17.08.2021

InRento Insights: Rental Flow and Capital Gains

Gustas Germanavičius

InRento Insights: Rental Flow and Capital Gains

Investors are constantly considering which is better: capital gains or rental income. One of these paths represents profit through long-term value growth, the other means income each month.

Both methods have their pros and cons, but the decision as to which one is more convenient for each investor depends on personal circumstances.

Capital gains - in the future

Real estate assets with high capital growth dominate where demand exceeds supply. Prices rise when buyers compete for a very limited supply of real estate. In Lithuania, InRento mainly observes such a situation in the center of Vilnius and in the Old Town. This is not only due to people's desire to live in these parts of the city, these locations are also in high demand on short-term rental platforms such as Booking.com and AirBnB. It is also apparent that foreigners with higher incomes, having moved to Vilnius, usually decide to settle in the city center.

In these parts of the city center and the Old Town, the price per square meter is much higher than elsewhere in the city, although such drastic differences are not reflected in the rental price, and the higher real estate tax does not increase the rental return. Of course, the market is diverse and there are always exceptions, but it is important to understand that a real estate object focused on capital gains also generates a return on rent, only lower.

As can be seen from the RC data and the situation in today's market, the rental return of apartments in the center of Vilnius currently reaches about 4%, which is probably the lowest in the history of Lithuania. On the other hand, according to the Ober-Haus Lithuania Apartment Price Index (OHBI), real estate prices have grown by an average of 13.7% in recent years.

Money in hand - investing in the rental flow

The rental flow strategy or high rental return strategy is based on slightly different principles. The characteristics of properties with high rental yields are often similar: lower than the market purchase price, small property units, co-living facilities or lofts converted from industrial premises.

Visually, these objects are not always in the most attractive places in the city, but very often they have an extremely high demand in their segments. It is important to emphasize that other real estate administration costs directly related to such assets, such as real estate and land tax, are lower in these places, which means a higher return on rental income.

These facilities are usually located outside urban centers, so they are often somewhere more accessible, and their price per square meter is lower.
Looking at the current Lithuanian real estate market, it is clear that the highest rental returns remain in smaller cities. This is mainly due to the fact that investors who are able to purchase real estate in these cities are not familiar with the local rental market and are skeptical.

Another important aspect is that small town centers have very limited commercial space. This results in high rental income and high demand among tenants, who are often large retailers of consumer goods (cosmetics, alcohol, new and used clothing stores, etc.) or financial services companies such as insurance companies. Thus, even in the circumstances of rising real estate prices, it is still realistic to earn 10% of the rent in Lithuania, but then one should look outside the cities.

What is best for you?

As with any investment decision, the answer depends individually on your financial situation, knowledge and appetite risk. First-time buyers are more focused on the rental income flow strategy, it requires less capital, is easier to understand, and investors prefer income today than tomorrow.

However, the opinions of experienced investors differ. A capital growth strategy requires more knowledge of a specific location, often objects cost much more. This type of investment is often chosen by people for whom the difference between 4% and 6.5% rental return is insignificant. It is worth noting that often these investors are looking for exclusive real estate assets, the value of which will not decline due to limited supply and will act as one of the safeguards for investment.

Lithuania is still a relatively young economy, so we have the luxury of choosing between these two strategies. As the Lithuanian economy continues to grow and the standard of living increases, and in our country the scenario of major European cities is inevitable. Commercial properties located in the center of cities such as Barcelona or Madrid often provide a return of 1-2%, and often the return does not even cover the costs required to manage these properties. InRento's visible trend is neither short-term nor long-term rental returns. There are no signs of growth in Vilnius.

InRento portfolio strategy

When assessing projects and their risks, InRento pays a lot of attention to objects with high rental flow yield. The hypothesis underlying this strategy is that when investment returns in the market fall, capital gains will be generated.

In terms of specific indicators, this means that at the moment, when the average rental return in the market is 4-5%, assets with a return of 6-7.5% are superior. However, in the future, as returns fall, properties with higher yields will have even higher demand, and demand in turn will generate higher capital gains.

This rental investment strategy is presented in detail by the InRento platform. As previously announced, on this platform, real estate rental assets generate monthly rental income, and if the property is sold at a higher price, the capital gain is distributed among investors. A very important feature of this investment model is that all real estate, the lease of which is allowed to be invested in by the InRento platform, is pledged to investors.

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