Place property on balance sheet

"A bit of an investment and a bit of a home" is the usual request of the first-time property buyer. Not an easy brief to match.

Why? An investment needs a maturity date and a place on the balance sheet. A home doesn't have a maturity date and has limited real value on a balance sheet.

Whilst we are not as restricted as our earthly cousin the tortoise, home-owners nevertheless tend to be stuck with the equity element of property wherever they move.

Put another way, the vast majority of home/investment purchases end up being the 'roof-over-the-head' — a product purchased for its intrinsic value (the roof) rather than its financial value (the balance sheet).

So what are the genuine investment elements and how can we justify property on the balance sheet?

This starts with the premise that if the first house and its equity is going to follow you around tortoise-like, you really need to be planning a portfolio of more than one property. One property is a home, two improves the investment potential.

"But that's loads-er-money" I hear you cry. Not more than any other investment need be.

It does, however, take discipline, planning, attention (it's not a totally passive investment, but then what is these days?) and, above all, it requires rising markets.

Okay…I have heard the counter-argument that you can buy a really expensive property, commit your entire cash-flow to it, wait for it to appreciate, sell it, and live in a smaller home.

An "all-yer-eggs-in-one-basket" philosophy — the only strategy on the balance sheet. Not listed among the economic Nobel Prize strategies. Lack of diversification equals risk.

Diversification

Good financial planning and investment advice is about taking an "holistic" view to an investor's entire balance sheet. It is not about selling one product, one asset class, one investment strategy. So, discussion on property portfolios need to be segmented into a particular corner of the balance sheet.

The aim of that particular corner should be to get to a point where the portfolio is self-financing and appreciating in value without requiring continuous capital outlay.

This is why, eventually, as a strategic play, property is accessible to most people as long as they are well organised.

The "location, location, location" mantra is well worn by the species of "estate agent", usually to help the sale. I have never seen a property advertised as a "poor location". However, there is substance behind the mantra, and that substance needs to be understood before entering into the building of a property portfolio for investment purposes.

Locations

The first "location" issue might be attributed to the importance of gearing (what the 'Yanks' call leveraging). Gearing is the process of making money out of other people's money. In the case of property we are talking about the bank's money.

For gearing to work, you need a rising market. If not, you could end up owing the bank more than the property is worth: the effects of negative gearing. So, "good location" needs to be somewhere where the demand for property regularly outstrips supply.

This might mean places like Australia's Bondi Beach where new buildings can't be built into the sea, or London, encircled by the M25 so new buildings can only go up into the air. Maybe, some time, Palm Island?

The second "location" issue could be attributed to the importance of finding tenants. Under "location one", you can see that our investment route will take us down the road of borrowing money. Somebody's got to pay and our choices are either you, me, or somebody else called the tenant.

As I pay rent to Union Properties in Dubai and you already have the 'roof over your head', you're stuck with a tenant. Again, if the demand for property is always strong, the rental market will also be strong (in terms of demand, not necessarily yield).

So, London remains a strong tenant market because of the sheer volume of people who cannot afford to buy, and of people looking for somewhere to live temporarily — although the "yields" or actual rents have slipped off as a percentage of the property price purely because prices have risen. A common cyclical trait.

The final "location" issue also relates to the borrowing aspect, in that if our portfolio is going to rely on gearing, then the currencies we use should be factored into the equation. As a rule of thumb, you should push towards the third and fourth purchases (you have to dream) being in different countries.

Again, as a rule of thumb, don't mix your assets and liabilities by taking a US dollar loan to purchase an Aussie dollar property.

Yes, it can work with stunning benefits, but if the currencies go the wrong way, you could once again end up with a loan larger than the value of the property, resulting in years of saving producing mountains of debt. A seriously bad idea.

HOW TO PLOT

Realty matters
* For gearing to work, you need a rising market. If not, you could end up owing the bank more than the property is worth: the effects of negative gearing. So, good location needs to be somewhere where the demand for property regularly outstrips supply.

* If the demand for property is always strong, the rental market will also be strong — in terms of demand, not necessarily yield.

* As a rule of thumb, don't mix your assets and liabilities by taking a US dollar loan to purchase an Aussie dollar property. Yes, it can work with stunning benefits, but if the currencies go the wrong way, you could once again end up with a loan larger than the value of the property.

The author is the managing director of Mondial (Dubai) LLC