Real Estate Investment-are you looking to do? Wait…
People who are doing Real estate Investment or about to invest do not know a big problem that they are going to face in the future.
Yes, What I am saying is right. Don’t you believe me?
Then read this article till the end. You will understand what I am saying…
Read this article why real estate investment is bad reasons? Click here to read.
What is the Investment style of Indians in the Real estate to create wealth?…
We Indians, especially South Indian People that we will get more return from real estate investment.
Moreover, In this process, we buy land or house for investment with a loan when we do not have full money in our hands.
Here, in this article, I will tell you how much you are losing by doing this kind of real estate investment with the loan.
Is there is a better investment than real estate investors to invest in your financial goals?
yes, It is available.
if you invest in Mutual fund monthly, unlike real estate you have higher chances to accumulate more wealth than real estate investment with the loan.
In addition, I will tell you how to accumulate more wealth than real estate investment and also will tell you how to accumulate wealth in installments.
What is the proof that You can accumulate more wealth in mutual funds equity than real estate investment?
Let’s Take an Example and analyze two scenarios and understand, whether it is good to invest in real estate with a loan or not?
You have 10 lakh in his hand, he would like to invest in land, or house to get profit.
In addition, the cost of the land is worth 20 lakh as a result of this Mr. X has taken a loan from a bank of 10 lakh at an interest rate of 12% ( per year). Loan Tenure is 60 months.
In addition, The return expected from both Equity Mutual Fund investment and real estate investment is 15% per year.
Here, Please do not argue that you will get more return than equity mutual funds. There is no base or proof for that.
Scenario 1) If you have done real estate investment with a loan then let’s what will happen after 5 years?…
As I said above if you have invested 20 lakh in land ( 10 lakh own money 10 lakh loan from a bank with an interest rate of 10% per year.
Moreover, the loan tenure is 60 months).
In the above scenario, what is the total amount invested and the return on investment let’s analyze?
What is the total amount invested in this land ( real estate) investment in this scenario?
Here, in this land investment, Your investment is 20 ( 10 lakh own money + 10 lakh loan ).
But You should not ignore one more thing i.e the interesting part that you are paying for this land investment.
As your E.M.I contains the principal and interest part, you should consider the interest part is also as invested amount.
What is the E.M.I for the loan for this land (real estate) investment?
So, the total amount paid for loan Principal + Interest = 21,247.04*60
i.e Principal paid + Interest = 12,74,822.68.
Here, If you deduct the loan taken from the above value, You will get the total interest paid towards the loan in 60 months’ time.
i.e The Total Interest Paid = 12,74,822.68 – 10,00,000 = 2,74,822.68.
So, It is very clear that you have invested Rs.22,74,822.68 not 20 lakh as you are thinking.
What is the future value of the land ( real estate investment ) after 5 years?
As we have assumed the return expected from this investment is 15% per year and the amount invested is 20 lakh.
Here, In this calculation, we should not take interest paid as an investment in land.
This interest is paid to bank, not to the land seller.
What is the return from this land ( real investment) for you in 5 years?…
Normally, It is very easy for us to calculate on investment if you invest yearly in single cash flows with formulae RATE = (FV/PV)^(1/N)-1 or simple M.S excel Formulae.
But, here in this scenario, there are complicate cash flows.
Moreover, these complicated cash flows are due to as you are taking a loan somewhere and investing somewhere.
So, when there are complicated cash flows, we should calculate the return on the investment using the “XIRR” function.
In addition, While using this function, you should put “-” value before the amounts going out of your hands.
Moreover, the “+” symbol before the amount which is coming or received in your hands.
If you see the above image, The return from the land investment with return assumption 15% and loan interest rate assumption 10% per year.
But the external rate of return is 15.94%.
Why this is because Normal CAGR formulae and XIRR formulae some times differ.
But the “XIRR” calculation is more reliable in calculating returns.
Here, In this case, study, as you are investing in installments for the land, Your return is still above 10% rate of interest that you are paying to the bank.
But getting a loan for a 10% interest rate other than constructing a house is impossible.
Let’s See what will happen if you have taken a personal loan or hand loan for an interest rate of 14% per year.
In addition, the return expected from land keeping the same as above example 15% per year.
If you above image the ‘XIRR” return arrived is 14.66% in spite of takin slightly higher rate of interest (14%) per year.
But return 14.66% is lower than the “XIRR” return of 15.62%.
So, It is very clear that as the loan interest rate increases the “XIRR” return decreasing.
What is the reality within India with real estate investment( land or house ) with a loan?…
In the above example, we have assumed that the land price growth rate every year 15%.
But where it is written that you will surely get a 15% return on land investment every year.
I will showcase some examples, Why you should not believe that land investment will not give 15% return every year.
The above data I took from NHB RESIDEX. Click here to see.
If you see above image Zone C in Bangalore had produced the highest growth rate in land and Zone E has produced the lowest return.
Here, I will tell you the “XIRR” return for both Zone C and Zone E.
If you see the above image, the land or real estate growth rate is 12.9%.
So, what will be the future value of 20 lakh if invested for 5 years in Zone C of Bangalore at 12.9% rate of return?
If you see the above image, The future of value of 2000000 lakh invested in Zone C real estate of Bangalore has become Rs.36,68,594.
But what if you have only 10 lakh lump sum to invest in real estate and you have taken 10 lakh as a loan at 14% interest rate?
If you see the above image though the land price growth rate is 12.9% (CAGR) the “XIRR” you got is only 12%.
This happened because you have taken a higher interest rate loan than the return you got from Zone C real estate investment.
Now, let’s analyze the ” Zone E” real estate investment “XIRR”.
