All Topics / Creative Investing / Positive gearing based on Steve McKnights principle
Now I was thinking if a home was to be positively geared
then in effect anyone would buy it,
so really its like a free lunch
in a competive market can such things exist?
I mean if they did, wouldnt the real estate agent just buy it?
Because to me if the possible rent you can receive was to be more then the interest the value of the house would increase until the intersest > rental
Can someone clarify how steve mcknight did this, or is he talking crap, being a finance student and studying perfect equilibrium and arbritrage etc etc I see a major flaw in his ideas and wonder if his telling the truth
No i know with property there are serach costs, transaction costs, and unlike the stock market its harder to find the property etc
but can you actually find such postive geared properties?
Firstly, Steve's book is totally out of date now. I have read it, and it's a great book, but times have changed a lot. The market is vastly different to when he did his stuff. Not to say that it can't still be done, but it's very difficult. These days, you need to create the pos cashflow through renos, adding value, subdividing etc.
You can, however, find properties that are POSITIVE CASHFLOW AFTER TAX. This is different. Read all of Margaret Lomas's books to learn the strategy. This is the strategy that we have used.
Secondly, agents rarely invest. Their incomes are very inconsistent, and most are purely salespeople. Most have no investing knowledge. You are correct; if it was that great, why doesn't the agent buy it? They can't afford it most likely. There are rules restricting them from buying properties that they are selling unless they disclose their interest in it, but it is a minor inconvenience and not the main reason for them not buying.
Thirdly, the rental return on a house has nothing to do with it's value and vice-versa. They are both market driven. Look at the last few years. The cap gain has totally outstripped the rents to the point where in most parts of Aus the rent returns are crap now if you are trying to buy.
But I expect the cap growth will slow down as the interest rates keep climbing, so the rents will catch up again, then the cap growth will surge again, then slow down, etc etc. It's a cycle.
Hi,
I don't think I'm talking complete crap, as the book is based on my real life examples.
However, as you are studying the latest info and world trends, I'd love to hear your thoughts on how you think "studying perfect equilibrium and arbritrage etc etc" relates to the property market.
And while I agree that the property boom of 2000 – 2003 caused the 11 Second Solution Formula to become more difficult to apply, I don't agree that Book 1 is totally out of date. I continue to buy positive cashflow properties and invest in the same way as described in the book. Having said that, perhaps it is time for an update.
Bear in mind though, I also released the sequel in 2006 which was designed to answer your questions. There is a chapter in that book on how to find positive cashflow properties.
Finally, positive cashflow after depreciation is not what I call positive cashflow; it is positive gearing. Perhaps this is a finer point, but the assumption is that you have other income to soak up the depreciation tax shield. If you don't then the property will be negative cashflow as the depreciation created loss must be carried forward.
Margaret's books are well written and a good source of info on the topic of positive gearing.
Regards,
Steve McKnight | PropertyInvesting.com Pty Ltd | CEO
https://www.propertyinvesting.comSuccess comes from doing things differently
Propertyboy,
we do live in a flawed world. Marc has made a number of good points, here are some more:
Real property is not like listed property (there is some correllation between the two but no-one has yet been able to determine beta)
Real property is not valued on an instantaneous basis based on full disclosure to the market (like shares) – there is a need to investigate and undertake due dilligence on any property purchase.
No two parcels of land are identical ie each is unique unlike any two shares in BHP or Westfield (each is valued the same and is indistinguishible from the next).
Reporting & completion of property transactions generally takes 2-3 months compared to the instantaneous reporting & tracking of equities.
Markets are more sophisticated than when Steve started investing, there are new major players in the market (super funds, globalisation of property assets etc) which have added to price competition for A grade assets, tax rulings keep changing and will indirectly impact on how each investor invests or divests.
Yield is not a static thing – yield fluctuates with some correlation to interest rates (more so for non-residential property).
The investment strategy should always be feasible regardless of the tax situation – never make investment decisions solely based on profitability after tax has been considered, do all your analysis pre-tax & pre-tax benefits (eg depreciation)yes but if a property was to have rent > interest to me it would seem logical that people walking through it would bid it up until the price of the properrty rises until interest > rent. For example if i was to buy a $260 000 home I would pay about $1500 in interest every month, which $260 000 property can achieve a rental of 375 a week? I know people renting out apartments in brighton for that much a week.
Yes I know property isnt a liquid asset like the stock market and there are search costs, transaction costs etc which may cause mispricing but finding a positive cashflow? how do i do this?
Steven I ask this because I just bought your book last week, and it was the 1-30 properties in 3.5 years and I just cant see how in melbourne now you could find such properites, any help in where I can start looking?
Now the only way i can think of possibly starting a positive cashflow is to maybe buy a 2 bedroom apartment and rent it out to two people which could possibly give me higher then market rent and hence cause positive cashflow.
