What the 2020 reduction in the interest rates REALLY means for a commercial property investment.
The prime interest rate began the year at a level of 10%. After the 14 April decision by the South African Reserve Bank to reduce that level by a further 100bps, the level sits today at 7.75% (the lowest rate last seen since 1973), with five further 25bps reductions expected by the SARB. What does that mean to a commercial property investor?
Firstly let's look at the repayment levels of a typical bond of R10m, repayable in full over 10 years at prime. At the beginning of the year this was R132,150 per month, today it is R120,010 per month. Whilst this is a sizable reduction in monthly payments, it isn't going to get most investors jumping at the first property they look at.
But let's now look at the typical commercial investment property available at the beginning of the year compared to today.
The same property of R10m purchased at the beginning of the year would have been bought at a 9%yield. Today this can be bought at 10%(perhaps higher). The cash required on this investment is 30%, with the remaining 70% bonded at prime less 0.5%. For simplicity of this example we are considering simple interest.
In basic terms, the return on your cash portion could be calculated as follows: R3 Million cash earns you 9% in January (R270,000 annually). R7m loan finance in January costs you a net 0.5% for the year (interest rate of prime less 0.5% minus the yield of 9%), or R35,000. Your total return in January on your cash portion is therefore R235,000 / R3 Million, or 7.83% in year 1 of your investment.
For the exact same investment in April, your cash investment earns you 10% (R300,000), whilst your R7 Million bond earns you a net R192,500, a total return of R492,500 in year 1, a 16.4% return on your cash!
Theoretically, your bank could actually grant you a much higher loan to value today than in January, as other factors considered like the Interest Coverage Ratio and Debt Service Cover Ratio are far more attractive now than at the beginning of the year. Simply put, the higher your gearing, the higher your return on investment.
There is a reason that sage investors choose to be greedy when others are fearful.
Annenberg Property Group has investment properties for sale. Alternatively, should you wish to sell your property on a sale and leaseback basis to release cash into your business, we have investors on our books that are keen to engage.
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Andrew Jefferson has been a Director at Annenberg Property Group since 2014.
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