1 Fact: Should I buy an investment property or shares in NZ?
In today’s blog, I’ll be sharing the most common question I get with investors, should I buy an investment property or shares in NZ? Why is this such a difficult question to answer? Well, people want to find the best deal and make SOME COIN! In all seriousness, it comes down the opportunity cost and what the differences are, so I’ll explain what is the pros and cons of investing in property and investing in shares.
The first thing is we need to understand why we even want to invest in the property in NZ?
Kiwi’s love property and with 2020 and coming into 20221 we are in a BOOM phase with property prices just skyrocketing upwards. People want a piece of the action and so there is FOMO (fear of missing out) which compounds the whole market into a frenzy. Buying property in NZ is a great way to generate some serious wealth. In NZ, well Auckland the last 30 years, we see the house prices double every decade and the trend looks like it will continue upwards.
Why should I buy an investment property rather than putting it in shares in NZ?
The age old debate, it ultimately comes down to what you are comfortable with. But here I’ll share what most ‘average’ non property investor is thinking. They see that there is the potential downside of investing in property because they’ve seen prices increase year on year and they are borrowing the money from the bank. Should it crash then they’ve potentially lost that money, look back at 2008. That was when the last ‘big property’ crash happen.
Secondly, non property investors look at the risk and see the rates are too high for an $800,000 loan. But is it? I’ll share numbers with you below, just to illustrate the point.
Buying any investment will have risk, personally, i think shares are more volatile than property, others would prefer having it invested in a term deposit and skip the volatility. But with term deposit rates at a record low, is it even worth it? Is it even beating the inflation rate after tax? If you’re unsure what inflation is - I’ve linked an article here that explains it or alternatively you can watch a video here on YouTube.
Why should I buy an investment property in NZ?
The one thing that stands out or the biggest difference between property and shares is that you can leverage off the property. What is the leverage? Well, it’s using the equity in your property to borrow more from the bank to purchase another property.
Here is an analogy, you’ve got a massive rock that you need to move out of the way, you find a short stick to wedge it between the rock and the ground, so you can pull down on it. But it doesn’t move, then your mate comes along with a long stick and wedge it underneath, with the longer the stick you both then pull down on it and moves because you’re leveraging off the length of the stick to move the rock out of the way.
From the property point of view, you’re using the bank’s money to leverage off to purchase your investment property.
Before we go into any deeper, we need to understand equity and LVR (loan to value ratio). I’ve written a whole article about how LVR works here.
Here is a quick rundown
Equity = Property value - mortgage (bank loan)
Here is an example
Equity = $1,000,000 (property value) - $300,000 (mortgage) = $700,000 in equity
Ah, but that $700,000 doesn’t mean you can use it all. There are banking rules that property investors need to meet. Currently, if you were to buy an investment property, banks require a minimum deposit for investment property between 30 to 40% deposit (varies between lenders) and in some cases, non-banks are lending at 20% deposit for investment properties in NZ (this is as of Feb 2021)
What does that mean?
Well then the available equity for you to extract from the above example, is actually 80% because banks allow you to borrow up to 80% of the value of your owner occupied property (own home).
Therefore, $1,000,000 x 80% = $800,000 (what you maximum can borrow from the bank)
$800,000 - $300,000 = $500,000 is your available equity!!!
Let’s say that you want to purchase an investment property that cost $800,000 and the deposit required is 30%. Then $800,000 x 30% = $240,000 is the required deposit
From the available equity, you have $500,000 and you need $240,000 for your investment property. You’ve got more than enough equity to support the deposit.
Now with shares, you can’t leverage, so to give you a quick comparison. If you had $100,000 in cash you want to decide where you place it. If you choose to palace it in property, then at a 20% deposit means you can buy up to $500,000 for a home. In a years time, it gains 5%, the property is now $525,000 you’ve gained $25,000 tax-free.
If you put it in shares, then $100,000 with a 5% return in one year. Then you only gained $5,000 and most likely will pay tax on it.
When comparing the two, $25,000 vs $5,000 in a years time. Now you see why property investors prefer investing in property in NZ vs buying shares in NZ.
Here is another way of looking at it.
No Leverage | Leveraged | |
Asset Price | $200,000 | $1,000,000 |
Equity (your money) | $200,000 | $200,000 |
Finance from bank/lender | $0 | $800,000 |
Gains - 100% in 10 years | $200,000 | $1,000,000 |
Gross return as a % | 100% | 500% |
Total equity | $400,000 | $1,200,000 |
Benefit of leveraging | $0 | $800,000 |
From the table example, it is a very high-level approach I did not factor in the following
- Property maintenance
- Cash flow
- Interest repayments
But even if I did factor it, the difference is staggering when comparing an $800,000 gain vs a $400,000 gain. That is the power of leverage.
Now in saying that it can also have the opposite effect, where if the house prices fall then your loss is going to be greater too as you’ve leveraged it.
This is why and how people are buying properties with $0 deposit because they are leveraging off the property of their existing home or other rental properties to increase their property portfolio. If you want to learn how to purchase an investment property with a 0% deposit, you can read my article here.
Why should I buy shares vs investment property in NZ?
In the above, I already shared and showed you the key difference between buying property and shares, which is LEVERAGE!
When you buy shares, you are buying a piece of a company, as you should understand the financials before investing in the company. You want to know about the health of the company and what is it going to do to continue to be profitable. There is a significant amount of research involved.
Once you’ve decided to buy the company stock, you are then in strapped in volatility as share prices can whiplash.
Not only are you also competing against the best financial wizards out there that are buying and selling every day, but they are also most likely going to get information before you. So they can make more informed decisions they will have more of an edge when buying stocks.
Now it sounds like I am bagging the share market, I just want to share the difference between, as I’ve personally invested and still have investments in shares and property and I believe that property is the greatest way to generate real wealth.
I’m not saying that property doesn’t but it does have it’s a fair share of research involved before making a decision.
What Are The Pros & cons Of Investing In Property In NZ Vs Shares?
Pros
Cons
Where are the best places to buy an investment property in New Zealand?
This question is really difficult to answer because it comes down to what you are wanting, you need to sit down and finds out what type of property investor are you? For example
- Are you a long term property investor who is wanting the best yields?
- Are you a property flipper, who wants to buy run-down properties and flip them for a profit?
- Are you a capital gains investor?
- Are you looking for a home and income investment property?
When you’ve decided one what your property criteria is then it becomes a lot easier to find these properties because NZ has so many properties that you can choose from and you need to run metrics to understand if the numbers make sense. So many people buy investment properties based on emotion which is the incorrect way to invest and hence why you hear people complain about property investing hard or they have lost everything because of it.
Summary - Should I buy an investment property or shares in NZ?
It really boils down to what you do know and feel comfortable with when investing in any asset class. As the saying goes, if you don’t know anything about it don’t invest in it! So if you understand more about shares go for it, if you understand more about investing in property in NZ then go for it. I’d say find the balance between the two, but lean towards the stronger one and then continue to learn the other asset classes.
With any investment, you need to understand the risk and so both don’t guarantee returns and past returns don’t reflect future gains too. You should understand the property cycle and determine which one we currently in. As people have said, it’s better to be in the market than time the market as your cash sitting in the bank will be eaten away by the inflation monster!
Lastly, if it’s too good to be true, then it most likely is. What I mean by that is when someone is trying to sell you the best stock or telling you to buy this property. Then I’d highly recommend you do some due diligence, they most likely have some incentive such as commissions or just selling out so they can get out of the market.
If you got any questions, feel free to drop a comment below and if you want personal mortgage advice, then book in a call with me below. A 10 min no obligation phone call.