Property lottery: From $285,000 to $7 million

Cherie Howie shouted in today’s NZHerald that the sale of a Whenuapai (West Auckland) land sale was better than Lotto. Let’s analyse this claim and see whether we agree or not.

From the article we understand that an investment of $285,000 in 1995 increased in value to $7,000,000 in this month’s sale. Furthermore, the vendor said that the investment increased about 2500 per cent, about 30 per cent a year.

We don’t know if any improvements were made during the 20 years so we got to ignore it. Also an agent said that the property probably would not have achieved a sale of $2,000,000 only 3 years ago.

A key driver for the capital gain appears to be the development of the Westgate town centre and the extension of the North-western motorway.

In a financial analysis it is a key element to compare, so to say, apple with apple. We can do this by using a Return on Investment (ROI) calculation given the above variables and assumptions. To compare a property investment with financial investments is it sensible to assume monthly or annual payments of dividends or interest payments.

Hence, the ROI for this property is calculated as:

Number of payments = 20 for annual or 240 for monthly

Annual Interest (return) = to be computed

Present value (20 years ago) = -$285,000 It is negative as we had a cash outflow

Payment = set to zero as property does not receive such payments. For financial investments the price is a reflection of these payments over the time period.

Future Value = $7,000,000 as this is the price received in the future from the purchase in 1995.

Using a financial calculator or Excel we find ROI of 17.36% for annual or 16.11% for monthly

Do these Returns On Investment still look like a Lotto ticket? Let’s compare it to an investment in financial instruments like shares in a public traded company or fund index (a bundle of shares).

Here is a list of Vanguard index funds from one of the largest fund providers in the world. The fund is in a USA fund and data was available from 2000 to 2014. The first percentage in green is a comparison to the Standard & Poor’s 500 index. The second percentage is the ROI of the index fund. (source http://www.marketwatch.com/story/the-sp-500-index-is-not-your-buddy-2015-01-14)

Here are the 15-year returns for the other six funds:

 

At this stage, the property outperformed all of the Vanguard index funds and the S&P 500. How about an individual stock? What if we invested like Warren Buffett? Here a number of his best investment picks.

  • Berkshire Hathaway (Buffett’s investment company) returned 22% annualized since it’s intercept 50 years ago.
  • Wells Fargo 21% annualized over the last 24 years
  • Freddie Mac 24% annualized over the last 13 years

Warren Buffett most people would agree is a fairly conservative investor and the above 22% return on Berkshire Hathaway would be on a well-diversified portfolio. (http://fortune.com/2014/10/31/warren-buffett-best-investments/)

How about the 10 most profitable companies in the world over the last 20 years? (http://www.finance.yahoo.com/news/20-most-profitable-companies-world-175534730.html)

  • The 10th best performing company was Microsoft Corporation 12.17% annualized
  • 5th best performing company ExxonMobile 7.09%
  • 2nd best performing company Apple Inc 25.06%

Now, after that we have simplified and standardized the different investments we can compare them.

First, comparing Return On Investments, Apple Inc had the best return with 25.06%, followed by Freddie Mac 24% and Berkshire Hathaway 22%. Warren Buffett’s picks. The Whenuapai properties return at 17.36% is lower than the share investments. However, it did perform better than the Vanguard index funds and the S&P500.

Do these differences look significant to you? Not sure? OK let’s convert them back to an attention grabbing dollar amounts.

The Apple Lottery ticket would have grown to $25 million

The Berkshire Hathaway Lottery ticket from Warren Buffett would have grown to $15 million

The Vanguard VISVX Lottery ticket would have grown to $2 million.

With the benefit of hindsight, which Lotto ticket would you have liked?

PS Risk … yes there is risk in all investments. That’s for another post.

Advertisements