ROIC is particularly useful when comparing companies that are heavy in assets, like manufacturing companies.  Although it is still useful for valuing and comparing almost any other company.  The return on invested capital is a measurement of how much cash the business’ assets can generate.  The more cash per asset, the more efficient and better run the company is.

When calculating the ROIC, there are literally hundreds of variations that you may find.  Some people take net income and divide it by invested capital, while others use after tax operating income.  And the invested capital calculation can be complicated too.  Some people calculate it using total assets minus cash, and some people build the amount up by going through each specific balance sheet and including only the items that are related to the business.  For example, how would you treat goodwill on a balance sheet?  Is it an asset or is it just a number that was created by a merger?  Personally, I wouldn’t include it.  So let’s look at how to calculate ROIC.

First, calculate the return.  The easiest way to get this is to look at the past four quarters of latest fiscal year income statement.  Add up the operating income figure and then subtract the taxes paid.  This will give you a good summary of how much cash their business generated.  If the company is very clean, you can just use net income for this figure, as it will be about the same.  If a company has a lot of amortization from past mergers (usually from goodwill), you may want to exclude this from your calculation, as it is not a cash expense.  If you do, you’ll also want to exclude goodwill from the invested capital figure that we’ll calculate next.

Now, calcuate the invested capital.  Invested capital can be calculated several ways, but remember, you’re trying to measure the total assets of the company that are needed to produce the cash.  In most cases it is fairly straightforward and you can turn to the most recent balance sheet and simply take the total assets and subtract any cash and investments from the figure.  In some cases, you will want to subtract non-interest bearing current liabilities also.  And as we discussed earlier, it may make sense to remove any goodwill assets from your calculation.

Now, calculate ROIC.  To get ROIC, you divide the return by the invested capital.  The result is a percent.  For example, if a company has $100 million in invested capital and it’s cash return was $10 million, it would have a return on invested capital of 10%.  The higher the return the better.

How to Analyze ROIC.  Calculating the formula is really the hard part.  It can take an hour or two to gather all of the information, sort through the business’ income statement and balance sheet, and then make the proper calculation.  Once you have calculated the figure, you can quite easily see how profitable the company is compared to its operating assets.  That means that the higher the percent, the better run the company is, and the more profitable it is.  For example, if you are looking at two different stocks and all else is about equal, you can say that if Company A had a higher ROIC that it was a better investment than Company B.

When comparing ROIC across companies in different industries, be careful.  Depending on the business, some companies don’t need to invest a lot in assets, so the figures might not be a good way to compare that company to a company that operates in a heavy asset based business.  Really, ROIC is best used to compare similar companies.  That’s why stock analysts use it so much.  A stock analyst typically follows an entire industry.  For example, if you were looking at Cisco as an investment, then you would want to look at the ROICs of Juniper, F5 and Brocade.  By looking at the ROIC, you can guage which company is more streamlined and more efficient.  This is usually a good indicator that the company will continue to outperform its peers.

Have any comments about ROIC or how you use it?  Leave us a comment.

The article was talking about smart money versus dumb money.  It said that lately there has been a lot of market reversals where the market started the day down quite a bit and then rallied in the afternoon, to only close down a little bit.  It then went on to say that this was because the dumb money pushed the market down in the morning, and then the smart money came in during the afternoon and pushed the market back up.  Because the smart money is driving the market up, this is a bullish sign.

Let me start by defining what smart money is.

Smart money is money that is invested by institutions.  In other words, it is the money that is held by large mutual fund companies, hedge funds, and other banks and financial institutions.  The opposite of smart money is dumb money.  Dumb money is the stuff that you and I invest.  Apparently, because we’re dumb when compared to the brilliant money managers at all of the institutions.

So now that you know what smart money is, do you believe that institutions are better investors than other investors?  Well, there is no cut and dry answer, but let’s look at some empirical evidence.  Specifically, let’s look at how mutual fund companies have performed versus their market averages over the years.  According to a few sources, the average mutual fund has returned approximately 2% less each year than the overall stock market.

