How to Manage Your Risk in a Falling Housing Market

One of the main risks to most property investors is the finance arrangements that secure their investment portfolio. In general, the biggest risks to a property investor are the ones that they don’t see coming. It’s really what you don’t know that can hurt you the most.

Currently there are some very real risks to investors portfolio's that are beginning to play out. The main one being interest only rollovers, interest rate rises & changes to housing market conditions. The purpose of this post is to educate investors about how to manage their risks & what they should be doing as preparation.

One can better manage their risk by following the three steps below:

1. Knowing your finance & risk position clearly. For example, it is important to know when their interest only terms expire, what rates may do & how your cash flow position may change.

2. Understanding how much ‘buffers’ you should have in place. Buffers are your safe guard for cash flow changes & risks materialising in your portfolio. The appropriate buffer size is different for different households. Having ‘enough to sleep at night’ may be great for the mind but isn’t a good risk management plan.

3. Having buffers in place. Your risk buffers can come from two sources: your ongoing savings (cash flow) and your funds that are easily accessible (stock of funds).

Case study: Jim & Joanne

Jim & Joanne have been active property investors over the last 5 years. They have grown a 5 property investment portfolio worth $2.5 million at an 80% loan to value ratio on interest only repayments. Their portfolio earns a 5% investment yield ($100,000 p.a). They earn $150,000 gross between them, have a $6,000 credit card, spend $4,500 per month on expenses and $500 per week on rent. They have one young child & $30,000 in cash savings. Given market & lending conditions, Jim and Joanne have altered their investment strategy in 2018 to focus on risk management and protecting what they already have.

Step 1: Knowing Jim & Joanne’s true finance & risk position.

The first step for Jim & Joanne is to sit down and get a true understanding of their finance position and debt terms in todays market. While they know the facts of their portfolio above, here they should dig into the specifics and different risk points.

• On average, Jim & Joanne calculate that they save around $18k p.a in cash flow terms and that their portfolio is on balance cash flow neutral for now. They break down their budget and realise their expenditure rate is relatively high at ~78% of their total income, and that they could save more.
• They run their borrowing capacity & realise that they cannot actually refinance any of their existing debts or rollover any of their interest only periods. Although they are saving money from their incomes every year, conservative bank calculators will consider Jim & Joanne as ‘overleveraged’.
• With their existing interest only periods expiring in 2020, they realise that their debt repayments will increase by ~$36,000 then. Given their existing savings levels, they realise that a ‘cash flow’ shock is on the horizon. They have a couple years to get prepared and build up buffers.

Figure 1: Jim and Joanne use MoneyBRAINS tech to instantly provide a complete summary of their financial position. After answering 20 basic questions about their finances, MoneyBRAINS automatically provides them the following detailed information about their finances.

Step 2: Calculating the appropriate buffer size

With a better understanding of their current financial information, Jim & Joanne then consider what the appropriate buffer size is for their household. This can be a little difficult, especially given their complicated affairs. They should account for:

• The level of debt they have & its interest only repayment type. Being ‘overleveraged’ means limited access to bank financing and therefore less flexibility in managing their affairs.
• Future changes to interest rates. This is a standard assessment that banks use, but applies in magnitude to this property investor given the size of their overall debt relative to their incomes.
• Potential changes to their income situation. They have insurances in place, but life often throws some spanners at unfortunate times.
• The number of properties that they own.
• The total LVR doesn’t leave too much room for price volatility in a slowing market
• The level of investment income they generate relative to their salaries & its potential volatility in different market conditions
• Other general factors

In Jim & Joanne’s case, as an ‘overleveraged’ property investor, they will need to hold higher than average buffers to account for their portfolio risk. They work out they should hold at least $55,000 to account for their risk position, ideally a lot more.


Figure 2: MoneyBRAINS tech automatically calculates the level of buffers your household should have based on your financial situation. It also allows you to trigger between alternative risk profiles.

Step 3: Having the buffers in place

With the above information now on hand, Jim & Joanne now consider how they can come up with these buffers. With the ability to generate ongoing savings & safe employment income, they consider their savings into their risk management plan.

They realise they currently save $18,000 a year, but could easily increase this to $30,000 with some adjustments to their household budget. With an existing savings pool of $30,000, they estimate it will take them 12 months to get to their ideal ‘minimum’ buffer size. They plan on saving until their interest only period expires to have a healthy buffer size for their risk position.


Figure 3: MoneyBRAINS summaries Jim & Joanne’s risk position into a ‘high category’ as they cannot meet their commitments under different economic conditions for more than 12 months. If changes to economic & financial circumstances begin to eventuate, Jim & Joanne will only be buffered for around 4 months. Furthermore, they realise they are unlikely to be able to extend their interest only terms and that the change in repayments will impact their cash flow by around $36,000 per year.

By conducting the three steps above, Jim & Joanne better understand their position & use this information to expedite their savings plan and build resilience to their household balance sheet over the next 6-12 months. They begin preparing for whats ahead and are clear about the risks that they have taken.