Building a portfolio with £5million

I would start by determining how many properties to buy. Diversifying a property portfolio is just as important as diversifying any other investment. I would look for between 4 and 7 different properties to invest in. This would give me around £1 million to spend on each property. More properties would involve having to stretch my work further out and so I would need to manage more, find more and maintain more. On the other hand, fewer properties would involve more risk of if one of them turned bad. With half a dozen, I’m able to spread the risk but not be overwhelmed by small properties.

The next step to consider is the type of property and my investment goals. Property can provide returns through capital appreciation or rental income. Commercial property tends to provide better yields from rental values whilst residential provides better improvements on sale prices. Both involve some aspect of sale and rental values.

Finally, we have to consider how much to leverage the investment. A mortgage can be up to 90% depending on the type of property, but will typically be up to 60% for investments. Mortgaging properties allows you to buy more and get higher yields on the money you put in, but can cause problems if you can’t repay the loan.

That brings us to the plan. I would start with a fairly secure investment, a Mews house within walking distance of Hyde Park. I would look to spend £1.25 million with a 50% mortgage and then rent the property out. The goal would be to spend the rental value on paying back the loans. Properties in this area tend to have around a 4% gross yield. A normal rental yield would return 8% of the mortgage each year, which should be enough to cover payments even if the interest rate rises. My return would be based on reselling the property. Mews houses are of particular appealing as they are freehold rather than long leasehold and are also self-contained. Both factors give me confidence that the property will increase in value. I would be most interested in Kensington or South Kensington because these areas have have consisted benefited in increases in value over time. Even if the property doesn’t increase in value, I can resell once the mortgage is paid off and receive £2.5m for a £1.25m cash payment.

Next I would look at residential properties that produce a higher yield. I would look at 3 or 4 bed houses with gardens near Surrey Quays. The area is up and coming, with a lot of new people moving in but mostly renting which makes yields higher. I also know the area well enough to avoid any potential problems of picking the wrong street. £1.25m will buy two houses in a decent condition. If possible, I would find houses that needed cosmetic work done and spend what I saved on refurbishing the properties, as this would help to increase my yield on the property. I would look for a 7% yield in total, with no leverage. This would provide a steady cash flow with a little chance for vacant properties as possible. Any capital appreciation at the end of my investment period would count as a bonus.

That would leave £2.5m to spend on commercial property. My goal would be to find good space with lots of character in an area that is likely to improve over the next five years. I would look for 2 or 3 commercial properties, each around £1 million, leveraging the extra costs where necessary. My goal would be to find the right space, right location and attract the right tenants. I would look in the Shoreditch and Hackney area. This area has gone up in value of late, as the Kingsland Road and Brick Lane have improved in popularity. The government’s recent announcement to regenerate the vicinity to rival Silicon Valley is making the area particularly attractive place to buy now before prices could potentially appreciate. I would want to find high ceilings with open space and exposed brickwork, even if I had to convert industrial space to alternative use. My goal would be one retail space, one bar and one office. My goal would be for up and coming tenants: high tech media companies, trendy fashion companies and quirky bars. I would look to get into the area that will become the new Kingsland Road. If these requirements were found, I could take a small hit on rental value at the start and count on the fact that both my tenant and the area would go up in stature over the next few years. If it pays off, the rental income and strength of the tenancy will increase dramatically over time. I could hold on to the properties and bring in significant yields or sell the property after the rent went up and expected went down. This could amount to a very sizeable resale profit.

Overall, my residential investments would act as a base, allowing me to make a riskier but potentially more profitable return on the commercial side. I would look for good properties in areas that are reasonable risks. I could make more by borrowing more heavily, but with the structure in place, I would generate a good cash flow without having to worry too much about how my investment will fair when interest rates rise, or if I have a sudden vacancy.