What does that tell us?  It tells us that if smart money were really smarter than dumb money, then mutual funds would return more than the market on average, and that retail investors would have below average returns.  Well, you can’t measure what the average retail investors’ returns have been over the years, but if the mutual funds underperform, then by the law of averages, other investors are faring better.  Maybe it’s some of the hedge funds that are outperforming, which would also be smart money.  Or maybe its the retail investors that outperform.  Of course we know it’s not the retail investors that are investing in mutual funds.

While I agree that many retail investors make poor investment decisions, I would argue that institutions make just as many mistakes.  I worked as a stock analyst for an investment bank and also for a hedge fund company.  I can tell you that when markets start to fall, analysts start cutting their price targets regardless of the underlying performance of the stock they are following.  In fact, I’ve seen so plenty of mistakes and poorly planned investments at many different institutions.  Sometimes smart money is more about fitting in then making their own choices.  That’s why about half of all mutual funds own many of the same stocks, such as Apple, Google and Cisco.  While they may want to invest in up and coming companies that they really like, they don’t because if they fall behind they would have a hard time explaining that to their investors.  If, on the other hand, they buy the same stocks as everyone else, no one seems to be able to fault them when they underperform.

There you have it.  That’s my opinion on smart money.  While many institutional investors are definitely smart, they are not all good investors.  Furthermore, when you add in the expenses that come with many of these funds, they actually underperform quite dramatically over the years.  With my experience, I’ll still buy mutual funds, but will also rely on my own dumb money choices.

Do you have any thoughts about smart money vs dumb money?  Leave us a comment.

Although I subscribe mostly to the buy and hold strategy, every now and then I read an article or two about technical analysis.  Basically, technical analysis is the study of stock charts in order to predict future movements.  If you believe that the markets are truly efficient, then there would be no reason to believe in technical analysis.  However, many people believe that the markets do not adjust as quickly, or that they often over or under compensate for news and information.  If this is the case, and there’s some evidence of this being true, then technical analysis could theoretically be used to find good stock trades.

In my case, I was reading an article in a magazine from AIMR written by Ronald McEwan, where he discusses a trading technique called Pair Trading.  I am no expert on this technique, so I can’t tell you that it works well, but I did read the article and am going to summarize what pair trading is and how it works.  Basically, pair trading is a technique to take advantage of short term variations in one stock versus another similar stock.

To start pair trading, you need to find a pair of stocks that are highly correlated.  In McEwan’s example, he used Bank of America and GE.  You then look at the history of the two stocks and compute cumulative returns of each stock.  This is done by tracking the stock price each day.  For example, if the stock went from $100 to $101, that would be a 1% return.  If the next day, it rose another 1%, then the cumulative return for the two days would be 2.01% (one percent plus one percent plus the one percent on the original one percent).

These returns can be put into a spreadsheet and then a regression analysis can be completed on the returns to come up with residual returns for each stock.  The residual return is a rather complex calculation that uses regression to assign a beta to the cumulative returns.  The returns are then transformed into a chart that shows the cumulative returns for each stock, charted on the same graph.  In addition to the returns being charted, a spread of the difference between the two stocks’ returns is charted.

As the spread alternates between the two stocks, you trade the pairs by buying the lower return stock and shorting the higher return stock.  When the spread switches, you reverse your positions.

Why Pair Trading Might Work

First of all, if two stocks are highly correlated and one outperforms the other for a short period of time, then it would stand to reason that over time the two stocks’ returns should get back to even, assuming they are highly correlated.  This is also known as reversion to the mean.  If a stock has an average return but starts to outperform for a short period, some believe that its returns will revert back to the average.  By buying one stock and shorting the other, you can take advantage of these short term fluctuations.

Why Pair Trading Wouldn’t Work

In my opinion, two stocks may look highly correlated for a period, but over the long run the differences in the companies prospects, growth and management can lead to long term variations.  For example, you might have compared Apple to Dell ten years ago and assumed that they were highly correlated, but since then Apple has risen 30 fold and Dell has fallen.  If you used pair trading, you would have shorted Apple and bought Dell.

