Interest Rates Rise & Cash Flow

You cant possibly cover all contingencies. All you can do is plan sensibly. I always consider how I can insulate myself if higher rates, P&I , vacancies and loss of income happened simultaneously. So I have done three things specifically to insulate my portfolio (and me) against those events.

1. I have lots of NRAS, meaning lots of surplus cash flow per property
2. I always set aside a cash buffer per property - without exception
3. I reinvest the surpluses generated from the properties into debt reduction, meaning my debt per property reduces and my buffer per property grows, even as I add to the portfolio.

I will be doing a 4th thing starting in 2017, which is really just the next phase of Point 1 above - I will be adding some Dual Occ properties to my portfolio.

Dual Occ is not quite as strong as NRAS, for cash flow - should generate @ 80% of an NRAS outcome - but they also dont require as large a cash buffer. So they are the next best option to insulate yourself against disaster.

If you do these 3 things, you go a long way to making your portfolio bullet proof.

 

I am only at IP1 at the moment and looking to buy IP2.. but this thread is exactly one of the things i worry about as a single income earner on the road to property investment. I am doing or thinking of doing the below things to ensure i am hopefully able to ride out any rises in interest rate or any redundancies, though i should get a good package if i do get made redundant and would have plenty of other options employment wise:

- Currently have a cash buffer of upto 6 months per property in the PPOR offset. This is assuming i will have no tenants helping with the payments for 6 months. I aim to save that 6 month buffer per each property i buy within the first few months of buying it, if not already saved in advance.
- Targeting future investments at 6%+ yeild.. ideally 7% to offset that rise in interest rate at the sacrifice of Capital growth..
- Buying properties with dual occupancy potential and having funds available to add granny flats per property (currently saving for this - assuming 25K per granny flat)
- Having live in house mates if and when the time comes to help ease off the financial burden (I have a 4 bedroom house with 3 bathrooms)
- Having the option to go interest only on the properties (currently both the IP and PPOR are P/I, i know i shouldn't have the IP as P/I but i wanted to stress test my situation..)
- Having family support system/arrangements in place if and when things do go pear shaped (not available to everyone so i am lucky/spoilt) where my brother and father have agreed to take over the mortgage payments for the short term as required. I will do likewise for my brother if he ever needs me.

This might not be as mature a risk mitigation as others here have in place. Ofcourse worse case scenario is i sell what i cannot afford, but hopefully it wont come to that.

 

On that, i was recently talking to someone and they have 17 properties of their own. They said that the stress was the most till property 3-4. By property 5 they found it becoming actually easier. Do people with 5+ properties agree or is that a special case? Why would that be?

 

That is because ! He sold the 4 troublesome properties and started buying trouble free properties.
That is what I do now too!

Only buy trouble free properties ...although the net yield is lower !

 

Well that's one way of looking at it

 

It is *critical* and crippling, slowly bleeding you on the way up.

It will be the same now for many people if we have a recession and rates are rising.

It is not "I just need one year, or two years" at whatever rates, you climb towards the peaks & no one knows what will be happening or how long.

Recession is different to the GFC, in many ways our economy is very poor already.

 

Don't know how they come up with that, the more places, the more tenants, the more insurance and statements and paperwork, the more calls re maintenance etc.

They probably mean they got used to it or started accepting how things are.

 

I'd say that it becomes easier to buy over time, in that you don't second guess, or stress over the actual purchase, but it would be a very foolish person that didn't look at the big picture, and analyze income in verses income out, or look at the affects of interest rates, etc.

 

Matter of perspective, one can take a doom and gloomer approach or look at opportunities amidst challenges.

For centuries, they say it'll be different, but....

It was really bad being in South East Asia during AFC in 97/98, currency manipulation, high unemployment, imports too expensive etc etc. Well, South East Asia is flourishing.

Was studying in US during 9/11, the atmosphere and new broadcasting was like the end of the world. Well, it all worked out eventually.

America was going through the shi*ts during GFC. Well, it's all worked out again

 

lol.... funny man, doom and gloom huh ? how about many people went under and many only hung on by skin of their teeth ? It is real money you have to find to pay things, fine if you have lot's of cash, otherwise, in a real pickle. Incomes shrink and outgoings rise, at the same time.

And you think the problems from the GFC are fixed ? How you think that is beyond me.

 

When I was at PPOR plus 2 IPs I felt like selling one of my IPs as it was cashflow negative and it hadn't grown in value, interest rates were higher and we were paying the PPOR down fast, well over requirements (partner doesn't like debt!), so my personal cash/savings was always quite low.

Fast forward to a few years later, interest rates have gone right down, I'm getting good cashflow via airbnbing, the PPOR debt is very manageable (even though we had since upgraded), value of IPs have jumped, and the world is rosy and great (except for I cant believe who the American President is... but don't worry, he'll probably get assassinated).

Anyway, back to my story. If you are expecting an existing IP will grow in value sometime soon, just keep holding. You don't want to sell preboom.

 

Thanks guys for sharing your thoughts and experience.

I've learnt from these posts that I haven't been thinking seriously enough about mitigating the risks. In summary, number 1 measure is to have cash buffers in place. But how much cash do you need to have for each $1M of debt?

I want to have sufficient buffers in place but not too large buffers that will seriously slow down the process of buying more properties and creating wealth.

 

$1mil of debt would cost you around $40,000 in interest at the moment or $70k at 7%. But if the IO loans revert to PI these figures could be
$64,000 at 4% or
$85k at 7%

Work out your cashflow on the PI loans at 7% and aim to have 6 to 12 months worth of payments you can access.

 

Thanks a lot Terry.

I just want to confirm that I understood this correctly. I'll be buying properties of around 600k each (around Australian median) using 88% LVR. That means I'll be borrowing around 550k per property. Using CBA's loan repayment calculator and the following assumptions:

• 30 year loan,
• P&I,
• 7.2% interest rate,

it turns out my monthly PI repayments per property would be $3,800 or $23k over 6 months.

So $23k would be my cash buffer per property. Does that make sense?

Cheers!

 

Its a personal decision so you would have to do what you feel comfortable with. If you lost your job could you get a new one in at least 6 months - sort of thing.

If IO then you might base it on the IO repayments - until closer to the expiry of the IO period.

 

If you don't want to lose your pants, you should be using 7%.

 

Ok, I came up with this solution based on everything posted here. I consider the worst case scenario to be:

1. Both me and my missus lose our jobs and can't find another one for 6 months,
2. All of our properties are vacant for 6 months,
3. Interest rate rises to 7.2% (apparently long term average rate).

Therefore, if I owe 500k per property, the buffer per property should be:

Buffer = ($500k x 0.072)/2 + 26 weeks x living cost pw
= $18,000 + living costs

For 3 properties and $1.5M debt:
Buffer = ($1.5M x 0.072)/2 + 26 weeks x $500pw = ~$70k

Why do you guys think, too conservative or too risky?

Should I also take into account other holding costs (not just interest paid on debt), such as land rates, PM fees, insurance, maintenance costs, maybe IP not just Interest etc.?