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Renting Versus Buying Financial Analysis For All Buyers; With 2% property price growth over 5 years your net wealth would be less
Topic Started: 29 May 2012, 08:02 PM (2,917 Views)
Alec Smart
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The burning question on the mind of many potential buyers is ‘should I rent a property and invest my savings or should I buy a home and pay a mortgage?’

There will be many personal reasons, however what about the wealth impact or net value impact of your decisions? Can buying a home be financially superior to renting a property? What if property price growth is 4-5% p.a. for 5 years versus what if property price growth is 1-2% p.a. for 5 years? What if property price growth is flat or negative for 5 years? How do the outcomes compare?

There are calculators available that allow buyers to compare the financial cost of renting versus buying. Check out this site http://www.investmentpropertycalculator.com.au/free-home-rent-or-buy-analysis-calculator.html I am not endorsing or promoting this site, but the free calculator does provide an insight into the potential outcomes if capital growth is good at 4-5% or capital growth is flat.

Do your own sums.

Here's some numbers I have crunched:

■ With 5% property price growth by buying instead of renting your wealth could be greater over the next 5 years.

■ With 3% property price growth by buying instead of renting your wealth would be break even or just less over the next 5 years.
■ With 2% property price growth by buying instead of renting your wealth would be less over the next 5 years.
■ With flat property price growth or negative property price growth by buying instead of renting your wealth would be less over the next 5 years.

Food for thought!
Edited by Alec Smart, 29 May 2012, 08:05 PM.
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Graeme
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Long term studies, such as the Herengracht Index or Shiller's work, have shown that property prices track income and inflation, which is hardly surprising since you'd expect people to be able to afford to buy the house they live in. ;)

Wages in Australia have risen between 3% and 4% per annum for most of the last decade, and that's been during a period of consistent economic growth. Given the current headwinds due to the continuing financial crises around the world, I wouldn't be surprised if they're flatter for the next few years.

So assuming that neither the market crashes, nor that there's an influx of foreign money looking for a safe haven, then it's probably not going to make much difference either way in the near future.

But property yielding 4% against much higher mortgage rates doesn't strike me as a good investment given the state of the global economy right now.
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Mr Griffin
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Yes.

I'll do another calculator on shares. To buy or not buy.

Taking the average return on shares over the last 100 years of 10% pa (including dividends) and a borrowing rate of 8%.

If you borrow $100k, you are better off after 1,2,3,4,5,6,7,8,9....100 years.

Further to this, if you borrowing $1M, you are even better off after 1,2,3,4,5,6,7,8,9.......100 years.

Why isn't there endless promotions of borrowing as much as you possibly can to buy shares? My fucking excel spreadsheet says it's the best thing to do???
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peter fraser
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Mr Griffin
30 May 2012, 09:33 AM
Yes.

I'll do another calculator on shares. To buy or not buy.

Taking the average return on shares over the last 100 years of 10% pa (including dividends) and a borrowing rate of 8%.

If you borrow $100k, you are better off after 1,2,3,4,5,6,7,8,9....100 years.

Further to this, if you borrowing $1M, you are even better off after 1,2,3,4,5,6,7,8,9.......100 years.

Why isn't there endless promotions of borrowing as much as you possibly can to buy shares? My fucking excel spreadsheet says it's the best thing to do???
Taking your $1M to the Casino and using the old double up method is mathematically even better, but you're not factoring in risk or "house rules'

If there was no such thing as a margin call or an Enron or a HIH then we would all be better off renting and accumulating shares - but when the ASX has been turned into a roulette wheel with the capacity to lose every dollar that you have ever invested, then that risk has to be factored in.

Information given to ordinary shareholders is given to pump up the share prices because the CEO gets a bonus if the share price increases, and figures in the financial statements often hide the real position with insufficient allowances for write offs or one off losses that haven't surfaced yet. (JPM $2B write off that may turn out to be $4B)

Why do you think investors willingly bought US treasury bonds with a zero return at the height of the GFC?

If you can find a company where the ethical standards of the management and board are beyond question, the industry prospects are good, the efficiency is outstanding, the product is competitive and in high demand, and the balance sheet is strong with no possibility of any financial skeletons, then please let me know.





Any expressed market opinion is my own and is not to be taken as financial advice
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miw
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peter fraser
30 May 2012, 10:10 AM

If you can find a company where the ethical standards of the management and board are beyond question, the industry prospects are good, the efficiency is outstanding, the product is competitive and in high demand, and the balance sheet is strong with no possibility of any financial skeletons, then please let me know.




There will be no point, because the price of the shares will have been bid well above the company's ability to provide a return....

The truth will set you free. But first, it will piss you off.
--Gloria Steinem
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miw
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Had a bit of a play with the spreadsheet.

The result is extremely sensitive to a field called "return on investments", and to be useful you need to put after tax return on investment, since the return you are pitting it against (estimated appreciation in home value) is tax free for owner-occupiers. The default number is 8% which I feel is a bit high. It's very hard to get an 8% after-tax return at all, let alone an after-tax return of 8% risk-adjusted down to the volatility of property prices.

