Introduction Investing: is the return good enough? Where can I buy a cheap house? "I saw your thread on the streetwise forum about your experiences in property across Europe. Do you think there are any areas in Europe that are a good investment still - Spain, Turkey, Morocco, Bulgaria seem to be roundly criticised. I have about £25k (I know this is not a lot) but my feeling is that by putting into a property and getting the geared investment based on a mortgage covered by renting out then it will be likely to be a good investment. Even if a £100k property only grows at 2% a year (and some grow more than that) then it will be better than putting in a savings account or into my UK mortgage. My brother-in-law lives in Stuttgart, Germany but that market does not appear to be growing at any rate at all. Do you have any ideas? Cheers Chris Allen" I have received several emails of this nature. Obviously someone needs to write something to deal with what is obviously a gap in the market. Let me start by doing a bit of maths. Without a good grasp of maths any investing is a waste of time. 2% return on £100,000 is £2,000. That is not much to make in a year. You'd do better to put your money in almost anything else. After all, with a 2% return on the whole sum invested, you need to take account of taxes on property, which are high, and the cost of an interest only mortgage. Say you have an £80,000 mortgage at 5% (which is difficult to get in these times) the cost of the mortgage would be £4,000 a year. Quite honestly, you are losing money hand over fist. It simply isn't a feasible project. You would in fact be better off putting your money in a lousy building society account. You know, by doing the maths, that you need a 4% gain just to break even on the mortgage. Add another 2% to cover taxes, and running costs, and you now need a 6% return on your investment just to come out evens. To make the project worth while you have to be making more than you could get on a savings account, or better still, more than you could get from investing in company bonds. In short you need to be making a profit of at least 6%. If your costs are 6% and you want a profit of 6% then the investment needs to bring in 12% minimum. Okay, you've narrowed your investment search down quite a bit. Anything in property that doesn't pretty well guarantee you 12% a year on your geared investment is a waste of time. Let's put the sum in its clearest form. This is the kind of sum you need to do on pretty well any investment to see how it comes out. What will cash available (Ca) invested in a standard low risk but high return entity (company bonds [Cb]) bring in? You need to check what you can get from a good company if you invest in their bonds. Let's look at a couple of such companies and see what they are paying. Right at the top of the list is Abbey which currently pays 6.87%. Now multiply your two figures together to get an annual return on your investment: Ca * Cb = £1,374 This is what you can get with your existing funds invested in a safe but reasonable return. This is the base amount you want to beat by using a better investment. You also need to look at one other factor. You want to come out ahead of the rate of inflation, otherwise you will still be losing money. We must assume your first sum has brought in a figure above the level of inflation, but do remember to keep an eye on this figure. Subtract it from your previous result. It is currently just below 3%. I always round up to the nearest whole number, just to be on the safe side. If your favoured base investment returns 6.87% on your money invested, after you have subtracted 3% for inflation, your real rate of increase in your investment is 3.87%, which is not a lot. Let's look again now at the question posed by my emailer. He wants to get into real estate. He has the advantage that if he is investing in real estate he can get a mortgage, and thus take advantage of gearing. He can of course do a bit a gearing with his company bonds. He can buy £20,000 worth, and take the certificates to the bank where he ought to be able to get a 70% advance to buy more. 70% of 20,000 is 14,000. He can now invest that in more bonds, but must take the interest he's paying away from the interest he's getting, which will probably leave him with virtually no profit. In fact figures for October 2007 will leave you out of pocket. One other small point: bonds aren't likely to appreciate in value. You have simply invested for the income. Real estate may well appreciate. But that is a question we will address in a later chapter. Okay, let's do the maths on a typical property bought using £20,000 in cash. First, do you want to think long term or short term? Do you want to pay as little money out now, or not? For instance, you can get a buy-to-let style mortgage at 80% loan to value. You will be paying interest only. Or you can get a personal mortgage of 100%, but you have a repayment mortgage. Let's stick with the buy-to-let style first, but let me point out that one way of killing two birds with one