Are property syndicates a reach too far for yield?
By Ashley Gardyne, Portfolio Manager, Property & Infrastructure
01 November, 2016
With interest rates on term deposits languishing near 3%, many investors are tempted to take extra risk for a little more yield. In late 2007 it was possible to get a 6 month term deposit yielding 8% p.a. Today that sounds pretty good; if you could get 8% p.a. in the bank you would jump at it.
However, back in 2007 many investors felt compelled to reach for a few extra percent by investing in finance company debentures. We now know that the extra yield wasn't worth the risk — an extra 2% interest isn't much help if you ultimately lose your hard-earned savings. While hindsight is 20/20, the same type of risk-taking behaviour is becoming increasingly evident in the current market.
Money is currently flooding into property syndicates, with volumes more than doubling in 2016 compared to last year. Many property syndicates offer what appear to be attractive "forecast" pre-tax yields of 7% or more. They are accessible to the general public, with minimum investments as low as $25,000. While many of these syndicates own quality properties, like large supermarkets or shiny new CBD office buildings, there are risks to be aware of.
Syndicates are typically exposed to a single property and often to only one tenant, creating a vacancy risk when the lease expires. These syndicates often have high debt levels and the yields advertised are based on current low interest rates. If interest rates were to rise, dividend distributions could fall significantly.
A potentially bigger consideration for investors is how to exit if you need liquidity. Many property syndicates have no fixed term and require a vote of 75% of unit holders for the syndicate to be wound up. Even when the syndicate is liquidated, there can be significant costs and no guarantee investors will get their initial capital back.
When lots of money is flowing into any asset class, it pays to heed Warren Buffett's advice: "be fearful when others are greedy". Is reaching for that extra bit of yield really worth the risk?