When Growth Becomes Real

June 11, 2015

 

While investors are building their portfolios their primary focus is typically the pursuit of capital growth. This capital growth may allow investors to build their wealth position faster than those seeking solely a positive cash-flow from day one. There is however a fundamental difference in the returns from a ‘cash flow investment’, and a ‘capital growth investment’: that is - one puts real money in your bank account. 

 

The increase in capital value of a property investment provides an investor with ‘potential wealth’, but the value is not actually realised until capital becomes money (property is sold) or is otherwise realised. 

 

In the situation where a property investment increases in value by $100k, that gain is only useful if it can be drawn out of the investment somehow or put to use. The two most common methods for drawing equity out of a property investment would be to re-finance that property or to sell the property. So the true profit is not actually useful until a valuer from the lender confirms the value and the lender approves a higher bank loan value; or an incoming purchaser agrees to a higher price. In both cases, the capital growth only becomes useful once incoming speculators agree to the increased value and approved finance (if required).

 

 

The major concern that this raises is, what if the view of a market changes and the perceived value of an investment is lost or an incoming purchaser does not agree to the capital gain? There have been many situations throughout time where investors have sought capital growth properties only to have market confidence fall out and the perceived value of an investment drops. 

 

After an investment has seen considerable capital growth, there is no better time to realise that into a useful profit. Individual investors would need to determine how they can realise their capital growth based on their individual circumstances. If the growth is not turned into profit it is still only as good as the opinion of other speculators. 

 

Holding an investment with considerable equity does not hold much risk in stable markets, but there are always unknown market variables and unknown future events that are difficult to forecast. Missing the opportunity to turn equity into useful profit could be a mistake that could slow down a portfolios growth considerably; it is always important to keep in mine that time is an extremely valuable asset; do not waste it.

 

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