Also, if you are using a technique like this, I suggest that you pay attention to earnings reports.  Any earnings report or other significant news could move one of the stocks quite quickly in either direction, causing this system to create large gains or losses in a short period of time.

I know I won’t be using pair trading, but I am glad I took the time to quickly learn more about it.

How about you?  Any thoughts on this type of trading or any other technical analysis?

It is important not to confuse gold bullion with general gold investment, which can also refer to the idea of investing in gold mining companies. Rather, investing in gold bullion means actually putting your money in the physical resource of gold, which is an intriguing idea in and of itself. Buy gold online is a great resource for this sort of investment, which can be conducted entirely online, where you can buy and sell virtually any amount of gold at your leisure, with assurances that it will be safely stored and guarded. The whole process is actually quite simple, and allows you a great deal of flexibility but why exactly should you bother investing in gold bullion? It’s simple: stability.

These days, with many of the world’s most influential economies struggling mightily just to stay afloat, it seems that no currency is safe. For example, as the U.S. economy struggles, the U.S. dollar loses its value, which in the long term can actually be extremely detrimental to your wealth. Imagine that you have a given amount of money set aside, and that you do nothing to grow or shrink that amount but, the economy collapses and the dollar’s value plummets. You still have the same amount of money, but that money does not possess the same value that it once held, which means, in effect, that your own wealth has decreased.

Gold bullion simply does not operate with this sort of volatility. Because gold is a valuable resource on its own, and not tied to any one economy, its value tends to be more stable throughout the world, and it is not as subject to individual economic collapses. Therefore, by placing your money in gold bullion, you are essentially safeguarding your wealth from economic struggles and currency value declines. Consider the above scenario, but instead of holding onto your money in cash, you invest it in gold bullion in that case, while the U.S. dollar’s value decreased, your wealth would remain fully intact, attached to gold bullion.

Actually, when it comes to investing, pennies do matter.  And today I’ll show you why by giving a little case study as to the effect that “beating numbers” has on a stock’s long term price.

Let’s start by looking at two hypothetical companies – Company ABC and Company XYZ.

Now, let’s assume that both companies have earnings per share of 25 cents per quarter and are expected to grow by 15% per year.  Here is what their earnings stream would look like:

Based on the EPS for year 2 and a PEG ratio of one, which means that the stocks would each trade for 15 times earnings, or a PE ratio of 15, both companies would be priced at $18.15 (15 x $1.21).  Currently both companies are identical and trade for the same price.

Now, let’s look at what happens if Company XYZ beats their earnings estimate for Q1 by one cent, and then continue to grow at 15% going forward.  We will assume no changes to ABC.

As you can see from the table, XYZ earned a penny more than ABC, and then grew at the same rate each quarter afterwards.  You can see now, that based on Year 2 earnings, XYZ will earn five cents more than company ABC.  And since both companies are still expected to grow at 15%, the same PE ratio would be applied, giving the two stocks valuations of $18.15 for ABC and $18.90 for XYZ (15 x $1.26).  So, in essence, that one cent earnings surprise theoretically jolted the stock price of XYZ by $0.75, which is more than a 4% return.

Imagine if Company XYZ beat earnings estimates by two cents, or three cents.  Once you look at the earnings stream you can see the big difference that a few cents can make.

Now, let’s see what happens if XYZ were to continually beat earnings estimates by one penny each quarter.  The earnings streams would look like this.

As you can see from the table, the earnings for XYZ for Year 2 are now much higher than ABC.  But even more importantly now, while ABC has grown at 15%, XYZ has raised its growth rate to 30%.  Assuming the same PEG ratio as before, ABC would still trade at 15 times earnings but XYZ would now trade closer to 30 times earnings.  Applying the higher multiplier on a higher earnings figure gives XYZ a much higher valuation (stock price) than ABC.

ABC would still trade at $18.15 (15 x $1.21) while XYZ would trade at $45.00 (30 x $1.50).  That is a 148% increase in stock price for XYZ as compared to ABC, and if you were to invest in a stock that continued to beat its earnings estimates each quarter, you could actually see this kind of performance in your investment portfolio.

