Many investors are bullish on properties because they provide "positive carry", that is, the rental income exceeds other expenses (including management fee, mortgage payment, etc.). However, they are only half right - they should only count the interest expense portion of mortgage payment instead of the entire principal plus interest payment.
Why? The interest payment is an actual expense to the investor; he doesn't get anything in return. However, when you pay off the principal portion of the mortgage, you are increasing the equity of the property. For example, you have a 20-year mortgage attached to an investment property and the property gives you zero cash flow (the rental income offsets the mortgage payments and all other cash outflow for maintaining the property). After 20 years, even if the property does not appreciate in value and you receive no cash flow from the investment, the mortgage is paid off and your equity is increased by the amount of the original mortgage amount.
Accordingly, even though some property investments cannot provide a positive cash flow, as long as the cash outflow is less than the mortgage principal repayment amount, you are still increasing the equity of the property which you can tap in any time (you can sell the property or refinance to take out extra cash).
Wednesday, January 30, 2013
Human Capital
I recently read a publication by Goldman Sachs (GS) about its 2013 investment outlook. What I find interesting is that GS is very confident in the US economy and equities, despite many investors' concerns on political issues. In fact, GS has been bullish on US equities since the financial crisis and the call has been correct - US equities outperformed all other major equity markets since the financial crisis in 2008/09.
GS argues that the US has structural advantages in four categories: economic, institutional, human capital, and geopolitical. I tend to agree with GS's view and would like to expand on the human capital argument. US has the strongest education in the world, as seen by the number of top universities in the US. If you take a look at any rankings of top universities in the world, schools from the US dominate the list. Hence, many top talents are attracted to student and eventually work in the US. This is at a sharp contrast to many European countries, where the troubled economy and high unemployment rate force people to leave the country and work elsewhere.
In this information age where innovation drives economic growth, I believe the US is more resilient than many investors who are bearish on the US economy due to its fiscal problems.
GS argues that the US has structural advantages in four categories: economic, institutional, human capital, and geopolitical. I tend to agree with GS's view and would like to expand on the human capital argument. US has the strongest education in the world, as seen by the number of top universities in the US. If you take a look at any rankings of top universities in the world, schools from the US dominate the list. Hence, many top talents are attracted to student and eventually work in the US. This is at a sharp contrast to many European countries, where the troubled economy and high unemployment rate force people to leave the country and work elsewhere.
In this information age where innovation drives economic growth, I believe the US is more resilient than many investors who are bearish on the US economy due to its fiscal problems.
Tuesday, January 8, 2013
2012 Year in Review
Equities: We have some equity investments during the year but the amount was not significant. Satisfactory gains were made and all equity investments were sold prior to year end.
Property: Our self-use property rose in value in line with the market. There is a 20-year mortgage attached to the property and we are two years into the mortgage. Because of the low mortgage rate (Hibor + 0.7%), principal repayments represent around 80% of mortgage payments.
Savings: Our cash position rose significantly because (1) equity investments were sold in November; and (2) gifts were received from our wedding. Right now we have an excessive cash balance.
Our family net worth rose by 76% in 2012, mainly due to the rise in property value and savings from salary income. We are only four years out of university so we don't have a significant amount saved up, and the salaries from my wife and me represent a significant amount of our net worth.
What to do in 2013: Look for investment opportunities and lower the cash level. Right now, our only major investment is the self-use property, and we are looking to add other investments to diversify.
As (1) the global economy is seeing signs of improvement; (2) tail risks have eased after the US reached a compromise to avoid the fiscal cliff; and (3) equity valuation is still reasonable (13x P/E for S&P 500 and 11x P/E for HSCEI), I think it is a good time to add investments in equities.
Property: Our self-use property rose in value in line with the market. There is a 20-year mortgage attached to the property and we are two years into the mortgage. Because of the low mortgage rate (Hibor + 0.7%), principal repayments represent around 80% of mortgage payments.
Savings: Our cash position rose significantly because (1) equity investments were sold in November; and (2) gifts were received from our wedding. Right now we have an excessive cash balance.
Our family net worth rose by 76% in 2012, mainly due to the rise in property value and savings from salary income. We are only four years out of university so we don't have a significant amount saved up, and the salaries from my wife and me represent a significant amount of our net worth.
What to do in 2013: Look for investment opportunities and lower the cash level. Right now, our only major investment is the self-use property, and we are looking to add other investments to diversify.
As (1) the global economy is seeing signs of improvement; (2) tail risks have eased after the US reached a compromise to avoid the fiscal cliff; and (3) equity valuation is still reasonable (13x P/E for S&P 500 and 11x P/E for HSCEI), I think it is a good time to add investments in equities.
Tuesday, January 1, 2013
Book Review: HOLD: How to Find, Buy, and Rent Houses for Wealth by Steve Chader, Jennice Doty, Jim McKissack and Linda McKissack
What this book is about:
The book is about building wealth through real estate investments with a focus on yield instead of capital appreciation.
The book is divided into different stages of property investment: finding the property, analyzing each deal, buying and managing the property, and growing the portfolio. There are some files the author created that contains checklists or spreadsheets which are useful for inspecting the property or calculating returns.
What I like about the book:
The investment strategy outlined in the book is very fundamental and if executed well, involves low risks.
It emphasizes the importance of cash flow and making money going in (buying at discount to market price).
Managing properties can be a pain and reading the book allows me to understand the work needed to succeed. I also like the part where the author discusses the types of investment return from property investments: (1) capital appreciation of the property; (2) net cash flow received from rental income; and (3) repayment of mortgage principal.
What I dislike about the book:
This book is catered for US readers and discusses some tax advantages of property investments which are not applicable to investors elsewhere in the world.
Although the content of the book is rather basic, I recommend the book to readers who want to begin purchasing investment properties.
The book is about building wealth through real estate investments with a focus on yield instead of capital appreciation.
The book is divided into different stages of property investment: finding the property, analyzing each deal, buying and managing the property, and growing the portfolio. There are some files the author created that contains checklists or spreadsheets which are useful for inspecting the property or calculating returns.
What I like about the book:
The investment strategy outlined in the book is very fundamental and if executed well, involves low risks.
It emphasizes the importance of cash flow and making money going in (buying at discount to market price).
What I dislike about the book:
This book is catered for US readers and discusses some tax advantages of property investments which are not applicable to investors elsewhere in the world.
Although the content of the book is rather basic, I recommend the book to readers who want to begin purchasing investment properties.
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