Why should I invest in this?
When determining what to invest in we need to have some criteria to use. This allows us to evaluate apples vs pears – we can’t say which is ‘better’. But we can determine which is healthier according to some criteria ie calories, sugar, vitamins, minerals. When comparing investments the criteria we want to use is cash flow and capital gains.
Investing is a game with two pieces. The first piece is the size of your investment. If you have $100,000 to invest you are going to earn a lot more than if you have $10,000 to invest. The second piece is your yield, ie how much return you are getting from your investment. If you get a 5% yield with your $100,000 you will earn a lot less than if you get a 10% yield.
To hit the one money goal that matters, you need a specific sum invested and achieving a specific yield. We need to work on growing our capital pool and maximising our yield.
Whilst growing our capital pool we can focus on high cash flow and then reinvesting this, or we could focus on high capital gains. Once we reach our capital goal we can switch our focus to protecting our assets and ensuring we earn the return required to live off our investments rather than the sweat of our labour!
Should I invest in Property or Shares?
Let’s use yield to determine what we should invest in. We want to use total yield (capital gain + cash yield). There are many ways too compare historical data – this is not an indepth statistical analysis, but we will quickly look at some historical numbers.
NZX 50 (index that includes capital growth and dividend reinvestment)
1 Jan 2019. $8,985
1 Jan 2004. $2,471
Auckland house prices
31 Jan 2019. $800,000
31 Jan 2004. $314,000.
Central Auckland rent
31 Jan 2019 $540
31 Jan 2004 $330
1 year Mortgage Rate
31 Jan 2019 4.25%
31 Jan 2004 6.9%
Let’s boost returns.
Companies already use debt, so in a sense if you borrowed money to buy shares you are double levereaged.
Average = mediocre.
Who is the winner?
Many books have been written on the topic on whether you should invest in property or shares. You have to decide on balance that works for you. Do you understand shares? Do you understand property?
The biggest difference between buying shares and property is usually that you can leverage to buy property and get capital gains on the full purchase price whereas buying shares only gets you a return on your cash investment at the start. This means you can buy a $1mn house with your $100k of cash (10% deposit). If you buy well, you might get a $1,050,000 house for $1mn which helps you lock in $50,000 of return on your investment immediately. With 5% annual capital gain, the house again will bring you another $50,000 return in the first year (without tax). If you put $100k into shares and get a 10% return, this is only $10,000 and is taxed. You can see why many investors are choosing property.
The benefits are numerous; property is easier to understand, you can live in it, you can touch it. If you understand share investing (buying a part of a listed business like Apple or The Warehouse Group) then you will know that you have to ride waves of uncertainty and volatility that has higher highs and lower lows than the property market. Which means, depending on when you buy shares, you risk losing a lot more of your original investment in a shorter amount of time. If you buy $100,000 of share and the market drops 10%, you lose $10,000 and it might take years to recoup this amount. If you buy property and it drops 10%, if you have only put 10% into the house you have lost all of your money… so you will have to wait for a recovery and ride out the property crash otherwise you are back to zero. Both shares and property carry risk and you need to buy well and understand your strengths, weaknesses, opportunities and threats (classic SWOT analysis).
Be wary of anyone trying to push you into shares and not property and vice versa, understand how they are paid, if it is commission just be careful.
The best investment for most people is their family home. Get this paid off well before retiring and you will much happier. It sounds simple but a lot of people get distracted by shiny new things and miss the mark.
You are competing against the smartest financial minds in the world when you are buying shares, companies like Goldman Sachs, Berkshire Hathaway, Bridgewater etc are professionals at buying and selling stocks – they usually identify what is good before anyone else.