Perhaps you've already begun your investment journey with stocks, shares, cash and term deposits, but you are balking a little at the prospect of entering into the world of real estate. Property is an integral part of a diversified portfolio, and has a number of benefits that other investment types simply can not deliver.
The importance of diversification
Diversification is considered incredibly important for a successful investment portfolio. It essentially allows you to hedge your bets with the various markets you invest into so that a drop in one does not result in you losing all the money you have invested. If you invested all of your money into shares from a single company, and that company went into bankruptcy, you would find that you have lost a great deal of capital as a result, possibly affecting your viability in the investment market as a whole.
For example, in 2012, the Commonwealth Bank reported a drop in the Australian shares market of 9.3 per cent. Global shares also dropped by 2.2 per cent. Someone who had solely invested in shares would have lost a great deal of capital as a result of these drops. However, their data also showed an increase in property and fixed interest of 5.6 per cent and 13.2 per cent respectively. Cash increased by 4.8 per cent as well.
Had that investor instead diversified their capital across a wide range of types, they would have seen their investments balance out instead of seeing a large overall loss simply due to the volatility of the share market. Much like insurance, a well-balanced portfolio enables you to take some measure of risk out of your enterprises.
The benefits of property investment
For these reasons, diversification provides you with risk protection. However, there are certain benefits that property has beyond ensuring you don't have all of your eggs in the same basket.
Your actual residence can also count as an investment for the purposes of diversification.
First of all, property is a good middle ground of risk, allowing for moderate risk for good gains. Stocks and shares can be very volatile, sometimes dropping a great deal from year to year, and then suddenly rising again. Cash and term bonds, on the other hand, can sometimes gain less than inflation, resulting in a net loss overall rather than a net gain.
Property, according to the Australian Securities and Investments Commission, can be less volatile than shares and other investments. You can also earn rental income, providing a consistent passive income.
Remember, your actual residence can also count as an investment for the purposes of diversification, so make sure you don't throw every penny you own into buying or improving your own home. Taking out an additional mortgage in order to purchase a second property purely for investment can be a wise decision. First you must figure out how much you can borrow.
Residential and commercial
The typical property owner may only consider buying into residential property: after all, many people consider themselves good judges of what a desirable house is. However, diversification is also key here. Sometimes you will find that residential properties drop in value, but commercial properties may remain unaffected by this market flux.
For example, the National Australian Bank reported that in the second quarter of 2015, their residential property index dropped four points, but the commercial property index increased five points. Those investors who had both commercial and residential property would have likely seen the drop of one investment being offset by the increase in the other.
There are certain additional factors you must consider when investing in commercial property, however. According to domain.com.au, commercial leases tend to last longer than residential ones and GST applies to business properties, but enterprises also tend to pay higher rents as well having to pay the maintenance costs rather than the landlord.
Investing in different industries and areas
Diversification does not merely exist between investment types, but also within investment types. Much like ensuring you have a wide range of shares across different companies and industries to protect yourself should those enterprises fail, you should do the same with your property.
Diversification does not merely exist between investment types, but also within investment types.
For example, the Australian Bureau of Statistics reported a 3.5 per cent increase in turnover among department stores in October 2015 compared to the previous month, but a drop of 0.6 per cent in cafes, restaurants and takeaway services. Higher returns for the businesses you have invested in means higher rental yield for you, so it always best to invest in a wide range of industries to ensure that new laws and global events don't leech all of the cash out your single enterprise.
In a similar vein, different areas have different value changes. For example, Sydney has had far more significant increases than other cities such as Hobart, and while it may be wise to put a larger amount of capital into Sydney properties as a result, it is still important invest elsewhere in case of market fluctuations.
For more information on how to carefully and profitably diversify your portfolio with property, speak to a local finance broker and ensure that you aren't putting all of your eggs in one dangerous basket.