Why property investors should stay away from high rise towers

Major property projects are being scrapped; and high rise towers in Queensland have been among the first to go. Now those obvious targets are being flanked by similar project terminations in the housing market.

Major property projects are being scrapped; and high rise towers in Queensland have been among the first to go. Now those obvious targets are being flanked by similar project terminations in the housing market.

Earlier this week it was announced that a $200 million housing development at Lennox Head in northern New South Wales is going into receivership; while in Byron Bay, a 33-lot subdivision has been put up for sale by receivers.

These projects now rank alongside the abandonment of Multiplex’s $1.7 billion North Bank project in Brisbane, (which had faced strong community objections because it was to be built partly over the Brisbane River, and was finally shelved by the Queensland Government); and Metacap Developments’ $1.6 billion Empire Square project in Elizabeth Street. The 65-storey Empire Hotel and apartment complex was scrapped and the site sold to Amalgamated Property Group, even though most of the units were presold.

Meighan Hetherington, a director of the Brisbane firm Property Pursuit, sees cyclical factors at work in south-east Queensland. “There’s little doubt we have seen oversupply in the inner-city market in the past two years,” she says. “I have seen some developers achieve well over market value for some apartments in the past two years, but now we’re seeing some projects sell their three-bedroom apartments for less than their two-bedroom apartments sold for last year.”

In Sydney, Greville Pabst, managing director of WBP Property Group, noticed a move away from high-rise apartment buildings when the local market came off its peak. “While I can’t tell you of any specific sites abandoned, development-approved sites in Bankstown and Parramatta were offered for sale, quite likely due to the adverse market conditions and the difficulty in obtaining finance. We’ve also seen builders like Mirvac and Australand move away from high-rise apartment projects.”

Simon Moore, head of research at Hegney Property Group, saw a similar turn of the property cycle start in Perth about 12 months ago. “At least two of Perth’s new CBD buildings were originally proposed as apartment towers, and then were reassigned as office buildings when the residential market slowed,” he says. “Now the speculation is that they won’t be built at all.”

In Melbourne, about 50,000 units have been sold off-the-plan since 1990, when Postcode 3000, an initiative to get more people living in the CBD and surrounds, was launched. New apartment sales peaked with the development of the Docklands and Southbank precincts in 2001-02 at about 3500 units a year, before declining back to less than 1000 units in 2004. The availability of new apartments and sales have risen each year since.

One of the reasons behind the recent slowdown is the global financial crisis, which has brought a tightening of credit for developers. Chris Lamont of the Housing Industry Association says: “Financiers now expect pre-sales rates of 75% before extending construction finance, whereas this time last year, it would have been 50% or even 40%. The financial industry’s appetite for construction risk has definitely diminished.” The other big impact is home buyers delaying their decision to purchase new homes, making the developers’ pre-sales target of 75% more difficult.

So how should the property investor interpret this cycle of apartment construction boom followed by the shelving of projects?

With population growth still strong and the economy relatively robust, the drop in consumer confidence and tighter finance conditions for developers has affected this market.

Paul Braddick, head of property and financial system research at the ANZ Banking Group, says: “There is certainly a problem with sentiment and with construction finance at the moment. But for property investors I would instead focus on rising rents, the lower interest rate environment, the subsequent improvement in affordability and the increase in the first-home buyer’s grants. These all point to a brighter future for residential property, even if the next six to 12 months prove slow.”

I believe a halt in the construction of new apartment towers is a sign that it’s time for the wise investor to start researching the market and getting to know it thoroughly. First-class investment properties are available at a fair price, but there’s only a minuscule chance they will be in multi-level city buildings.

Hetherington and Moore’s comments echo the maxim I’ve been repeating for years – investors should stay away from new apartments in high-rise towers; the fundamentals usually don’t stack up!

High-rise apartments may be good for creating newspaper headlines, but they’re not so good at creating value for investors. The reason is fairly simple; they’re usually not a relatively scarce asset and they typically don’t have consistent demand from a wide profile of home buyers and renters alike.

High-rise towers are typically built on converted commercial or industrial land in and around the CBD, which means multiple towers in confined locations. This sort of development creates blighted, wind-tunnel streetscapes, sterile local communities and traffic congestion; not a typical description of a good investment location!

Prospective purchasers who look at these units are presented with the results of the “enclaving effect”, a choice of dozens of similar apartments in a confined area. The vendors of apartments being sold for the second time were the original off-the-plan purchasers, typically first-time home buyers or out-of-town investors who find themselves with a reason to sell in two to three years, or even six months after taking possession.

At this point, they discover they have many competing vendors with the same product! The result is near-new apartments competing on price to attract bargain-hunting buyers who think they’re making a good buy and who will, in turn, be equally disappointed with their investment’s performance.

There are some high-rise apartments that are worthy investments, but they’re relatively few and far between. They typically can be found in very select buildings geared to the affluent owner-occupiers, not to absentee landlords. If you’re thinking of buying here, make sure your market information is based on second and third resales in buildings that have seen their growth mettle tested and passed with flying colours.

This article first appeared in Eureka Report