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investment adviser

By: Neil Vorster
investment adviser

Here are two questions, one for your financial advisor / investment advisor and one for your investment savvy estate agent.

May the best man(or woman) win.

Question 1

Dear Financial Advisor, if I have R 200 000 in cash, how many Rand’s worth of shares can I buy?

Your question will probably be met with incredulous silence. The answer is obvious, exactly R200 000 worth.

If you  have a very healthy balance sheet,  you may be able to borrow  up to 50% if you buy blue chip shares enabling you to  purchase R400 000 worth. By their very nature, blue chip sharesoffer the owner relatively secure and safe growth, and therefore offer very low dividend yields. You will be left having to finance the cost of your borrowings and will no doubt justify this “forced savings” to yourself as the wise decision which provides gearing of your investment for the benefit of growth.

So the simple answer is, 9 times out of ten, your R 200 000 will buy you exactly R 200 000 worth of shares.

Banks understand RISK!

The fact that the bank is not really willing to lend you money to buy even blue chip shares makes you wonder about the risks involved …!

 Question 2

Dear Estate Agent , if I have R 200 000 in cash, how many Rands worth  of property can I buy?

If he knows anything about buy to let investment, he will likely be a property investment coach, and his answer will be something like this. “About R1 000 000 worth should be relatively easy”.

Even though the banking world has been all gloom and doom since 2007 when the credit crunch bit, today there are any number of banks willing to lend up to 100% of the purchase price on well-located property  purchases –  a 90% loan is more likely, so we will work on that for now.

Buy to let property investment relies on two primary factors, namely future capital growth prospects and rental cashflow.  The R 1000 000 solution is more likely to comprise 2 small Johannesburg northern suburb townhouses of R 500 000 each.

Let’s assume round numbers, and a steady interest rate, so that we avoid the paralysis of analysis and miss the whole point.

Each of your two property investments will look something like this:

Using  R 100 000 for each of your properties, as follows. . .

Purchase price:      R 500 000

Homeloan:             R 450 000 (bond repayment R 4000 )

Deposit:                 R  50 000

Transfer costs:      R  25 000

And you have a cash surplus of R 25 000 to store in your access bond (to mitigate your landlord risks)

Your rental income should be about R5000 per month, less levies and rates of about R1000, leaving you with a monthly net rental income of R4000 towards meeting your bond repayments. With a bond repayment of  R4000 per month, you would be breaking even every month on your investment in the first year.

The two factors which make property investment fantastic are the exponential income growth plus capital growth

Rental growth:  Your rental of R5000 should grow at, say 8% per year, that is by R400 after one year. Simultaneously your R1000 levy costs will also increase by 8%, or R80. So your net rental income will increase by R320 in year two. That is net rental income growth from R zero per month in year one to R 320 per month in the second year.

Capital Growth : Using the simplistic 10% number again (it isn’t that far out – it’s a bit low if you are considering the last 12 years, and a bit high if you are considering the last 4 years)

Your property will have increased in value by  R 50 000 after 1 year of ownership .

So doubling up the numbers – remember we are buying two townhouses of R 500 000 each.

For R 200 000, you can buy R1 000 000 worth of property, offering you a net rental income of  R zero in the first year.

PLUS

R 100 000 in capital growth after year 1 – that is a 50% return on your R 200 000 invested. (You have R 1 000 000 of property growing for an investment of a mere R 200 000!)

In year two you can start to add the rental growth….

Banks understand RISK!

The fact that the bank is willing to lend you 90% of your purchase price on a property purchase makes you wonder about the risks involved.

What would you do with your R 200 000 in cash?

Who is going to earn his commission, the savvy estate agent or the investment advisor?

Please share, comment and question freely below.

 

 

Image courtesy of [creativedoxphoto] / FreeDigitalPhotos.net

About the Author Neil Vorster

Neil Vorster is a property investment coach, investment author and co-founder of Organic Growth. Aerobatics pilot and cycling nut.

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Please leave your comments and questions below
  • Hi Nick, This article doesn’t require that you use an estate agency to supply tenants or manage your unit.and the bond costs have been factored in.

    I am trying to prove a point without clouding the waters with too many numbers. I prefaced the calculations with ” Let’s assume round numbers, and a steady interest rate, so that we avoid the paralysis of analysis and miss the whole point.”

    • Thanks for the clarification, Neil. I think the reason I asked the above mentioned question is because it would be an evaluation of YOUR system…I think it is most appropriate to evaluate a property as if one is acquiring it trough YOU and assuming YOU are managing it with ALL the costs involved..1% commission of the purchase price from the buyer even though you would get commission from the seller + several thousand Rands commission for finding a tenant (very unusual) + a 7/8% property management fee.

      • Hi Nick
        As with all things, you do the numbers and take the risk,
        with the bank, with your stock broker, with Organic Growth. I don’t
        need to defend Neil in the slightest by the way. He offers a service and
        we, the clients, choose to buy it or not. Eyes open. Caveat Emptor.
        Cheers.

        • Thanks for the response, Stephen. I would just like to point out that I never asked you to defend Organic Growth, African Bank, Julies Malema or anyone else for that matter – not sure why alluded to this? After doing the calculations, as you recommended, I reached the following conclusion – the people behind Organic Growth designed a business model to enrich themselves at the cost of the investor. Eyes wide open to the promises made by Organic Growth!