"Thirdly, the rental return on a house has nothing to do with it's value and vice-versa. They are both market driven. Look at the last few years. The cap gain has totally outstripped the rents to the point where in most parts of Aus the rent returns are crap now if you are trying to buy. "
See I do not agree with this, I believe all property self-consciously is valued on a direct cash flow basis even by regular joes.
If people see the rent on a property is higher they will pay more for it then another property which would get lower rent. It just logic.
Yes it is demand based, and that is why people would demand homes which receive higher rents and therefore they will pay more for it.
I just dont see how a home could be worth more then another yet the one which is worth less would be receiving higher rent, its like saying a home in brighton would receive less rent then a home in ballarat, it just makes no logical sense,
Please clarify further
Hi Porpertyboy,
I understand your questions as to "where can I find these properties in Melbourne" – I myself live in Melbourne and find it difficult to identify properties that on their list price would have a greater rental income than what the mortgage repayments would be. I'm only JUST stating out in the world of investing myself so I'm sure that there are many more things I have to learn.
However… I suggest that you also read Steve's latest book as it is more relevant to today's market. (actually read as much as you can from any property investing authors, never stop learning!) He speaks about finding solutions to problems. Anyone can walk along and say hey this house would only cost $500 a week to repay, yet I can get $600 a week rent. But if you find a run down property that needs a bit of work and is in an area with demand, you can create a solution to a problem and "make" it into a positive cashflow'd property. Build a carport, add an extra bedroom (bedroooms are key to rental return), paint, tidy up the yard. Or, if tenanted, find out what THEY would like done, and what extra they would be willing to pay for those things.
Make sure you know the area you want to invest in, "know it like a local". I myself have very little experience in Melbourne, I'm from Tassie so that's where I look for property. In time as I get to know the local "Melbourne" areas I will probably concentrate there.
I love Steve's signature on the form… " Remember that success comes from doing things differently."
Valkyrie
Hi again,
You might be interested to know that when I first started investing (5/99) I was much in the same boat as you are.
I had attended a seminar (in Sydney), heard about +ve cashflow properties, and then came back to Melbourne and started looking as hard as I could. I spent days looking, and there was no realestate.com.au I rang stacks of agents, pounded streets etc; and I couldn't find a single one in metro Melb.
I was close to giving up and thinking that you couldn't find these deals, and then I thought I would try Ballarat. Afterall, there was little to lose other than a day or two of pay.
Even up there, I looked through many houses before I finally came across one that would be +ve cashflow, and that was a good house in a bad area.
My point is that +ve cashflow property was never easy to find, but by looking in different areas and in different ways, a profit making opportunity emerged.
And hence, with the market changing, Ballarat property has gone up, so the area I once bought +ve cashflow deals no longer gives the same opportunity. Do we give up? No. We change and adapt.
For instance, I recently purchased a +ve cashflow commercial property (that met the old 11 sec solution formula). At the moment I am looking at an unusual deal – big bucks ($1.5m+ purchase price), but something that you could chop up and maybe make a quick $500k. This may sound high risk, but when you know how to analyse a deal from the inside-out, it is really quite straightforward.
So, to answer your question of 'where do I look', the best answer I can offer is to think about something that you want to make your niche and then look for deals that fit that criteria. Some go for renos, others subdivisions, others development, others buy and hold etc.
As for the property market, economics is important as it provides a model to understand behaviour, but people are random and all to often economics is used to justify what happened rather than to predict true value in advance. There is no logic to why some pockets of Melbourne rose 75% last year, and others were flat. Except of course, fear and greed driving prices up.
Not sure that will get you an A+ on your economics paper, but it is reality.
All the best,
Steve McKnight | PropertyInvesting.com Pty Ltd | CEO
https://www.propertyinvesting.comSuccess comes from doing things differently
Rent is not the only return of concern to investors, as most are in it for the long haul hence capital appreciation forms a bigger part of the equation (coupled with the tax benefits on cgt). In saying that, you must be able to analyse and understand the market in which you are investing, that is if it is Richmond know what is happening in Richmond – everything from median house/unit prices, recent sales, what's on the market, time on the market, price reductions, vacancy rates, current rents etc.
As for rent being the great leveller, for residential property it is not. Other factors do come into consideration eg location, location, location (transport, shops, schools, facilities, services, recreation etc), just because you have a six bedroom/1 bath house (on a main road) does not mean that you will get more than a four bedroom/1.5 bth house located 2 streets away in a quiet location.
One specific reason that many country properties may have a higher cash return compared to thier city counterparts is the lack of capital growth (you may still find cashflow neutral/positive properties in some of these areas (including some city fringe areas). You would be hard pressed to find a house returning 5% net yield on a cash basis in say Surrey Hills (but it's total return {cash + cap gain} may be in the vicinity of 8-10%) whereas a house in Omeo may well give a return of 7% rental but only 1 or 2% capital gain pa. Then again, you may buy in Bendigo or Karratha and be lucky enough to score a 'company lessee/exec rental' or some interent miners as tenants – generally these people work in a town for 1-5 years, are well paid but do not settle down in the areas that they work, they will prefer to pay higher rents than to pay a mortgage.
