INCOME. That’s the goal. That’s the reward. That is what it’s all about. If you are not buying assets today that will generate you the income you will need to fund your future goal, dreams and ambitions, then you my friend, are speculator and not an investor. I see this all the time; clients buy some shares off a tip from a mate who is “In the Know” or having a go at buying a few direct shares for a while to see how they go. Even if you have one investment property I’d call you a risky property speculator. That is before we look at negative gearing, that is simply speculating on a grander scale! I’ll have a look at that one later.
Do you consider yourself a conservative investor because you have bought an investment property in your neighbouring suburb? I consider this a very risky strategy with the hallmarks a speculator. In this strategy, you have one asset relying on one tenant to both pay the rent and look after the property. You are also relying on one location continuing to have low vacancy rates with high quality tenants. This comes then with the added pressure of not wanting to put up the rent in case you lose your good tenant. What happens if the main employer in town relocates to another town for example? Vacancy rates rocket up and values fall and your one faceted future income is at great risk. True long term security comes from diversification.
Negative gearing is a bit like buying a new car and the government gives you a tax deduction for depreciation on your new car because you are losing money. That shiny new car is going to be worth a whole lot less next year than it is this year. So, you can claim a deduction for, or a percentage of the money you are losing against your income. If you have a property that is negatively geared then you are getting a tax deduction because you are losing money. Spending $1 to save $0.30c in tax doesn’t look like a great way to build wealth, does it? You are going to be relying on a whole lot of speculative capital growth to make up for all the money you have spent on interest and costs. Then you will cop the capital gains tax when you come to sell it. A side note is if you need $25,000 for a year of Uni for one of the kids or a holiday you can’t just sell off the kitchen. With property, it’s all or nothing.
Are shares any better though? Aren’t they risky? Depends how you do it. If I told you in 1980 that you should take your life savings of $100,000 and buy the All Industrial Share index (Now the S&P ASX200 Industrial Index) that is a list of the top 200 industrial companies, so we are excluding mining companies, and we allocate funds in the same percentage as their market capitalisation of the whole index. You would be able to spend all the income it generated each year you would probably tell me it was as good as putting it all on Black in the roulette table. Well, history tells us that if you had done that you would have weathered the 1987 market crash, the recession we had to have, the tech crash of the noughties and the GFC. You also have earned more income each year than any other asset class you could have invested in and after the introduction of Franking Credits you have received your income tax paid. In 2016 this investment returned over $80,000 in income, tax paid at $0.30 in the dollar. I would love for my readers to contact me and challenge me on this if you have an asset that has done better than this. In 17 years so far of providing financial advice I haven’t come across a long term passive investment that was made in the early 80s with all income spent with zero further capital investment that returns $80,000 a year in all important income. THAT is investing!
Around 15 years ago I heard Peter Thornhill present this theory, you should have a read of his book available on his website www.motivatedmoney.com.au. Peter has been building this chart and watching the income grow since then.
You can see the growth in the income, a bit of a dip there for the GFC but you can also see the Capital has been pretty handy on the return side as well. Even if you take out the GFC and see that post GFC fall it bottomed out at $1m that’s $100,000 to $1M in 28 years still a great return in the worst global financial conditions since the 30s depression. The capital value now returning to the highs pre- GFC we have had fantastic stable Tax paid income in 36 years the capital growing to around $1.8M. Now obviously, history isn’t a guarantee of future returns. Take from this what you will. Here if Peters Chart he calls the Mother Ship chart. Please note the Red bars is the return you would have received if you put your money in the bank Herd the term “put your money in the bank at least it’s safe and secure and guaranteed to grow” I’ll debunk that myth in the next Blog.
Now I don’t see how buying an index of 200 of Australia’s top industrial companies has higher risk then buying one Investment property. With your funds divided between 200 companies are you going to notice if one or two of them go belly up? I doubt it. Think of it as owning a small part of 200 houses spread all over Australia. If one burns down are you going to miss it? I doubt it.
Slowly building your share portfolio and hanging onto it for ever may not seem very sexy, it’s not a great BBQ story… But it does makes you a proper investor. An investor with income. There is no reliance on speculative share and property values, just 200 quality Australian Companies that we buy and hang onto enjoying our increasing dividends along the way. Let’s leave the rest to the speculators.
Here is the updated slide thanks again to Peter Thorhill. The dull but very successful picture of an increasing income. Love it ….