 APRIL 2022 SA Real Estate Investor Magazine Investors need an honest interrogation of their personal financial situation and have a clear idea of strategic exit timelines.
They should also exercise caution when planning for a holding period that could be longer than expected. It is also possible to mitigate liquidity risk by investing in areas with rising demand and limited supply to ensure that they do not suffer a loss when facing the pressure to sell.
3. RISING INTEREST RATE RISK
Rising interest rates are a reality here in South Africa, and they give rise to the risk that the potential for future inflation will cause the purchasing power of cash inflows from an investment to decline. To counter inflation risk, one should look at investing in assets that tend to increase in value over time, and have a growth component that enables them to outperform inflation over the long term.
Successful property investors know that well-located South Africa real estate is a relatively secure and effective inflation hedge over time. Investors should be looking at areas where there are multiple growth drivers such as economic growth, jobs growth, and increasing populations. Forewarned is forearmed Investing in real estate with the right knowledge,clear strategy and perspective can shift the risk-reward continuum in the investors favour.
By practising prudence and diligence, investors can benefit from the relative safety, security, and low volatility of this asset class while avoiding undue risk. Please note that the information provided is general in nature and should not be perceived as personal investing advice.