The problem with economic theory is that is must deal in statistical generalities. It discusses the behaviour of the market like 'the market' is a conscious entity. However, it isn't, it's an agregation of the behaviour of innumerable individuals.
This will lead you astray when researching for investments. e.g the median 3BR house in smithville is yyy, and the median rental for 3 BR house in smithville is zzz. Therefore the yield is 6.44% (or whatever) and this is below the average bank interest rate of 8% bla bla bla….therefore CF-. The median is not a real value, it's the centre of a range of values. SO IT DOES NOT FOLLOW THAT EVERY HOUSE IN THAT SUBURB WILL GET 6.44%
So the market is not a real buyer/seller, and the median yield is not a real yield. How is this a basis for investment then?
The answer is that we, as investors, buy specific properties, not general properties.
Touching on a point made by SNM, buying specific properties opens opportunities where the rent could be way above the median, due to some unique feature that exists or can be made to exist, and the sale price is well below the median, for some other reason. E.g. rent might be good because of location, a feature (eg self contained granny flat), or because a cheap improvement can be made (like A/C or a carport). price might be low because the garden is overgrown or painted in really bad colours, or because the guy has just left his wife and wants to sell it quick to get her out.
A combination of these found me a property 8 months ago in suburban Hobart at a 35% discount to asking price. This made it CF+. I've found 3 more since in other places, so they are out there. It seemed to take forever to find the first one though…
When you first get into this game, it seems that the only way to find properties is to get on realestate.com.au and look up the prices, then look up the rents and do the calculation. You may have lists of suburbs with the yields that you've collected. It's a good start, but it is only the start. You need to spread your wings and get imaginative.
One more thing: Just because you haven't worked it out yet doesn't mean that other people haven't. I don't know exactly how lasers work, but seem to have one in my DVD player that works.
Daedalus
^ no one was talking about the median house prices, your post makes no sense
Medians will give you an idication of what was happening in the market based on the entire market in an area, not being selective of the type of property and only being a statistical analysis. Your own research will dig up the most recent sales, most comparable properties, non-related transactions etc which will provide the basis for your own investments.
If you analyse the sales data, then exclude those which don't apply to what you are researching you will end up with a different answer to the median price. Eg If there were 20 sales in an area, 8 were 3 bedroom new units, 6 were 3 bed older units and the balance were 2 bed units you would sift through the sales to determine which ones you would compare to the purchase that you are considering eg rule out all of the 3 bed units as you want a 2 bedder or strike out the new units & 2 bed units as you want an old 3 bed unit.
propertyboy wrote:^ no one was talking about the median house prices, your post makes no sense
Yeah, OK.It's not actually about median prices though, it's about the information you're using to base your opinions on. Sorry if it was a bit abstract.
I'm trying to point out that you need to check your assumptions about why it's not possible to find CF+ IPs, since it clearly is possible. You can either continue to tell us how what we're actually doing doesn't work, or you can work out how to do it yourself.
It's up to you mate,
All the best.
Daedalus.
Property boy,
If the real estate agent buys the deals you are talking about then how does he get a commission to live on.
Most of them go for the instant gratification of % of sale rather than % of investment return.
Would you take an instant $5K sale or wait a year for a property returning $100 / week cash flow?Real estate agents do buy properties for themselves and some of them are quite successful property investors.
C2
I have just sold a property in Darwin for $200,000 with a current rental return of $260pw. The place hasn't been painted for years, the furniture is old and crappy and there is scope to put up a gyprock wall to separate the bedroom from the main room bringing the rent up to at least $300pw in line with other units in the apartment.
There are still properties out there. Mine was advertised on realestate.com.au. You just need to look and think laterally.
Cheers
K
This is my first time on this forum but this topic hit straight at a issues that I emailed Steve before signing up so Steve you are welcome to disregard.
Having only recently reading through Steve’s 0-130 book, it become quickly apparent to me that the market has quickly changed from the late 90’s. No problem with what was said in the book and it reinforced alot of what I thought about neg gearing etc but the 11 sec rule application may have to be modified (by the user) to account for the current market, particulaly in residential IP.
For the 11 sec rule to work, roughly you are looking at a 10%+ return on the property value, whereas rentals these days, in the SE NSW are more like 5% and that includes regional NSW ie townhouse Wagga, rental income each week 225-230, asking price $225-230,000 .
Now no doubt you can still be positively geared on some properties, however I believe now you would need to factor in tax effect to do so.
Or have I got it wrong? Any thoughts appreciated? Looking at buying my first IP this year but to positively geared in SE NSW (generally) you need to have about a 40-50% deposit so any advice is appreciated.
thanks
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