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Be Aware Of These Risks Before Buying Overseas Real Estate

06 May
The board game risk. Game in progress.

Be Aware Of These Risks Before Buying Overseas Real Estate

How I Size Up The Potential Risk Of Any Overseas Property Investment I Consider

How do I assess the potential risks of a real estate investment opportunity I’m considering making in another country?

That may be the question I’m most often asked by readers… especially by readers considering investing outside their home countries for the first time.

For reasons I’ve never understood, people buying property in another country often do less due diligence and ask fewer questions than they would back home.

They do this despite knowing they are in unfamiliar waters without the protections they count on in the United States or Canada, for example. They trust the local sales agent they’re working with almost blindly, especially if the agent is a fellow English-speaking gringo.

The ability to speak English is a guarantee of neither credibility nor expertise.

Write that down someplace you won’t forget.

To help you avoid letting this kind of margarita madness drive your real estate purchase in another country, here are the key risk assessments you should work through when considering buying a piece of real estate anywhere (including back home):

Country Risk

Country risk is important to consider and rate even if you’re already comfortable with the country where the property is located.

  • Political Stability

A country may be politically stable now, but real estate is a long-term investment. You want to understand what the political climate has been over the last decade or two… as well as in which political direction the country is headed.

In most cases, political stability is a medium risk in Latin America and a low to medium risk in Europe and the Caribbean. In Asia, it’s more of a country-by-country consideration, but the places in this region where you should be looking to invest right now would qualify as medium risk or lower.

  • Economic Stability

Economic stability can go hand in hand with political stability at times, but every country’s economy runs in cycles. Where in its cycle is the country now?

And what industries does the economy rely on? Tourism… commodities… manufacturing… agriculture?

Countries with all these sources of income and more will be more economically stable than countries whose economies depend on just one or two industries.

And a growing middle class is always a big plus.

  • Foreign Investment

Finally, when assessing country risk, you want to understand how foreign investors are treated under the law.

Look specifically at whether the country imposes capital controls or restrictions. These are not a deal breaker, but you need to understand them before committing to a purchase.

Most countries treat foreigners the same as locals regarding property rights, but you don’t want to end up in a legal battle over a property boundary only to find out you’ll never win in court because of some law limiting your rights as a foreigner.

Currency Risk

Currency risk is related to country risk but should be considered separately. The question to answer is:

How volatile is this country’s currency and why?

Oil-based economies have stronger currencies when oil prices are high and oil is flowing. That’s because they sell their oil in U.S. dollars then use those dollars to buy their own currencies.

Indeed, commodity-based countries in general tend to have strong currencies when commodity prices are strong.

In larger countries without hard currencies, volatility can move in more dramatic cycles. This is the case with Brazil and Colombia, for example, both of which are at lows right now versus the U.S. dollar.

One reason to buy a property in another currency is to generate local income to spend while you are in that country. That can increase your currency risk tolerance.

However, if you’re investing for yield and yield alone and intend to convert all earnings back to your home currency, consider what changes in exchange rates might ultimately mean for your net returns.

Market Risk

Market risk is different than country risk. This is about looking at the specific real estate market where you’re considering investing.

If you’re thinking about buying a rental apartment in Paris, you want to consider the country risks of France… but, as well, specific Paris market factors.

What is the size of the overall market? Who is buying? Or, more appropriately put, who would you be selling to when you decide to exit?

And who makes up the rental market?

If either or both the selling market and the rental market are made up mostly of foreigners, then you need to consider whether those foreign buyers and renters will continue at the current rate (or maybe at an improved rate) in that location during the time you intend to hold your investment.

To answer that question, look at the economies of the countries providing the majority of the buyers and the renters.

Belize is a good example of a foreign-driven rental market. If North Americans stop coming to Belize, your property values and rental income will suffer.

Also look at how much leverage is in play in the market. In a highly leveraged market, if cycles turn downward, you’ll see sellers dumping properties or walking away from their mortgages rather than continuing to make payments, creating oversupply.

In markets with little leverage, owners can afford to hold through downturns until prices stabilize.

Project/Property Risk

If you’re buying into a development or pre-construction, look at where the project is in the completion cycle. Is this the launch of a 500-unit development… or has the developer built and sold 200 units already? The latter isn’t a guarantee of reduced project risk, but it does give you an added level of confidence that the project will be completed.

Is this the developer’s first foray into this market, or is he an old hand? Has he completed this kind of project before?

How is the developer funding the project—with his own funds, bank financing, sales, or a combination of all three? If the source of needed funds is bank financing, is the bank committed or can they back out and leave the developer high and dry?

Of course, a seasoned developer can start a project that doesn’t get completed. Experience is important, but it’s not a guarantee.

I’m working with one developer in Mexico who has taken longer than expected to build out his community, but he is getting it done and I have confidence he’ll complete.

I’ve also known a developer with dozens of buildings under his belt who was not able to complete a project because the bank he had lined up backed out just as he started construction.

Consider all these risks of any purchase you consider… then size them up against your levels of tolerance and overall investment goals.

Lief Simon