Maths is maths and numbers are numbers, so let me try perhaps?
Gearing = 80%
Cost of Debt / Asset (ie real interest rate) = 6.4% (assuming 8% interest rates... for those confused, it's 80% x 8%)
Rent / Asset (ie gross yield) = 5.0%
Holding Costs = 2/0% (just making it up)
Therefore:
Net Return / (Loss) = 5.0% - 6.4% - 2.0% = (3.4%)
Depending on your salary (take me for example, I'm on a 45% tax bracket), net loss after tax savings is (3.4%) x .55 = (1.9%)
Assuming property doubles every 20 years, cap rate is 3.52% pa compounded. 3.52% - 1.90% pa = 1.4% return on asset pa
However, remember 2 things:
a) We geared at 80%, therefore return on equity pa is 7%
b) The 1.4% gain in first year can be used to amortise our senior debt (ie bank loan), so therefore the cost of debt in the second year should be 6.3%.... however if you were to do it properly with time-value of money you'd have to amortise it on a monthly basis so it might even fall below 6.3%. In the third year it should be 6.22%. I cbf doing it all because if you don't get it then too bad... and you might as well not bother to read this post
Anyway my example demonstrates at 8% interest rates, 80% gearing, 5% yield (which some of you probably aren't getting) and a crap market for the next 20 years (ie takes 20 years to double your property value), your return of 7% is only slightly better than putting your money in the bank. But your risk is a lot higher (eg vacancies?, storm strikes your house?). Oh and you need to have a 45% marginal tax rate. If you're an ordinary person with 30% tax rate, it's even worse and you might as well put your money in ANZ term deposit.
Maths is maths and there's no smokes or mirrors. Of course if you twig my assumptions and went for doubling every 7 years (ie 10% growth pa), 8% yields, 8% interest rates, 2% holding costs, your return on equity is nearly 50% return pa and you beat putting money into the bank by some 8x.
As with some earlier discussions I had, what's your assumptions? If you're assuming 7% interest rates and doubling every 7 years, you're probably too optismitic? But if you're using doubling every 25 years, is that too pessimistic? I don't like to overshoot but it's good to know what you're up for if shyt hits the fan. And markets crash because 95% of people who buy into it actually don't know what they could be up for and I think that's the essence of Sunfish's post. Do you know? The reason people make money on the market is because there're fools out there, but that's the same reason people lose money. I like to think I know what I'm doing, but it's the fools who have no idea who will bring the market along with me down.
Oh but luckily there's considerable buffer before something crashes. If you don't make money, you just start bleeding money. As long as you're earning $40k + you can probably afford to bleed $15-20k a year and still not crash the market, provided you live within the not very high means you'll be left with.