stone is to buy a house that is too big for you on a 100% repayment mortgage. You then let out a couple of rooms. They help pay the mortgage. You now go out and buy a second property with your £20,000 as a deposit. I go into this method of business in my chapters on money, and no money. As I say there the real secret of making lots of money in property is to buy your first house with cash, or with a 100% personal mortgage and let out rooms to pay that mortgage. You are then in a position to expand right away instead of waiting for an equity build-up in your first property. Okay, back to the buy-to-let maths. You have £20,000. You can go out and buy a property for £100,000. You are going to do your maths as follows. First work out what you are losing by not investing in the bonds, or whatever investment you fancied for a hassle-free return. Let me assume the Abbey bonds paying 6.78%. 20,000 * 6.78% = 1,374. Your annual return will be £1,374. That's the figure you have to beat in any business venture to make it worth the hassle. You buy your £100,000 house. You have an £80,000 mortgage at 5% interest. You are paying £4,000 a year to cover that. You rent out your new house for £100 a week. That brings you in £5,000 a year. You will have had to buy furniture, pay insurance, allow for voids and defaults, and some more for repairs and improvements. You should allow 10% of your income for both. That means you need to deduct 20% from your rent to cover outgoings. That reduces your takings to £4,000 a year (and we haven't actually subtracted the cost of the furniture). You are  breaking even. In fact you are now making £1,374 a year less than you would have been if you'd invested your money in the bonds. Daft isn't it? There is the possibility of capital gain. We will deal with that in a later chapter. But first let me say that you buy low and sell high to make money. That means you buy property when prices are on the floor not at a high. That means you would have bought any time between 1991 and 2001. After that prices had made their big moves, and you were only getting the last moves. From 2003 onwards the profits from capital gains have been negligible. So what's my reply to Chris's email? Dont get into buy-to-let. There has to be a better way. Here's another email "Hello John, a friend recently directed me to your superb website, www.property.org.uk. A cursory tour of the various unusual properties listed brought my personal dilemma into clearer focus - I am a first time buyer with a £64,000 agreement in principal from a mortgage lender, which as I'm sure you're aware is next to nothing. Although I need to be based in the central UK, out of financial nesessity I need to be very flexible if I am to find anything grander than a garden shed. I will shortly be attending some auctions. I would prefer not to go down the "shared ownership" route, and a flat is not an idea I relish. Maybe I'm not so flexible after all...? I wonder if you had any advice to offer me? Any tips, pointers or verbal slaps in the face would be gratefully received. Kind regards, Kester Peters." There is obviously a problem out there. There are loads of books that tell you how to get mortgages, and how to find buy-to-let deals, and all the usual stuff, but none of it gets to the guts of the problem. The real problem is: how do you work out what you should be doing? As of the time of writing I can get back to Kester with the info that an auction house is currently offering a two bed flat on the sixteenth floor of a high rise in Birmingham. That should do for starters. But does that actually answer the underlying question? Should I be asking a totally different set of questions, such as: How do I fund my pension? What is the best way of turning £10,000 into a million in under ten years? How can I give up the day job in ten years? Should I be looking at property at all? Is the stock market played out? What are options contracts? Should I be investing in commodities? Gold? And of course the really simple but baffling question: how do I find a house to live in with prices at current levels? Obviously I simply cant answer all these questions. There is one other problem as well. What was a good deal in november is not neccessariiy going to be the best deal next may. I am going to start this book by going through a series of options, and trying to work out what questions pertain to which options, and then try and come up with a way forward for each option. The options i think I should be addressing are: 1    How to get a decent house where I want to live without screwing myself mercilessly through horrendous amounts of borrowed money. 2    How to get an income for the future, either as a pension, or as an alternative to the daily grind. So we are looking at either mid term, say 5-15 years, or long term, say 15-30 years. 3    How to get a more interesting and financially viable lifestyle. This may prove an impossible question as the answers are going to be so personal. Okay, let's try. Next >>>

© John Clare and The Property Organisation 2007