Hotel rooms for high yield income
Among the many benefits of hotel room investment perhaps the major attraction is the opportunity they offer for high yield and steady income. If you compare them to other investments, hotel rooms are among the best income generating assets available to investors, and possibly the best.
If you follow some basic rules when considering how to make the best hotel room investment, you should buy into a solid business in a great location for hotel investment. You’ll benefit from income generating asset that is secure and which, in turn, benefits from a consistent, experienced, and forward-looking management team. For savvy investors who do their investment research, investment opportunities in hotel rooms could be the perfect vehicle for passive income.
In this article, I’ll look at how the income from hotel room investment stacks up against other income generating assets.
Traditional income generating assets
The idea of investing for income is to make a passive return, letting your money do the work for you. The return you make is commonly expressed as a yield, and this makes it easy to compare the returns on different assets. Generally speaking, income generating assets fall into one of two different types:
- Paper-based assets
Income from property investments
When considering property, there are many various forms of investment that you can make. Some of these (such as property funds) are paper-based, while others require a direct investment into property.
Property funds offer the advantage of collective investing, and usually pay dividends from the income and capital gains they make within the fund. They invest in the commercial sector, which should give them some price stability.
However, the prices of their shares tend to be volatile. For example, during the recession of 2008/2009, the average share price of UK commercial property funds fell to a 51% discount to net asset value. When times get tough, and there are more sellers than buyers, the fund managers might also ‘lock out’ the fund. It means that you’ll be able to buy shares, but not sell them.
The average yield on UK property funds is around 5%. Not bad, but you always have the potential for the fund to be locked out as well as having to accept potentially high volatility of share price.
Real Estate Investment Trusts (REITs)
REITs, or Real Estate Investment Trusts, operate in a similar way to commercial property funds, except that they must pay out at least 90% of their rental property profits as a dividend to shareholders. However, the share price tends to trade below net asset value and is more volatile than most investment assets. For example, UK REITs listed on the FTSE 100 saw their share prices fall by more than 20% in the immediate aftermath of the Brexit vote.
(You might like to download our eBook “Brexit: We’re out! Now what do we do?” for Brett’s views about Brexit and the effect it has had on property investment).
As the price of residential property in the UK has increased, the rental yield has fallen. Now standing at an average of around 5%, the income potential still compares favourably when compared to cash savings, gilts, and shares.
However, residential properties have to be managed. If you do this yourself, then buy-to-let investment ceases to produce passive income. If you entrust to a property management firm, you’ll benefit from income that is more akin to passive income, but your income yield will fall.
As an investor in shares, you could earn income by the dividends they pay. The average dividend yield on the FTSE 100 is just under 4% as I write this. Shares are very liquid assets, readily sellable should you need to sell; but they can be volatile.
When companies need to borrow money, one way in which they do so is by selling bonds. You’ll tend to get a higher interest rate (called a coupon) than you would from a bank deposit account or dividend yield when investing in ordinary shares.
The coupon is not necessarily the yield you’ll receive. For example, with interest rates so low, investors seeking yield have been keen to buy corporate bonds. This has pushed the price of the bonds up. Each bond pays a fixed amount of coupon. For example, a bond with a coupon of 7% would pay out £7 on its par value of £100. If the bond price has risen to £130, that bond will still pay £7 in interest – a yield of 5.4%.
The prices of corporate bonds also fluctuate with the fortunes of the issuing company: if profits fall, the price of its bonds may fall, too (as they suddenly become riskier as an investment).
Gilts are bonds issued by the UK government. They are considered to be safe (after all, the UK government couldn’t default on its debts, could it?). With interest rates at just 0.25%, the yield on the 10-year benchmark gilt has fallen to less than 1%.
Cash savings accounts
If you’ve got cash savings, then I don’t need to discuss these in any great detail. The fact that you’re reading this article is proof that you’re disappointed with your latest interest statement. You’re probably getting less than 1% on an easy access account, and perhaps as high as 3% on a fixed term account of three or five years. If you withdraw from a fixed term account, you’ll probably face interest penalties.
So how does hotel room investment measure up against other income generating assets?
A major benefit of investing in hotel rooms is the high yield they produce. A typical investment might offer a guaranteed 8% yield with an added guarantee of capital growth after a period of investment – when the hotel management company will buy back at a pre-agreed price. Here’s a table of typical yields from various income generating assets for ease of comparison:
|Yield (approximate)||Capital Growth Guarantees?|
|REITs||6%||No, very volatile|
|Ordinary shares||4%||No, can be volatile|
|Corporate bonds||5%||No, can be volatile|
|Capital guaranteed if held to maturity|
|Cash||1%||Capital guaranteed up to £75,000 – but no capital growth|
As you can see, hotel rooms come out extremely favourably in comparison to other investments made for income.
Live with passion,