          • Hi Nick. I find it interesting when we (including me) complain about the fees associated with investment products but we have no qualms buying a BMW or a holiday, no questions asked about their profit model. It’s as if everyone’s allowed to make a profit except people who create investment vehicles. But they have the same profit motivation as anyone else. I guess it’s the emotion attached to one’s own investments. All best.

            • Stephen, I appreciate your friendly response to Nick’s comment. I absolutely agree with you that there is nothing wrong with people profiting from their business model. In fact, it is something we should all encourage. The example of buying a BMW is interesting, but it is difficult to see how it is relevant to the discussion as no one has ever seen a BMW advert claiming that buying a BMW is a great investment for retirement or that buying a BMW is better than investing in the stock market…I do believe it is worth discussing Organic Growth’s business model because they claim, ” we will show you how to invest for maximum growth.” I think a far better comparison would be to compare Sanlam of the 1980’s/90’s to Organic Growth in terms of the massive upfront fees and upfront commission. I do hope that Organic Growth will go through the same changes as Sanlam and become the leading property investment house in South-Africa. Please keep the monthly membership fee, please keep 100% of the property sales commission, please continue to ask a monthly property management fee, but please, do not ask for commission from the buyer, please consider lowering the tenant placement fee if possible. Please leave a little bit on the bone for the rest of us. And just maybe, I would buy a few townhouses through you, along with Nick.

              • Hi Shelly, thank you. I really appreciate your comments as they highlight a few errors in our communications.

                A common misconception is that Organic Growth is an estate agency. We are not.

                If we source a great investment property for one of our members, our experience has been that they are more than happy to pay us 1% of the purchase price for
                1) Finding the property
                2) Making sure it fits our investment criteria of being the right type of property in the right area and for the right price.
                3) Coaching them through the purchase process and due diligence of the sale – eg making sure they actually get the rental deposit and pro rata rental from the seller on transfer

                The 1% fee we charge ( about 1 month’s rental) is far cheaper than a mistake. I can quote dozens of instances where our clients have made elementary mistakes which have cost them vast sums.

                Here is a video where I explain how I lost more than a million rand in two mistakes I made while learning the game. Watch it and laugh at me, and don’t make the same mistakes yourself. https://staging.organicgrowth.co.za/how-to-avoid-losing-a-million-in-property-investment/

                The other fees you talk about are estate agent commissions and property management fees payable to the estate agent who has a mandate to sell the property, and who then manages and leases the property if required by the investor. .

                • Thank you, Neil! I really appreciate the clarification, as it gives us a better understanding of what Organic Growth is all about. Just a couple of questions; 1) Do you also manage properties for clients – I am just thinking, if I acquire a property through you while living in Cape Town, it would be nice to know that an expert is looking after your property 😉

                • Hi Shelly

                  OG has an arrangement with Targer Realty to manage our investor club member’s properties. (The other hat I wear is that I am the MD of Targer ) http://www.targer.co.za

                  In our cashflows etc, we generally use the management fees as charged by Targer

              • Hi Shelly, points taken. I used BMW as an example because people have no qualms buying motor cars without understanding the profit margins because the margins are hidden in the price. The difference here is that the costs are explicit and the investment is under your control (you can see it, improve it, sell it yourself). Financial services have improved with compulsory disclosure but you still don’t what’;s actually going inside Fund X or Fund Y. You just hope that whatever is happening is good for you. And as many who have retired poor will tell you, they never expected it to be so bad.

          • Hi Nick
            I find it very strange that you take offense at us making money?

            We have never pretended to be a charity organisation.

            Have you noticed that Pick n Pay makes a profit at the expense of its customers, Banks make a profit at the expense of their consumers. The big fancy buildings of the investment institutions and insurance companies bares testament to how much money they are making off their customers!

            The questions you need to ask are;
            Do I find value here,
            Do I need this service,
            and if so am I prepared to pay for it?

            If not, move on with my blessing.

      • Agree with you Nick. In fact there are other factors that have not been taken into account such as vacancy periods. See my comment above.

        • Thanks Philimon, I think there is a real need for an investment company with a win win business model!

      • Hi Nick
        As mentioned previously this is a blog article intended to highlight a principle.

        If you are a subscriber to Organic Growth you will know that we source properties from a whole network of estate agencies. We are not an estate agency.

        When we present a property investment opportunity to our free subscribers we do full cashlfows of all the costs associated with buying the property and the costs associated with managing the property thereafter – if they want the full management service.

  • I agree with Nick below, your example is extreemly misleading especially to inexperienced property investors. You are basically using unrealistic numbers to show a very positive result, which is not acceptable. I am an estate agent and if you look at sectional title townhouses in North Riding the rent being achieved on a R500,000 unit would be more in the region of R4,500 – R5,000/month and the levy and rates would be more in the region of R1,200 which would end up giving you a shortfall to start off with, not a profit! The other issue that you are not taking into account is that of a vacancy period after the 1 year short term lease, which should be included in the calculation i.e. you would normally have 1 month of vacancy per year unless the tenant signs a new 12 month lease. Normally you require the 1 month to find a new tenant and to paint out and fix what ever needs to be repaired once the tenant leaves. You should therefore be using 11 -11.5 months of rental income as an average income figure in your model.

    • Hi Philimon
      Thanks for your response.

      This article was designed to highlight the fact that you can use gearing to purchase property and you can use gearing to buy shares. ie You buy the property with mostly the bank’s money and tenants pay the bank back for you, while you get to own the property!

      The truth is I used conservative numbers in this article, I personally achieve much MUCH higher returns than shown here.

      And I don’t normally have vacancies at all. Vacancies are the exception, not the rule.

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