If you had enough cash to buy $1 million-worth of real estate what would you do?

Unfortunately, many people would opt to buy just one property and, if they lived in Sydney they’d probably invest there because they believe the Harbour City will always be the golden goose. This may not be the best option….

WHAT TO DO WITH $200,000?

An investor who has $200,000 as a deposit, either through cash or equity, could conceivably buy property worth $1 million while maintaining a healthy 80 per cent loan-to-value position.

Now, lets consider a hypothetical of purchasing $1 million-worth of property in 3 locations compared with someone who invested that $200,000 into one property in somewhere like Parramatta (chosen primarily because the median house price in this middle-ring Sydney suburb is near enough to $1 million).

Of course, with any property investment, research in to the fundamentals and growth drivers of a location is vital whether you’re buying one or three properties. But, investment strategy is different!

A thought process to use in this scenario is to actually think like a sophisticated share investor.

If a share investor had $200,000, and worked in a bank, do you think they would invest all of their money into that one particular bank stock? Of course not, because they’d be putting all of their eggs in one basket.

If something adverse happened to that bank or to the financial sector as a whole, 100 per cent of their capital would be exposed to the resultant poor performance.

SMALLER FISH

Beachsea can apply a similar principle to your portfolio similar to what an astute share investor would use. Which means we don’t invest all of our capital in one asset or in one community.

Most sophisticated share investors would break that $200,000 into smaller parcels and invest in a number of different companies across different industries. They do this in order to take advantage of multiple opportunities and to provide a degree of protection from future downturns caused by any number of factors that one couldn’t possibly anticipate at the time of investing.

In this case, lets consider buying a $400,000 property, a $350,000 one and then another one for $250,000 (one couldn’t buy a pantry in Sydney for $250,000 these days).

The cumulative value of the three properties is $1 million. But, they’re located in three different states where each economy is dependent on different industry sectors (education, tourism, advanced manufacturing, agriculture, etc).

If there was a broad downturn in one economy for a period of time, or if something adverse happened at a local level in one location, the blow to the portfolio is cushioned by the economic and local growth drivers in other locations. This is a prudent risk management strategy; no one has a crystal ball!

Investing in properties in different states means that the entire portfolio is protected from localised economic wobbles. It’s not that long ago that New South Wales parliament was akin to a revolving door with 4 state premiers within 5.5 years – it’s no coincidence that NSW property markets were among Australia’s worst-performed during that era.

But, the most exciting thing is that I’m taking advantage of multiple opportunities in different locations!

So, let’s now calculate the cash flow of each property investment decision.

Buying a $1 million property in Parramatta, with an 80/20 loan to value ratio (LVR) and a five per cent interest rate, will require an additional cash injection from the landlord of about $20,500 per year.

If there is no price growth for five years as some market analysts are forecasting that’s $100,000 of cash flow that’s needed but the asset value has stayed the same.

Conversely, the diversified investment property strategy helped to add three properties to the portfolio, using the same LVR and interest rate, plus they have a cumulative cash flow of $3,500 a year – straight into the bank account!

So, those three properties give back $3,500 a year in cash – plus, those markets are on the way up, not on the way down.

You don’t have to be a genius to know that smaller property investments can indeed make sweeter investments!