When it comes to investing in real estate — what’s your definition — understanding if you will — of leverage?
Transcript: Hi, Jeff Brown here. You know me as the “BawldGuy”. Today, we’re going to talk about something very simple and one of the most misunderstood concepts in real estate investment, and that’s leverage. Leverage is not how much you put down primarily, everybody wants to think that it is. The lower the down payment, the better leverage you have. Whoopee! That’s not the case. Here’s what real leverage is to the investor who actually knows the concept. That is this. If your borrowed money is 4.5% cost and your overall return is 6%, you have positive leverage. Whether you did that at 10% down or 50% is relevant only after the fact of establishing that the leverage is positive. If you had a leverage factor where your borrowed money was 6% and your overall return was 5% whether you had 0 down or 90% down, you’d have negative leverage and, of course, a break even on the cash flow, more or less, is going to be considered neutral leverage; say 5% cost, 5% overall return, it kind of comes out in the wash. The idea is this, stop basing the quality of what you’re doing on your down payment size. Size matters only after you’ve declared that you have positive leverage based on objective and brutal analysis of the facts, and things you can prove empirically, numbers wise. Leverage is of three kinds; positive, negative, and neutral. Positive is your yield is higher than your cost of money. Negative is your yield is less than the cost of your money, and neutral becomes self explanatory. The idea is to understand the difference between what real investor leverage is, and it’s not down payment. Thanks for joining me today. We’ll catch you next time. Bye-bye.