Why You Might Get Hit By Recession, If You Buy Real Estate On The Promise of "Price Appreciation"
Why You Might Get Hit By Recession, If You Buy Real Estate On The Promise of "Price Appreciation"
Almost everyone of us have heard of stories from our parents or other senior family members about how their home is now worth five times more the original purchase price from fifteen years back. Without using any technical jargon, they are simply referring to price appreciation, which is the increase in the value of an asset over time.
Those kind of stories gave insights to property developers and their real estate agents to push the sales of their properties with the promise of capital gain - which is another technical jargon used to describe the rise in the value of an asset (such as real estate) that gives it a higher worth than the purchase price.
Most major cities around the world have witnessed sales pitches with promises of buying properties off-plan and then enjoy capital gains with 30%, 50%, 100%, and even whopping 300%.
Many inexperienced investors have fallen in this trap of the false promise of a guaranteed price appreciation, for the simple reason they only looked at the long term numbers... which in a way is true, since the long term masks the ups and downs of the short term. They simply thought everything goes up in a straight line!
The long-term increase of house prices over time is often referred to as natural appreciation. Although the overall direction has always been up in the recorded history of property prices, prices might go up and down in the short term. The reality is that property prices never go up in straight line ... and it's here where most investors lose their shirt!
The price cycle of properties is well presented by Dr. Andrew Wilson, one of Australia’s leading housing market experts, in the figure above. In principle, the house price cycle is typically depicted in four stages:a boom (peak),followed by a downturn (correction),followed by a recovery phase,which leads to an upturn (expansion) that sets us up for the next boom (a higher peak).
This house price cycle explains why it is risky to purchase a property on the promise of appreciation and with the objective of flipping the property in a few weeks, months, or years. Markets always go in up and down cycles on the short term, which could make an investor wanting to flip houses lose money if the cycle was going downward in a correction phase.
This is the simple reason why you shall look at appreciation as the cherry on top of the cake, whereas cash flow is the cake itself. Check out this related article on how investors can avoid losing it all to the false promises of capital gain. It also discusses risk management in rental property investing.
The caveat when prices go up is that all this price appreciation or capital gain is only realized when the asset is sold, which means this is only paper gain (or unrealized gain). The same applies when prices go down and the investor does not sell the property - it's paper loss.
By the way, our Employee Millionaire Course covers the mistakes real estate investors make that causes them to take months or years to get started or to fail after starting. This course will cover the insider secrets, so you can complete your first rental property investment in just few weeks and with little starting capital.
The magic of investing in real estate is that you can force the asset to appreciate. This concept is called "forced appreciation", which is increasing a property’s value by improving it such as by converting free, unused space in a home into an additional bedroom or bathroom. This strategy is used often by investors who make profit by improving houses and flipping them. This strategy might work well for some, but it is not the strategy that someone with a full day job willseek in building wealth and achieving financial freedom through rental properties, since this strategy requires a lot of time—and time is a scarce resource for employed investors.
Almost everyone of us have heard of stories from our parents or other senior family members about how their home is now worth five times more the original purchase price from fifteen years back. Without using any technical jargon, they are simply referring to price appreciation, which is the increase in the value of an asset over time.
Those kind of stories gave insights to property developers and their real estate agents to push the sales of their properties with the promise of capital gain - which is another technical jargon used to describe the rise in the value of an asset (such as real estate) that gives it a higher worth than the purchase price.
Most major cities around the world have witnessed sales pitches with promises of buying properties off-plan and then enjoy capital gains with 30%, 50%, 100%, and even whopping 300%.
Many inexperienced investors have fallen in this trap of the false promise of a guaranteed price appreciation, for the simple reason they only looked at the long term numbers... which in a way is true, since the long term masks the ups and downs of the short term. They simply thought everything goes up in a straight line!
The long-term increase of house prices over time is often referred to as natural appreciation. Although the overall direction has always been up in the recorded history of property prices, prices might go up and down in the short term. The reality is that property prices never go up in straight line ... and it's here where most investors lose their shirt!
The price cycle of properties is well presented by Dr. Andrew Wilson, one of Australia’s leading housing market experts, in the figure above. In principle, the house price cycle is typically depicted in four stages:a boom (peak),followed by a downturn (correction),followed by a recovery phase,which leads to an upturn (expansion) that sets us up for the next boom (a higher peak).
This house price cycle explains why it is risky to purchase a property on the promise of appreciation and with the objective of flipping the property in a few weeks, months, or years. Markets always go in up and down cycles on the short term, which could make an investor wanting to flip houses lose money if the cycle was going downward in a correction phase.
This is the simple reason why you shall look at appreciation as the cherry on top of the cake, whereas cash flow is the cake itself. Check out this related article on how investors can avoid losing it all to the false promises of capital gain. It also discusses risk management in rental property investing.
The caveat when prices go up is that all this price appreciation or capital gain is only realized when the asset is sold, which means this is only paper gain (or unrealized gain). The same applies when prices go down and the investor does not sell the property - it's paper loss.
By the way, our Employee Millionaire Course covers the mistakes real estate investors make that causes them to take months or years to get started or to fail after starting. This course will cover the insider secrets, so you can complete your first rental property investment in just few weeks and with little starting capital.
The magic of investing in real estate is that you can force the asset to appreciate. This concept is called "forced appreciation", which is increasing a property’s value by improving it such as by converting free, unused space in a home into an additional bedroom or bathroom. This strategy is used often by investors who make profit by improving houses and flipping them. This strategy might work well for some, but it is not the strategy that someone with a full day job willseek in building wealth and achieving financial freedom through rental properties, since this strategy requires a lot of time—and time is a scarce resource for employed investors.
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