Why cashflow is the ‘fuel’ for your property portfolio’s capital growth

When it comes to building a property portfolio, achieving the right balance between cashflow and capital growth is crucial.

In fact, underestimating the importance of this delicate balance could leave investors in a precarious situation.

“Capital growth is the destination, however, cashflow is the fuel in the tank which gets you there,” Rethink Wealth director Patrick Casey says. He has seen investors come undone after not considering the ramifications of having a negative cashflow while interest rates are low.

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“They get to the point where interest rates go up, costs go up and then they’re actually forced to sell some of those assets because they haven’t balanced the cash flow correctly,” he says. “It means they don’t get to participate in that long-term capital growth.” So how can investors achieve the right balance – especially now that interest rates are on the rise?

HAVING A PORTFOLIO VIEW

Casey says one of the biggest mistakes is to see each property in isolation. “We need to take a portfolio view, and that might mean that some of the assets are more capital growth focused, some are more cashflow focused,” he says. “Ultimately, taking a view over your entire cashflow situation rather than just a piecemeal on a property by property basis.”

When starting out, it’s a good idea to have a clear goal in mind and work out a strategy that will help you achieve it, including how you will structure debt, he says.

WHAT TO BUY FIRST

“It is generally best to focus on capital growth at the beginning,” Casey says of investors buying their first property.

“If it’s residential, that property will generally not be particularly good from a cash flow side of things and they’ll need jobs and income to support it at that stage.

“Once they’ve got an asset base built up and they’ve got a lot of equity and more income from work in later years, it opens up a lot more options in terms of what the next steps could be, including commercial investment.”

After a person has built a solid asset base, and as they get closer to retirement, they may want to consider higher yielding investments to deliver better passive income, he says.

However, he cautions against buying risky residential investments such as properties in mining towns or places where there may be an oversupply.

“It’s very, very difficult to find a residential property which delivers high net rental yields that is also an asset which would be classified as investment grade,” he says.

OUT OF THE BOX INVESTING

Commercial property can be an attractive option for balancing a portfolio once an investor has established a firm asset base because it tends to be higher yielding than residential, says Mecca Property Group founder Abdullah Nouh.

He has helped a client achieve a better cashflow balance by purchasing a high yielding commercial property on the one hand while purchasing residential property through their SMSF on the other.

The cashflow of the residential property didn’t prove a burden to the client since their super contributions and the rental income covered the mortgage repayments.

ADDING VALUE

It may also be possible to add cashflow to an existing portfolio by building a granny flat at a rental property, Nouh says.

“One of my clients … put a granny flat in the back and fully segregated it so that it looks like a unit,” he says. “They Airbnb it and it makes them a good monthly profit.”

Another potential way to increase rent is to do some renovations in order to add an extra bedroom or bathroom, he says.

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