Of course, this is a hypothetical example, but it’s pretty easy to see the effect that small positive surprises can have on any stock.

So, next time you hear about a company that just beat its earnings estimates, you’ll know why investors are so excited.

Give credit to the Financial Planning Association for inspiring this article.  They gave their 740 members that are all financial planners a poll asking them choose the biggest investing mistakes that they see the most in their practice.  I took the ideas from this poll and have added a little commentary for each.  The list is ordered by the mistakes commited most often, so the mistakes at the top are considered more common than those at the bottom.

Not Having a Long Term Plan

The biggest investing mistake, according to financial planners is that investors don’t have a long term financial plan.  Hmmm, seems a little biased to me.  After all, financial “plan” ners make a living by selling financial plans.  Maybe all of their desire toward financial plans have helped propel this investing mistake to the top of the list.  I do agree that this is an investing mistake though, and here’s why.

Most people start saving money based on what they can “afford”.  For each person, that means something different.  I’ve heard people making $100,000 a year say that they can’t afford to put any money into their 401k.  The problem with saving what you can is that it may or may not be what you “need” to save.  By creating a financial plan that estimates how much money you’ll need to save for retirement and for big things like your children’s education, you can back into the amount of money that you’ll have to save right now.  It will give you a goal and will help you make the right lifestyle decisions so that you don’t fall behind on your financial goal.

Not Saving at an Early Age

I have been pushing this for years.  The importance of starting early is huge.  Because of the time value of money and the effect of long term interest compounding, a dollar saved today can be as much as $15 by the time you hit retirement.  Delaying your saving until you are in better financial condition is a huge mistake that people make.  You should literally start saving as soon as you graduate from college or high school.  Make it a habit and keep at it and you will have a much better chance of succeeding financially.

Selling Stocks When the Market Sinks

This is another investing mistake that I agree with.  I’ve seen many people just give up on the market during cyclical selloffs.  My brother, for example, stopped contributing to his 401k and cashed out his balance because it hadn’t made any money in almost two years.  I can see the frustration, but selling stocks when they fall is really a panic move.  Why, if the underlying company hasn’t changed, would you want to sell stocks after they’ve already fallen substantially.  This is a form of timing the market that just doesn’t work.

Investing in the Top Performers

Okay, this is a mistake that I’m also guilty of.  I’ve bought into Chinese stocks at their peak valuations.  I’ve also owned Apple for quite a few years.  If you only use a small part of your portfolio to chase top performing stocks and funds, then it probably isn’t a big mistake, but if you focus all of your investments on the hottest trends and buy the top performing funds, you are destined to lose more money than a diversified approach.  Hot sectors and funds almost never remain at the top of the performance list for more than a few quarters or years.  And often, buying them after they’ve already performed well, is a big mistake.

Assuming Current Events are Going to Continue

This can best be seen by looking back at the dot com bubble from the late 1990s.  The nasdaq was so highly valued, along with so many internet and technology stocks, that people started to justify their investments by claiming a “new normal”.  Then, during the great recession of 2008, I heard the same thing in a pessimistic manner.  Basically, that housing prices will stay depressed for decades and that the stock market returns of the past are gone.  The “new normal” is for extra slow growth for the rest of our lives.  Rubbish!  Historical trends don’t always repeat themselves, but try not to plan your future based only on the current trends and conditions, especially if we are in a boom or bust.

Not Contributing Enough to Retirement Accounts

In my opinion, every person that is employed and that has acccess to a retirement account, should contribute the maximum amount each year.  If you are self employed or there is no plan offered by your employer, sign up for an IRA, Roth IRA, or self employed 401k plan and contribute as much as you can.  Saying that you can’t “afford” to save for retirement, especially in a tax advantaged account, is not acceptable.

Early Withdrawals From Retirement Accounts

I’ve seen this happen lots of times.  People get frustrated with the market or they decide that they want to spend money on something they can’t afford, and so they withdraw the money from their retirement account well before retirement.  Not only does this set you back years in your retirement savings plan, but it also will cost you a lot of money in taxes.  Besides paying the income taxes on all the withdrawals, you’ll have to pay an additional 10% penalty.  That means that with federal, state and penalty taxes, you will likely only get to keep about half of the amount you withdraw.  Also, larger withdrawals will be taxed at your marginal rate, so the more you withdraw the higher your marginal tax rate will be.  Unless it is an absolute emergency, don’t withdraw money from your retirement accounts before its time.