If you see above image land value has given a negative return of “-1.45%” in Zone E (Bangalore).
Then, what will be the future value of 20 lakh invested at -1.45% interest rate for 5 years period?.
If you see above image 20 lakh investment made in Zone E real estate of Bangalore had become 18.59 lakh. As it has given a negative return of “-1.45%”.
Now, let’s see the “XIRR” generated from this land investment as you have invested 10 lakh lump sum
In addition, if you had taken 10 lakh as loan for a 14% interest rate.
If you see above image though land investment has given only “-1.45%” negative return, your “XIRR” is “-6.98%”.
Not only this return “-6.98%” is negative but also much lesser than the inflation “6%” for the same period.
So, it is very clear, The loan taken to invest Zone C and Zone E has the same interest rate.
But the return generated from Zone E and Zone C is quite different.
As a result of this, the “XIRR” generated from Zone C and Zone E of Bangalore real estate investment is also different.
In addition, It is also very clear that real estate some times will give a negative return also, and sometimes the “XIRR” may be much below than the Inflation rate.
Moreover, The real estate investment may be good if you take a home loan to buy your own house only.
However, Own house investment also may not give more return than inflation even after low-interest rates on home loans.
But staying in own house will give you comfort and happiness.
Hence, You should not treat your own house as an investment.
As the interest rate for a home loan is only around 9% these days.
while at the same time personal loan interest rates are as high as 11% to 28% ( depending on your profile).
Now, Let’s see what is the other scenario available for you to invest to get more return than inflation.
However, in some Tier – 3 cities real estate prices have been grown as high as 13% last 30 years.
But this is due to only pure black money and hype among people that real investment is an evergreen investment.
Moreover, in these cities, there is a big difference between registration value s and market-rate values.
In addition, People in these cities are lucky till now that real estate prices have grown significantly.
But I strongly recommend them to be cautious and the prices may come down any time or prices may consolidate ( no growth in rates) for a few years.
If anyone of these two things which I said above happens then your overall return on investment (XIRR) may come down.
In addition, the ” XIRR” may come down close to inflation or much below the inflation rate.
Scenario 2) What will happen if you invest in equity mutual funds instead of real estate?
Here, In this scenario, if you invest both 10 lakh lump sum you have and also monthly Rs.21,247.04 in a sip of equity mutual funds.
In addition, the return expected is 15% per year.
Then the future value of the investment is as shown in the below image
What type of Investment options available in Mutual funds to inflation like real estate investment?…
In mutual funds, there are different kinds of equity funds available.
Moreover, these equity funds have the capability to deliver more returns than inflation.
In addition, You can create wealth in installments unlike real estate investment
(which needs a lump sum investment in single go).
Again in equity mutual funds, you can choose Large-cap funds or Mid-cap funds or small-cap funds.
In addition, multi-cap funds or balanced funds or balanced advantage funds or ELSS funds, etc…
What is the return expected from these equity mutual funds?…
Just Like real estate investment, in equity mutual funds also we can not guarantee the return that you can get on your investment.
But I will show you some of the funds return for the last few years below.
In the above image, you can find one of the large-cap funds has given a 13.97% return on investment over 5 years’ time.
In addition, at the same time, average large-cap funds ( average return of all large-cap funds) have delivered 13.26 return.
In the above image, You can see that one of the Multi-Cap fund has delivered a return of 19.03 over 5 year time period.
While at the same time, All Multi-cap fund’s average return over 5 years time period is 15.51.
However, if you look at the mid-cap and small-cap funds return may be higher than the above funds over a 5 year time period.
What are the advantages of Equity Mutual Funds than real estate investment?…
- The main advantage is diversification, You have seen real estate investment in Bangalore is different in different areas.
- We can not diversify in real estate with a small amount we have.
- But in mutual funds, even if you are able to invest monthly Rs.1,000, then also you can diversify your money among different stocks.
- In addition, We can create wealth in installments with the help of systematic investment plans, etc.
- But at the same time, we cannot create wealth in installments, we have to take a loan if we do not have the full amount to invest.
- Liquidity is another main advantage of equity mutual funds.
- You can liquidate your equity mutual funds within 3 to 4 working days.
- This may not be possible with your real estate investment.
- The main important advantage with equity mutual funds is you can follow asset allocation to safeguard your returns.
- Not only asset allocation but also you can do re-balancing with the help of equity mutual funds.
- This asset allocation and re-balancing concepts, I will explain in some other articles.
What is the real estate investors to consider for wealth creation?
Here, I am not saying that Mutual fund equity funds will definitely give you more returns than real estate definitely every year.
But it is very clear that equity mutual funds to have the capability to deliver more return than inflation like real estate.
In addition, Both real estate and equity mutual funds returns are not guaranteed.
But, If you follow asset allocation and re-balancing based on your risk tolerance and financial situation and goal-oriented investment.
The chances of getting high returns over and above inflation will increase.
Finally, the Investment return depends on probability only.
So, do not do the mistake of investing in real estate with loans.
If you do so then you will out of funds to do asset allocation.
As a result of this, any negative return will impact your “XIRR” hugely.
Hence, If you follow the right process, then the Probability ( chances ) of getting more return than inflation will increase.
Read What is in our hand while doing investment?… Click here to read.
Also, read the article about Debt Mutual Funds types by Sebi. Click here to read.
Also, Read an article Why you should not invest in Ulips for tax saving?… Click here to read
Also, read an article about how much profit you can get from chit fund investment?… click here to read.
Also Read, an Employee case study about investment planning… Click here to read.
Also, read about How to calculate “XIRR” in mutual funds, real estate, stocks, etc… Click here to read.