HOW TO INVEST LIKE A PRO – SPECULATING VS INVESTING
Real estate investment strategies are not created equal. Today, we confront a common myth about investing. There are hundreds of books, programs, seminars, TV shows, and advertisements about the topic of real estate investing; however, most of these resources promote “buy low and sell high” speculation strategies rather than professional cash flow investing strategies. Let’s explore the difference between the two…
Lesson #1 - The Velocity of Capital
The velocity of capital refers to how quickly you get your initial capital returned after making an investment.
Think of investing your capital like electricity. Electricity is a powerful force, but it has a weakness; it has to move. If the electrical current stops; it dies.
Your money works the same way. Money that is saved in cash or in the bank, dies over time due to the erosion of inflation. Your money must move into new investments in order to survive and continue growing.
A Professional Real Estate Investor Understands Two Things:
#1 The need to continually move money into new investments
#2 How cash flow is used to create exponential wealth
By applying these two fundamentals, you can effectively move house money into new assets, thereby lowering your risk and creating exponential growth in wealth. I use the term “house money” as a gambling example. In a casino, if you bet $1,000 and end up winning $1,500, you can place the initial $1,000 back in your pocket and continue gambling with the house money ($500). At this point, what is your risk? Let’s take a look at how this works in terms of real estate investing…
The Professional Investing Formula:
#1 Seek to get your initial capital investment back as soon as possible (through cash flow, a refinance, or sale of the property)
#2 Use this cash flow and returned capital to re-invest in more investments
Let’s say you invest $500,000 into (5) different cash flow real estate projects and each investment yields a 10% annualized return:
Investment #1 (100K) Cash flow = $10,000
Investment #2 (100K) Cash flow = $10,000
Investment #3 (100K) Cash flow = $10,000
Investment #4 (100K) Cash flow = $10,000
Investment #5 (100K) Cash flow = $10,000
Total Annual Cash Flow = $50,000
At the end of the year, let’s say you take $50,000 from the cash flow you received and you invest in a new real estate project. At this point, you are playing with “house money” because you still have the $500,000 in initial investments + you have a new $50,000 investment that was created by saving 12 months of cash flow distributions. In this situation, let’s assume a worst-case scenario. Let’s say the new $50,000 investment went bad and you lost 100% of that investment. If this happened, you could simply learn from the mistake and move on knowing you still have your initial $500,000 in investments plus the current cash flow they produce.
Lesson #2 - When you re-invest cash flow to further build your wealth, you reduce your risk.
Conclusion - Speculating vs Investing
If you’re investing in cash flowing real estate, then you are not gambling on future pricing; you are investing in current income. The only speculation is that residents will continue renting your property for the foreseeable future.
If you invest in real estate, but the real estate is not distributing cash flow, then you are not really investing, you are speculating and hoping the real estate grows in value over time. An example of this could be flipping a house and speculating that you can sell the property later for a higher price. Or if you purchase a property and rent it out long-term in an appreciating market, but the property does not cash flow in the meantime, then you are speculating the market will continue moving up in value.
Confusing speculation with investment is always a mistake – Benjamin Graham
To Your Success