There you have it.  The seven biggest investing mistakes, at least according to the Financial Planning Association.  I would also add the lack of diversification as a big mistake.  Many people put most of their portfolio into the stock of the company they work for, or have the majority of their assets in their primary home.  Taking big bets and not being diversified should probably be on their list.

Anything you would add to the list?

However, this analogy is similar to saying that you shouldn’t invest in the stock market after it crashes.  On the contrary, those are the best times to invest.  You know it and I know it.  And that’s why I can sit here today and write an article about why you should invest in real estate today.

And if you are a new real estate investor and haven’t suffered by drops in your assets, then it is perhaps an even better time for you to invest.  Now, as the title suggests, I have seven reasons why you should invest in real estate today.   They may not all turn out to be true, as bad things can continue to happen for a long time, and some corrections take decades to unfold, but these are the reasons why I think you’ll be safe if you start your investment today.

Real Estate Prices Are Low

As an investor, this fact is pretty obvious – prices on homes and other assets are low.  At least they are much lower than they’ve been in over a decade.  If you account for the past ten years of inflation, they are even lower in real dollars.  Prices in many areas have fallen over 50%.  In most areas, they have fallen at least 25%, and in only very few places have then fallen less than 10%.  That means that no matter where you live right now there’s a good chance that you can find an investment at its lowest price in years.

Compare this to the stock market.  Although it takes longer for real estate cycles to work their course, real estate prices react somewhat simlar to stock prices.  As the economy continues to grow and as the stock market rises (assuming it does), people will want to move more money into real estate, meaning higher future demand and higher future prices.  Also, the home building index is currently at historic lows right now.  That means that new homes haven’t been built as quickly as people need housing.  This is helping existing home prices by reducing the amount of housing supply on the market.

Mortgage Rates Are Ultra Low

And then there’s mortgage rates.  Assuming you have good credit, you can get a loan on a first home for as low as 4 percent these days.  On an investment property, still below 5 percent.  If you include the fact that inflation has been close to 3%, you could say that the real interest rate on a mortgage is only 1%.  And if you take off the tax benefit of deducting mortgage interest from your taxes, you could even argue that the real mortgage rate is zero, or negative.

Rates may remain low for quite a while, but almost everyone agrees that they won’t go much lower.  In fact, they can’t go much lower.  Thirty years ago, rates were over ten percent on mortgages.  Ten years ago, investors couldn’t believe that rates were only 6%.  Taking advantage of low interest rates on your loan is another good reason to buy real estate now.

People Can Afford to Buy Again

Remember the late 1990s and early 2000s, when nearly everyone could afford to buy a primary home?  Well, they couldn’t really afford to.  First of all, home prices were historically high at that point.  But because interest rates were low, more people could afford the monthly payment.  That meant that there were more buyers than ever.  Then enter the new types of loans and loan products.  Suddently, interest only loans and adjustable rate mortgages increased from less than 2% of transactions to as high as 30%.  Monthly payments were lower and lower and lending standards were completely comprimised.  People were being given (and taking) loans that they couldn’t afford on houses that they couldn’t afford.

Ten years later and the banks have tightened their lending rules, housing prices have fallen, and new homes are once again affordable to buyers.  Another way to look at affordability is to look at the Fiserv Case-Shiller price to income ratio, which divides the median home price by the median income.  In 2005 the ratio was over 4.  That means that the average family buying a house was paying four times their annual income to purchase the house.  Today, that ratio is around 2.6, which is once again the long term average of 2.8 times.

It’s a Buyer’s Market

A buyer’s market is created when there are more sellers than there are buyers.  This is typically a result of supply and demand.  During the boom days in the early 2000s, when people were heavily speculating and investors would line up to buy condos (yes, they called them condo lines) sight unseen, demand for houses was high.  In fact, so many ordinary people turned into speculators and investors that the housing market couldn’t build supply fast enough.  During that time, the supply and demand made buying a home a sellers market.

