Gearing not Always a Plus
While gearing makes a good investment better, it also makes a bad investment worse. People who gear boost their risk.
Monday, April 4th 2005, 8:19AM
by The Landlord
In my last column, I wrote about a reader's investment in a rental property, and how it was not, perhaps, quite as good as he thought.He borrowed the entire purchase price, of $35,000 in 1980, using his home as collateral.
When he sold in 1999, the property value had risen to $125,000 - a gain, I pointed out, of 7 per cent a year.
The reader contributed some cash, over and above rental income, in the first few years. Also, the depreciation he claimed was clawed back after he sold. Both of those reduced his return.
After reading this, several people emailed me, pointing out that, because the man put none of his own money into the investment at the start, his return was in fact much higher.
And that's quite true. I concentrated on what happened to the $35,000, when in many ways it would have been fairer to look at what happened to the smaller amount of money he put in over the years.
However, while I didn't acknowledge the benefit he gained from gearing, nor did I discuss the risk he took.
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