When it comes to residential real estate, there are two main types of players in the market: property investors and property speculators. While both groups may be looking to make a profit, the ways in which they approach the market and the risks they take are vastly different.
Property investors are individuals or companies who buy and hold properties in order to generate income through rental payments. They typically fall into what economist Hyman Minsky referred to as the “first category” of borrowing risk – the safest kind of debt, business borrowing. Property investors are in the business of providing residential rental accommodation, and they borrow against the property with the goal of using the cash flow generated by the rental payments to pay off the interest and principal on the loan.
On the other hand, property speculators are individuals or companies who buy properties with the intention of reselling them at a higher price in order to make a profit. They typically fall into Minsky’s “third category” – the most dangerous kind of debt, speculative borrowing. Unlike property investors, property speculators often lack the necessary cash flow to cover the interest or principal on the loan, they rely on prices continuing to rise in order to make a profit.
While speculation can work for many years, it becomes problematic when market conditions change. For example, if monetary policy tightens or there is an external shock, property prices may stop rising and the speculator is left in a difficult situation. On the other hand, property investors can ride out the property cycle. Despite all the media reports about falling house prices, house prices in New Zealand are still 22% higher than pre-pandemic. If you are running a property business, have stable tenants and manage your debt via a laddered mortgage approach you can sit back and wait out the cycle until prices start rising again.
In conclusion, it’s important to understand the difference between property investors and property speculators and the risks associated with each approach. Property investment, when done correctly, can be a stable and profitable venture. While speculation may offer the potential for a quick profit, it also comes with much higher risks.
John Kenel
Assured Property
January 2023