Now, with lower prices and millions of foreclosures and delinquent accounts in the queue, and with the lowest new home production in decades, the supply and demand has changed.  Now, supply is high and demand is low.  All the people that defaulted or got burned by the last market are no longer buyers, in fact, many are sellers.  This new dynamic has completely shifted the supply and demand to now be a buyer’s market.

You can see it in everyday transactions or if you check with your real estate agent.  Houses typically sell for less than what they are listed for.  That’s because buyers know they have a good chance of getting a property at a lower price.  And since the real estate market changes very slowly (compared to equity markets), it is likely to remain a buyers market for quite a while.

Rents Are Higher Than Ever

If you’re investing in real estate, chances are you’re going to rent out the property.  Whether you invest in single family homes, duplexes, townhomes, condos or even apartment buildings, rents have gone up at the same time prices have fallen.  That’s because many one-time owners have turned to, or been forced to turn to renters.  Anyone that went through a foreclosure or had delinquent payments on their loan have been hit with poor credit and are no longer eligible to buy a home.  That makes them renters.  Also, because of all the fear generated by the real estate market, many people that could probably afford to buy a home decide to forego the risk and rent instead.

All of these extra renters add to the demand for rent.  And because housing production has slowed, the supply demand ratio for rents has caused rents to steadily rise.  Higher rents mean more income and higher prices for your real estate investments.

There are Lots of Foreclosures to Choose From

Believe it or not, the majority of foreclosures have not even hit the market yet.  That’s because banks and regulators have been extra slow to foreclose and sell homes from their portfolios.  So many lawsuits were brought against banks early in the downturn that most banks stopped processing foreclosures until they knew what the new laws would be.  That means that there are hundreds of thousands of foreclosures still in the works.  Furthermore, I saw a stat last week (can’t remember the source) that claimed that there were an additional 2-3 million homes that have delinquent loans but that are not in foreclosure.  That means that there are a lot more foreclosures coming.

What does this mean to you as an investor?  While it could mean more drops in home prices, it means that you are more likely to find a good deal on your purchase.  While foreclosures aren’t always good deals because they are being sold by a bank, finding distressed sellers may be an even better way to get a good deal on your investment property.

Owning Real Estate Still Offers Great Tax Benefits

The final reason that real estate is a good investment is because of the excellent tax benefits.  When you own a home, the mortgage interest is deductible and can save you hundreds or thousands of dollars a year on your taxes.  When you own an investment property, your mortgage interest, building depreciation, repairs, maintenance, management costs and even your home office costs can be deducted against your income to produce very attractive tax benefits.

There you have it.  These are seven great reasons to invest your money in real estate today.  Have any others, or want to point out something I left out?  Feel free to comment below.

Has it gotten ridiculous?  Maybe.

I just found out that they have an ETF that tracks fish!  Yes, that’s right, the ticker is FISN and according to their prospectus, they “seek to provide investment results that correspond generally to the price and yield performance, before fees and expenses, of the Solactive Global Fishing index”.

Think an ETF that tracks fish is crazy?  How about an ETF that tracks Smartphones?  The ticker for this one is FONE.

Or how about an ETF based on fertilizer?  Ticker is SOIL.

There’s even one based on farming (BARN), global waste management (WSTE) and the global food index (EATX).

While I was looking into why there are so many funds like this, I ran across an article from CNN Money that helps explain why these funds are arising so quickly.  They say:

Why is it coming out with these narrowly cast funds now?

Chances are, it’s because the themes have been on a huge roll. Cermaq ASA, which makes fish feed and is a top holding in FISN, has doubled in value in less than two years. Potash Corp., (POT) which is a leading fertilizer maker and is in SOIL, has returned 33% a year over the past 10 years. Both businesses help feed the rapidly developing emerging markets, whose stocks have been hot for a decade.

