No matter what spin one puts on it, every part of life has its own set of ‘physics’. There are certain truths, which when violated, will exact predictable consequences. Jump of a three foot high doghouse onto the lawn, and you’ll be fine. Take a fall from 100 feet up? Not so fine. Gravity works every time it’s tried. Engineers make it our friend whenever possible. Get water hot enough and it turns into steam. Pretty soon it’s gone. Works every time.
Negative leverage — Thou shalt not
If the cost of money borrowed in the process of acquisition cost more, in terms of interest rate than the subject property ‘returns’? You’ve entered the land of negative leverage. It’s akin to the guy whose intention was to fill the hole up, only to discover he’s been diggin’ it deeper and deeper. In the end, it never works.
Law: An investment property shall generate a yield greater than the cost of money it took to acquire it.
Appreciation in value
First off, let’s not pretend we don’t adore appreciation. It’s wonderful when your invested dollar turns into two dollars merely due to time’s passing. I’ve enjoyed it the vast majority of my adult life. Buy an income property for $X, and sell it a few years later for $2.3X works every time it’s tried. (Bubbles excepted.) However, when analyzing a property(s) with an eye to buyin’ ‘em, never, as in never ever insert appreciation as an assumption. When we assume the property won’t go up in value, the world of ‘real’ takes over our analysis. Funny how that works. Smoke ‘n mirrors is more reliable than an analysis dependent upon the value rising.
In fact, I’ll go a step further. The property(s) in question should work even if they slide a bit in value. Free ‘n clear properties owned at retirement generate cash flow — regardless of whether their value has fallen. Imagine retiring with $80,000 a year in income, when it shoulda, by all rights been $105,000. Oh, the humanity.
Law: Never, for any reason whatsoever, no matter how rational sounding, imbue any property analysis with the presumption of appreciation. No exceptions.
When it comes to rents
Beginning a serious property analysis without boots on the ground knowledge is worse than wasting your time. In the publishing biz, it’s called fiction. Since the money you’re investing isn’t fictional, it’s been my experience that ensuring the reliability of the analysis’s imputed rent(s) better be nothin’ short of slam dunk.
Put another way — it’s called ‘income property’ for a reason. It’s folly at it’s worst when the analysis of said income property is literally based upon unsubstantiated income. This is done all the time by well meaning investors who’ve ‘surmised’ income by whatever technique with which they’ve become comfortable. My advice? Learn to get comfy with rents which are virtually unassailable.
Law: The rents used in any analysis of investment property must be be reliable to the point of being beyond reproach. Anything else is — without exception — always unacceptable.
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Related posts:
- The Laws of the Physics of Investing — Attention Real Estate Investors
- The Physics of Real Estate Investing Are Like Gravity — Ignore At Your Peril
- 3 Things To Avoid When Investing In Real Estate
- Real Estate Investing — The Big Picture
- Purposeful Planning, Real Estate Investing, And Analytical Objectivity
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