By Tam Ging Wien (guest contributor)
Property investments are capital intensive and highly leveraged – typically property financing covers up to 80% of a property’s purchase value, and can reach 90% in some countries here in Asia. Investors need to save up a substantial amount before making a purchase.
A property investment that has gone sour may take an investor several years to recover. Besides the loss in capital, the opportunity cost is also high – the investor would be priced out of any future investment in years to come. Therefore, learning from the mistakes others have made is half the battle won!
In this article we will look at five common property investment pitfalls that trap investors, and how to avoid them.
Pitfall #1 – Investing in “Future Value” instead of “Undervalued”
Why would anyone buy a property at a higher future price? Beats me.
Yet, numerous investors continue to flock to swanky showrooms at new launches to buy units that have not even been constructed yet. They pay prices way above the completed project in the surrounding areas. This is clearly paying for future value.
The odds in new launches are stacked against the individual buyer. The property development industry within Asia is usually dominated by a few large companies. They benefit from economies of scale, strong branding and lots of advertising dollars. These industry giants are also well connected and often collaborate in joint venture projects and time their launches to avoid direct competition. They also garner strong support from banks and marketing agents to push sales.
Purchasing a brand new launch provides zero cash flow to the investor for several years.Brand new launches command a premium simply because they are new. Developers sell a lifestyle and a dream to home buyers to justify those premiums.
Pitfall #2 – Investing due to Sentiment instead of Evidence
Are you constantly making your investment decision by relying on newspaper reports and quotes from property experts? Do you frequently attend new property launches and seek the opinions of developers and sales agents? Do you buy because you hear your friends or family members buying? Do you buy into the notion that property prices always increase so you can just buy and hold? Do you think anytime is a good time to buy property?
If you have said yes to one or more of the questions above, you may unknowingly be investing due to sentiment.
Remember, you should never put your trust in sources of information where the opinions come with a conflict of interest. Developers, agents and sales persons will always tell you that anytime is a good time to buy and property will always go up if you just hold long enough.
Instead, look at the facts and figures. Governments regularly publish statistics of home sales, housing starts, developer inventories, supply and demand data, and prices indices. Study the micro and macro economic factors in the region and country that you intend to invest in. Understand the property sectors and behaviours.
Property purchases are likely the largest purchases we will make in our lives. Therefore are you spending a proportional amount of time to learn and comprehend your investment?
Pitfall #3 – Investing for Capital Gains instead of Cash Flow
Like any other market, the property market operates in cycles. Capital gains and losses will occur during uptrends and downtrends. A full cycle from Bull to Bear and back to Bull again can take anywhere from three to ten years.
Therefore, there is little point in trying to predict the market direction. Instead, a smart investor will watch for signs of market stability and search for properties that are undervalued and that give a high and predictable cash flow.
This sustainable cash flow will allow the investor to stay invested without having to draw on their monthly salaries. Those with positive cash flow will even be able to build up cash reserves passively which can be used for emergencies or the next investment.
Pitfall #4 – Investing in the Trend instead of Counter-Trend
A contrarian investor only invests after the property prices have been driven down due to widespread pessimism in the economy and markets. They take opportunity to bottom fish and seek properties where sellers are desperate and willing to sell below market value. These investors use sustainable cash flow to tide them through uncertain economic situations.
When there is widespread optimism that drives prices to unrealistic and unsustainable levels, these investors will sell their properties and reap the rewards. They then wait patiently for the next cycle and start all over again.
These investors always buy low and sell high. They live and breathe the Warren Buffet mantra, “be fearful when others are greedy and be greedy only when others are fearful.”
Pitfall #5 – Investing without an Entry or Exit Strategy
As a final pitfall, many investors enter into an investment with no clear entry, hold and exit strategy. They have not considered the question of who their potential tenants are or who they can sell their properties to. They have not calculated their recurrent expenses versus rental yield. They have no clear investment goals.
For most average investors, we usually only have one shot in property investment, so make that bullet count!
By guest contributor Tam Ging Wien, an avid investor and blogger who spends his time empowering the masses in financial education.