Property investments – the leverage factor

By TAY HAN CHONG Nov 21, 2009
IS property a good investment? Many Malaysians are likely to respond with a resounding “YES!”
Why is property investing such an investor’s darling? Many die-hard property investors would say that they make money and receive rental income through their property. So investing in a property does indeed sound like a good buy.
However setting aside the benefits, there is one thing that many are generally unclear about: property investing comes with significant leverage benefit – that is, buying a property that is worth a lot more than what is paid at the onset. Most of the time, a property investor does not have to pay 100% of the property price because one would take a property loan from a bank. For example, if you take a loan with a margin of 80%, a RM1mil house would actually cost you RM200,000 upfront. The remaining 80% is paid off through regular mortgage payments.
Using the previous example, let us assume that the price of the property has increased to RM1.2mil in three years. The total investment cost is the initial investment of RM200,000 plus other fixed costs. So the gross profit is RM200,000, or 100% based on the initial upfront payment. Of course, the net profit will be lower, depending on the fixed costs incurred for mortgage interest, legal costs, et cetera.
It is not uncommon for very serious property investors (and speculators) to pay only 10% upfront and take out a loan for the remaining amount. At 10%, the leverage is ten times! This means that if you make a 10% profit on the property value, the leverage would equate to ten multiply by 10% or a total of 100%, before deducting the cost of borrowing. The converse is true, if you have to sell your property at a 10% loss in value, you may not recover enough from the sales proceeds to pay off your outstanding loans. In such cases, you would have effectively lost your initial upfront investments plus all the associated costs.
When dabbling in property investing, it is noteworthy to understand and take note of the leverage factor or loans taken up. The effects are not very different from margin investment. A quick reflection on past market turmoils like the 1997-1998 crisis will enable one to immediately understand that leverage cuts both ways – magnifying the profits and losses.
After all, property investing, like any form of investment, can be profitable and carry risks at the same time.
So before you jump into purchasing your next property, do bear in mind this leverage effect.

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My thoughts :
- do not invest unless you are confident that the location is good.
- do not listen to developer / seller.. need to do a lot of research on your own.
- do not invest unless you have the holding power.. force selling more damaging in property than in shares.


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