Leverage, BTL and Shares

Generali

Just a thought really.

Most people buying a BTL place, do so with a mortgage. That borrowing will amplify any profits or losses and will have a servicing cost.

If you buy shares in a company then it's almost certain that company will be carrying significant quantities of debt. Instead of you taking on the debt directly, the company has done it for you. Except of course with a share your maximum loss is 100%, with a BTL you can end up with negative equity.

PasturesNew

Except if you buy a house for £100k, it'll only have been 10% (probably free as that was even gifted) of that, so £10k max. House they expected to double in price = £100k profit from thin air.

Shares, with £0 in their pocket = 0 shares.
Spending £10k on shares, if they double = £10k profit from thin air.

Many of the 'investors' were targetted to buy overpriced, off-plan flats, 'valued' at £200k, they'd gift you £20k back, which was your deposit - AND guarantee you rents for the first 2 years at 6-7%.

Free house, 6-7% return guaranteed for 2 years. Completely free money.

Can't lose!

And ... they did it for their children, don't forget the children!

Loughton_Monkey

So if I mortgaged my own home, and used the loan to buy shares in a Property Investment company, I guess you could claim that my investment was pretty leveraged!

blueboy43

Generali wrote: »

Just a thought really.

Most people buying a BTL place, do so with a mortgage. That borrowing will amplify any profits or losses and will have a servicing cost.

If you buy shares in a company then it's almost certain that company will be carrying significant quantities of debt. Instead of you taking on the debt directly, the company has done it for you. Except of course with a share your maximum loss is 100%, with a BTL you can end up with negative equity.

This is true, but rarely will the level of gearing in a normal company be anywhere near some of the BTL mortgages taken out pre crash days.

I strongly feel that individuals should be limited in how much of the interest they can offset against rental income (like Ireland have introduced) - particularly when purchasing existing properties.

BTL for many is not a "real" business, it employs no one, it rarely adds to the UK stock of housing that people actually want to live in, it bids up the price of first time buyer houses and it has mis-allocated capital.

In short, the social costs out-weigh the social benefit (obviously there needs to be a healthy rental market).

tomterm8

PasturesNew wrote: »

Except if you buy a house for £100k, it'll only have been 10% (probably free as that was even gifted) of that, so £10k max. House they expected to double in price = £100k profit from thin air.

There are ways of getting a lot of leverage on shares. For examples,a lot of investment trusts work on quite large leverage. If you buy options on an investment fund, you can often be working on a leverage of over 100:1 as a limited investment.

Of course, these ways are risky, but it is possible, if you have certain inside information, to make a million pounds with a 1000 investment.

I call this race horse investment, cos you are gambling, on an all or nothing shot.

Mr_Mumble

I looked into FTSE-100 company leverage a couple of months ago. The only firm with net cash was Randgold but the tech firms (ARM, Sage and Autonomy) were close to having cash outweigh debt. Tech firms often have plenty of cash from eager investors e.g. Google while others are cash generating machines e.g. Apple, Microsoft, Nintendo.

There are a number of supermarkets, house builders and miners that are asset rich but have a good amount of debt for operating purposes. House builders, REITs (real estate investment trusts) and most of the banks (Lloyds, RBS, Barclays but not HSBC) trade at a discount to their net asset value - because many are skeptical about the value of those particular assets!

Oil giants usually have low net debt (BP and Shell are around the 20-30% mark). At the other end of the blue chip scale you have utilities with National Grid being the most leveraged in this sector (over 300% iirc).

There is one other big liability when looking at shares: Pensions. BT's pension fund is triple the size of its equity base (as with National Grid this is an extreme - note they're both ex-public - BA are similarly considered a pension fund with wings!).

You can, of course, leverage shares yourself via options trading, spread betting, ETFs or let someone else do it for you with, relatively mundane, investment companies.

So, with a 10% deposit you've a 9:1 borrowing to equity ratio compared to 0.2:1 for big oil, 0.6:1 is a rough median for the FTSE-100 (and typical for most big consumer staples e.g. Unilever, Diageo, BATS) and the far end you've 3:1 for utilities. The ridiculously indebted firms (e.g. Yell and various Pub cos) fell out of the FTSE-100 during the credit crunch.

Thrugelmir

Generali wrote: »

If you buy shares in a company then it's almost certain that company will be carrying significant quantities of debt. Instead of you taking on the debt directly, the company has done it for you. Except of course with a share your maximum loss is 100%, with a BTL you can end up with negative equity.

The annual accounts of the Company will reflect the value of the business. So debt will be offset by investments, fixed assets, stocks and trade debtors for example.

Comparing a mortgage on a single BTL property to the component parts of a Company balance sheet isn't really possible.

Much in the same way that people view investing in property as it has a higher yield than cash deposits.

The inherent danager with property is that you lose more than your deposit. Shares only the money you invest.

vivatifosi

Many thanks Mr M, you answered my question before I had the chance to ask it.

For the most part FTSE-100 investors don't come away with a 100% loss. I'm scratching my head trying to think of the last major company that went under, especially given that when a few banks started teetering they were bailed out. AIM I suppose is different, but I don't think people play in those companies unless they are more sophisticated investors. In terms of private companies, I've analysed plenty of those extensively and while some are part owned by overseas partners, some by banks and some by PE players; it's relatively unusual to see firms with major shareholders that are not in some way linked to the business.

One change I have seen though is that in a good market it is a lot easier to see companies that are suffering through their credit rating. The indicators show up and take a while to feed into the business as a failure, giving creditors a while to respond to a suffering company. However in a downturn, this period is much shorter and often the credit indicators haven't turned even in the weeks leading up to administration.

Spartacus_Mills

PasturesNew wrote: »

Can't lose!

And ... they did it for their children, don't forget the children!

I thought it was their pension ?

blueboy43

vivatifosi wrote: »

Many thanks Mr M, you answered my question before I had the chance to answer it.

For the most part FTSE-100 investors don't come away with a 100% loss. I'm scratching my head trying to think of the last major company that went under, especially given that when a few banks started teetering they were bailed out.

GEC / Marconi would be a great example.

Established in 1889, by 1985 only BP and Shell had bigger market capitalisations in the UK.

Lord Weinstock ran it for close to 35 years.

Once he left, it was wrecked and almost worthless within a decade.

IveSeenTheLight

Thrugelmir wrote: »

The inherent danager with property is that you lose more than your deposit. Shares only the money you invest.

Only if you sell for a loss.
It's quite possible to go into negative equity, ride the storm and then make a substantial profit on top of the rental rield that's accrued over the years.

Over the lifetime of a mortgage, please reflect on a time where we've seen negative valuation in the UK when compared to the purchase price.