Buy-to-let property has been largely out of favour as an asset class in recent years. Now, however, it’s staging something of a comeback.
Returns on rental housing portfolios rebounded to 8.1% in 2022, up from 3.8% in 2021, according to the MSCI South Africa annual property index, released earlier this month.
The index tracks total returns delivered by different property sectors — including retail, office, industrial and residential real estate — mostly from larger portfolios owned by financial institutions, pension funds and listed real estate investment trusts. Together, these total R370bn.
The residential sector’s 8.1% return compares with 9.1% for the index as a whole in 2022, and is just slightly behind 8.9% for retail. Industrial property delivered the best return, at 13.5%, while offices lagged behind at 6.6%.
The index started tracking the performance of the residential sector only in 2018, and it still represents just 6% of the market, at R20bn. Still, it provides a reliable performance indicator of South Africa’s broader buy-to-let sector.
Data from other industry players paints a similarly upbeat picture. Residential rental processing firm PayProp’s quarterly index shows rental growth returned to pre-pandemic levels for the first time in the fourth quarter, with an average increase of 3.4%.
While this is nowhere near the 6%-8% levels seen in 2015-2017, it’s a marked improvement on the measly growth — less than 1% — that residential landlords typically achieved during 2020/2021.
Poor rental growth was partially the result of the record low interest rates during the pandemic, which prompted thousands of tenants to buy property instead of rent. The aggressive interest rate hikes since November 2021, which have pushed the prime lending rate up 425 basis points to 11.25%, have had the opposite effect, deterring would-be buyers.
Johette Smuts, head of data analytics at PayProp, says rentals have rebounded “impressively” since the third quarter of 2021, when year-on-year growth was just 0.2%.
“We have reached a very positive milestone, in that rental growth has now recovered to pre-pandemic levels and has surpassed the 3.2% recorded in the first quarter of 2020,” she tells the FM.
Higher interest rates have made renting a more attractive option than buying. While that’s supported the market rebound, the next six to 12 months could prove challenging
— What it means:
The Western Cape is now by far the most expensive province in which to rent. The average property there will set you back nearly R10,000 (R9,737) a month.
That compares with Gauteng’s R8,554 and KwaZulu-Natal’s R8,632. According to PayProp figures, tenants paid only R111 a month more to rent a property in the Western Cape than in Gauteng in 2015; today that difference is more than R1,000.
One of the factors that has supported the market’s recovery so far has been a decline in the number of defaulting tenants, which suggests improved affordability levels. Despite higher interest rates and debt repayment costs, only 18.1% of tenants were in arrears on rental payments in the fourth quarter, says Smuts — down from the pre-pandemic level of 19.3% and significantly below the 24.9% peak recorded in the second quarter of 2020, just after the first lockdown was announced.
Of course, as the effects of load-shedding, increased interest rates and the economic slowdown begin to bite, tenants may again feel the pinch.
Figures from credit bureau TPN, which tracks various rental market metrics, show the national vacancy rate — the number of empty residential rental properties — has reduced markedly and is back to pre-Covid levels of about 8%. That’s slightly up from a five-year low of 7% recorded in the third quarter of 2022, but well off the record 13.3% highs seen in the first quarter of 2021.
The highest vacancy rate (about 10%) is for cheaper properties, priced below R4,500; the lowest (5%) is in the R7,000-R12,000 bracket.
TPN marketing head Waldo Marcus says lower vacancies and higher rentals are likely to translate into improved income yields (annual rental income as a percentage of market value) for buy-to-let investors.
Yields already ticked up slightly in the fourth quarter after a downward trend since 2017. Average gross yields for sectional-title properties (flats and townhouses) and stand-alone houses now sit at 10.18% and 6.95% respectively.
Marcus believes property investors targeting the high-demand sectional title and gated community markets are going to benefit not only from a larger tenant pool but also from a slowdown in residential building activity.
He refers to the latest Stats SA figures: the number of new flats and townhouses completed in the year to end-January dropped by 34%.