You also need to bump up the rate of rent increase a bit in the assumptions. In Brisbane western suburbs the compound annual growth in rent has been just over 5% over the past 11 years.
Edited by miw, 30 May 2012, 02:51 PM.
The truth will set you free. But first, it will piss you off.
--Gloria Steinem
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peter fraser
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miw
30 May 2012, 01:53 PM
peter fraser
30 May 2012, 10:10 AM

If you can find a company where the ethical standards of the management and board are beyond question, the industry prospects are good, the efficiency is outstanding, the product is competitive and in high demand, and the balance sheet is strong with no possibility of any financial skeletons, then please let me know.




There will be no point, because the price of the shares will have been bid well above the company's ability to provide a return....

You will find them among low debt startups with idealistic management who haven't yet been compromised, with no history, but you have to find something before the market realises that the product is sexy.

The last one that I rode was ENG that went from .07c to .44c before I got out, but that was just as the world was discovering voip.

It's almost time to start looking again.

Any expressed market opinion is my own and is not to be taken as financial advice
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Alec Smart
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miw
30 May 2012, 02:24 PM
Had a bit of a play with the spreadsheet.

The result is extremely sensitive to a field called "return on investments", and to be useful you need to put after tax return on investment, since the return you are pitting it against (estimated appreciation in home value) is tax free for owner-occupiers. The default number is 8% which I feel is a bit high. It's very hard to get an 8% after-tax return at all, let alone an after-tax return of 8% risk-adjusted down to the volatility of property prices.

You also need to bump up the rate of rent increase a bit in the assumptions. In Brisbane western suburbs the compound annual growth in rent has been just over 5% over the past 11 years.
Yeh interesting isn't it............

■ With 2% property price growth by buying instead of renting your wealth would be less over the next 5 years.
■ With flat property price growth or negative property price growth by buying instead of renting your wealth would be less over the next 5 years.

If property price growth in Australia is negative or flat over the next 5 years you will be financially better off renting.

Even with 2% property price growth you are financially better off renting...

Food for thought!
Edited by Alec Smart, 30 May 2012, 03:21 PM.
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peter fraser
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Alec Smart
30 May 2012, 03:20 PM
miw
30 May 2012, 02:24 PM
Had a bit of a play with the spreadsheet.

The result is extremely sensitive to a field called "return on investments", and to be useful you need to put after tax return on investment, since the return you are pitting it against (estimated appreciation in home value) is tax free for owner-occupiers. The default number is 8% which I feel is a bit high. It's very hard to get an 8% after-tax return at all, let alone an after-tax return of 8% risk-adjusted down to the volatility of property prices.

You also need to bump up the rate of rent increase a bit in the assumptions. In Brisbane western suburbs the compound annual growth in rent has been just over 5% over the past 11 years.
Yeh interesting isn't it............

■ With 2% property price growth by buying instead of renting your wealth would be less over the next 5 years.
■ With flat property price growth or negative property price growth by buying instead of renting your wealth would be less over the next 5 years.

If property price growth in Australia is negative or flat over the next 5 years you will be financially better off renting.

Even with 2% property price growth you are financially better off renting...

Food for thought!
Alec that assumes that the renter actually saves every dollar of that extra cash surplus.

Do they?
Any expressed market opinion is my own and is not to be taken as financial advice
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miw
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Alec Smart
30 May 2012, 03:20 PM
Yeh interesting isn't it............

■ With 2% property price growth by buying instead of renting your wealth would be less over the next 5 years.
■ With flat property price growth or negative property price growth by buying instead of renting your wealth would be less over the next 5 years.

If property price growth in Australia is negative or flat over the next 5 years you will be financially better off renting.

Even with 2% property price growth you are financially better off renting...

Food for thought!
Yes, but 5 years is probably too short a timeframe to consider. The decision to buy into a home (as opposed to buying an IP) is really a lifetime decision that should be looked at in terms of "from now to retirement." Very few people who buy their own home go back to renting if they can help it. The decision is "do I get on the treadmill now or not."

Even with -1% appreciation, you are better-off after 30 years, given the assumption of 5% rent growth, 5% after-tax return on money you saved elsewhere, 3% NPV discount rate and 8% interest rate. All of those assumptions are bad for buying, except for interest rates where we quite frankly can't have a clue.

-1% appreciation over 30 years is a very gloomy assumption. If you took a bet that required this to win, you would 99% lose your shirt.
5% after-tax return over 30 years can probably be got on a dividend-growth investment strategy if you choose good blue chips now and never sell. Other low-risk strategies will do better (some of them considerably better) pre-tax, but the tax will eat your lunch.
5% rental growth is possibly a little optimistic for the renter in a situation where asset prices are deflating. I have certainly noticed that rents go up much faster when property prices are falling.
3% NPV is essentially expected CPI and is probably a more realistic rate than 5% for this kind of decision.
8% interest is probably more realistic than 7% in the long-term, but 30 years is a long time. Anything can happen here.
The truth will set you free. But first, it will piss you off.
--Gloria Steinem
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