There is no one one-method-fits-all approach when it comes to making a property investment. You must have a clear understanding of your situation to find the right property that matches your financial objectives.
Property Investment Objective
An investment objective is a particular financial goal of a buyer wish to achieve. For any property investment, it is about a buyer putting money in a property with the expectation to have a chance to earn a profit within an expected time.
To determine your investment objective, there are some basic questions you need to ask yourself before you purchase a property.
- What is your financial goal for investing your money in property?
- How much risk are you willing to take to achieve your financial goal?
- What is the period you define for your property investment?
- Do you want your money to grow, or do you want to preserve its current value?
Investment Concepts Fundamental
For successful property investment, it is crucial to understand some fundamental investment concepts. These concepts do not require you to be a genius or have some special skill. However, it does involve putting a little effort and time into changing the mindset and property investing approach.
1. The Importance of Time
Few people understand the importance of time when it comes to starting investing early. Understanding the time value of money is essential to property buyers. It is a financial planning tool to determine whether you are better off using your cash now or borrowing money and conserving your cash for a property or other investments.
When you take a mortgage/loan to buy an investment property, the money’s time value equates to the present value of all of the payments you will need to make over the term of your mortgage. The earlier you begin to invest, the greater the probability of having choices and a quality retirement.
It is good to start early, but it is also critical to understand when to exit. It is not necessarily the right choice to hold on too long a property, particularly in the Singapore context. You need to understand how CPF works and how it affects property investment to reap the best benefits for your retirement plan.
2. Compounding Interest
Compound interest is interest earned on the principal amount, i.e., original money previously earned as interest. If you understand the concept of the “snowball effect,” compound interest is the addition of interest to principle amount, in other words, interest on interest. It results from reinvesting interest so that interest in the next period is then earned on the principal amount plus previously accumulated interest.
Because of the power of compounding, the investments made in your early years should be worth many times over the value of your investments made closer to retirement.
An excellent example of the concept of compound interest will be the 1M65 CPF strategy. However, one assumption for reaching $1million at the age of 65 in your CPF, including paying housing loan in cash. Indeed, you should learn to understand how CPF works and assess the best property investment strategy you can adopt to achieve your financial goals.
3. Keeping Expenses Low
It is not how much you earn that matters; it is how much you can save and keep your expenses low to determine your investment portfolio. The concept is simple unless you can increase your cash inflow; otherwise, it reduces your cash outflow.
One percent can make an unbelievable difference. A $100,000 investment for 30 years earning 6.5% grows to $661,437. A $100,000 investment for 30 years earning 5.5% grows to $498,395. In other words, if your expenses lower by just 1% annually, you make $160,000 in less than 30 years on a $100,000 investment.
4. Don’t Follow the Crowd
A value investor must learn to be comfortable as an individual, understand your current financial health to determine what investment portfolio is best suitable for your financial risk and appetite.
Following the crowd is known as “group thinking.” There is an emotional comfort in doing what everyone else is doing. We feel good when others agree with us. We are comfortable when we follow the majority. But we need to understand that not everyone has the same financial status, risk appetite, and commitments. Blindly follow the crowds can lead to low investment returns.
5. Understand How to Leverage Works
In simple words, leverage means it has the ability to control a large amount of money using none or very little of your own money and borrowing the rest. And in return, you enjoy the profit of the appreciation using none or very little of your money.
For instance, buying $1 million property, you will be around $50,000 in hard cash and $200,000 in your CPF and borrow the rest from the bank. This is taking advantage of a considerable amount of leverage, in this case, $750,000, with an interest of approximately 2% per annum.
You need to know how home loans work, and you may need to tune your mindset a little as not all loans are bad. You can make the best use of a home loan’s low interest to make a handsome profit from your property investment.
6. Margin of Safety
When it comes to investment, price matters. To determine how much of a margin of safety, it is to determine the intrinsic value and the price the investor is willing to pay. Intrinsic value is a measure of what an asset is worth.
A property investor can buy a great property with growing earnings but lose money because the price paid was too high. The goal is to purchase property at substantial “discounts” to real value and patiently wait for the appreciation towards its real worth. Price is what you pay. Value is what you get. The margin of safety is always dependent on the price paid. What should be avoided is paying the price much higher than the value.
For a simple illustration, two property investors can buy the same type and size of property but with very different outcomes. Purchaser A accepts a 10% margin of safety and buys the property at $900,000. Purchaser B is more conservative and requires a 20% margin of safety, so waited and bought the same type of property in another location at $800,000. A few years down the road, assuming the median of the type of property they bought is worth $1 million. Purchaser A has an 11% profit ($1m / $900K), but Purchaser B has 25% profit ($1m / $800K). The only difference is the price paid. However, other factors will determine property prices at different locations for the same type/size of the property.
Having a safety margin does not guarantee a profitable investment, but it does leave room for unforeseen events or errors in judgment. Investment risk and the probability of a large loss are reduced by purchasing a property for less than its true value. A value property investor will require a margin of safety to decrease risk and raise the odds of a profitable investment. The larger the margin of safety, the higher the odds that investment returns will compensate you for the risk taken.
Now you have some ideas on investment concepts, and you need to ask yourself the investment you go for is to be a short-term or long-term hold. Real estate properties are usually far less liquid than stocks, and it requires long-term hold. You should not enter the real estate market without first considering the investment and investment horizon’s objectives.