“The effect of multi-factor market forces, such as lower demand for property ownership, on the back of higher mortgage costs, less rental housing stock — especially sectional title — and improved rental escalations augur well for property investors looking to grow their buy-to-let portfolios,” he says.
TPN data shows that sectional title investors are still earning higher income yields in Gauteng (12%) than in the Western Cape (8.8%), despite higher rentals and lower vacancies in the latter. That’s because of the relatively higher property values in the Western Cape, which affect yield calculations, says Marcus.
However, buy-to-let yields in the Western Cape are likely to be boosted by ongoing semigration to the province. In the last six months of 2022, for example, there was a marked increase in vacancy rates in Gauteng, reaching 10%, while the Western Cape continued its downward trajectory to reach 2% by year-end.
“That’s the lowest level since 2016 and reflects high demand and low supply for rental property in the Western Cape,” says Marcus. “Rental escalations are likely to accelerate as a result.”
Rental growth has now recovered to pre-pandemic levels and has surpassed the 3.2% recorded in the first quarter of 2020
— Johette Smuts
Other industry players confirm that rental demand and rates are on the rebound.
Johann du Plessis, development director at Feenstra Group, which owns and manages more than 10,000 affordable, middle-income and student rental housing units, mostly in Gauteng, tells the FM its portfolio has a vacancy of less than 5%.
Some developments, such as Rosebank’s The Bolton, which comprises 282 bachelor, one- and two-bedroom apartments, are 100% let. Bachelor and one-bedroom apartments in the development are fetching monthly rentals of R6,360-R8,500.
Units of the office-to-flat conversion project, which was undertaken by Feenstra and JSE-listed Emira Property before the pandemic, are now being sold on a sectional title basis. Flats are priced at R783,000-R1.7m, offering buy-to-let investors gross rental yields of up to 10%.
In Cape Town, rental agents are reporting a growing shortage of stock. Seeff Property Group says this applies in all areas in the R10,000-R35,000 a month bracket.
Areas with particularly high rental demand include the affordable suburb of Woodstock near the city bowl, Claremont and Newlands in the southern suburbs, and the entire stretch of the upmarket Atlantic seaboard — from Sea Point and Bantry Bay to Llandudno and Hout Bay.
Ross Levin, licensee for Seeff Atlantic seaboard and city bowl, says rental demand has been fuelled by the influx of people relocating from other provinces to the Cape.
“Many are looking to rent before they buy,” he says. “A return to the office as well as to universities and colleges has also boosted demand for rental accommodation in the Mother City.”
The group fielded 60 inquiries for rental apartments in the R10,000-R20,000 a month bracket in a 24-hour period earlier this year.
Levin says rental yields across the Atlantic seaboard and city bowl tend to be at about the 4%-6% mark, depending on the property. However, buy-to-let investors in smaller units in new developments, such as The Hub in Woodstock and Alphen Glen near Constantia, can earn rental yields of up to 7%-9%.
At Alphen Glen, for instance, one-bedroom flats of about 47m2 are priced at about R1.6m-R1.9m and will likely rent for R11,000-R12,000 a month.
Despite the recent uptick, PayProp’s Smuts warns that affordability challenges could dampen the rental market’s rebound over the next six to 12 months.
“Slow economic growth, due partly to unreliable electricity supply, and interest rate increases are just two of the factors [now] stretching tenants financially — the effects of which we’ll continue to see throughout the year,” she says.
TPN’s Marcus says much the same. As a result, he cautions buy-to-let investors to be sensitive to “consumer fatigue”.
“Investing in the right area and attracting the right tenant who can afford to pay their rental should produce good returns,” he adds. “Strong speculation could, however, be fatal if heavy gearing is combined with high-risk tenants.”
Industry players agree that while rental demand and returns have improved, the recovery is likely to be a bumpy one. The bottom line? Buy-to-let investors need to run the numbers carefully and steer clear of using expensive mortgage debt to fund these property purchases.
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