You can read the rest of their article here: http://money.cnn.com/2011/08/11/pf/investing/niche_etfs.moneymag/index.htm

This makes sense to me.  After all, people want to invest in the hottest trends and best performing sectors and niche sectors.  However, I’m guessing these niche ETFs are more for investors that have interests in these sectors rather than normal investors like you and me.  For example, I’m guessing that most people that buy shares in a fertilizer company have something to do with the fertilizer industry.  Whether its a company trying to hedge its bets or just someone trying to gain additional exposure to this sort of investment, the main investors in these funds are probably specialized investors anyway.

For the average investor, there isn’t really a place for niche funds this specialized.  That’s because to create a diversified portfolio with these types of funds, you’d have to buy hundreds of them.  And that wouldn’t be any more efficient than just buying individual stocks.

I can see these funds being used to make bets in some investors portfolios.  In fact, a lot of investors I know keep the majority of their portfolio in diversified stocks, but keep a small percent, usually less than 15% in stocks or sectors that they really like.  Since many of these niche funds are in hot sectors, I could see them being added to this part of an investor’s portfolio.

Anyway, I’m guessing that the niche ETF fad is going to turn out to be just that – a fad.  I’m guessing that these ETFs will come and go as interest in different niches go.  There have already been dozens of niche ETFs that have fallen out of favor and closed their funds.  I’m guessing in the future, we’ll see even more of this.  Especially in any market downturns.

Determine the Value the Investment Property

Depending on what type of investment property you have, you should be able to come up with a valuation fairly easily, or at least come up with a range for the valuation.  Assuming you know a little about the real estate market, you’ll know that different properties are valued based on different valuation methods.  For example, a single family home is valued by looking at comparable sales and by looking at assessed and appraised values.  However, an income property, which is a property that is purchased primarily for its ability to earn money each month, is typically valued based on its cash flows.  The more complex your property is, the more ways you can find to value it.  Do what you can on your own to get a range of the possible value of your property.  If you’re not fully comfortable doing this, you can hire someone to do it for you.

Decide if You Want Help Selling The Invesment Property

Now that you have a valuation in mind you have to decide how to sell your real estate.  Do you want a realtor to do all of the work for you?  Or do you want to try to sell it yourself by listing it on the MLS for a flat fee?  Besides those options you can also try to sell it yourself by FSBO.  Sometimes, if you know you are going to buy and sell a lot of properties, you can get your real estate license and then your broker’s license.  This can save you several thousand dollars per transaction.

For example, if your investment property is worth $500,000, then the commission you would have to pay to sell it would be somewhere around $30,000.  Although you can negotiate the sales commissions, most realtors will not show your property unless they are promised a substantial piece of the pie.  That means that you’ll at least have to pay any brokers for bringing a buyer to the table, even if you sell the property yourself.

If you decide to hire a realtor, make sure you do ample screening.  Find a realtor that will work for a slightly reduced commission or on a sliding scale and that is well versed in the type of property you are selling.  Also, look for someone that is responsive and aggressive and that will work for you to get the best price.

Once you decide how you want to sell it, it’s time to get the property ready for sale.

Get the Property Ready to Sell

Depending on your property, this task could be fairly easy or very difficult.  You’ll want to start with the outward appearance of the property and make sure everything is aesthetically pleasing.  Make sure the grass is kept up and that there are no visible imperfections.  Clean up any of the landscaping that looks outdated or overgrown.

Then, turn your attention to the inside of the building(s).  Do whatever you can to make the interior more attractive.  If you have tenants, you may not be able to do anything substantial, but you can still call them and ask them (or bribe them) to keep their unit in prime condition.  If the unit is empty, you could consider getting a stager but I’m not so sure that it would really make a difference.  A fresh coat of paint and new carpet isn’t very expensive but can make the property look much better.

You’ll want to take high quality pictures of each unit, building and room so that you’ll have it ready to show to any prospective buyer.  Work out a time with your tenants, if you have them, to enter and take pictures.

Finally, get all of your paperwork in order.  Gather all of your rental agreements, tax documents, appraisals and anything else that the propsective buyer would like to know.  Have everything ready for when a buyer emerges.

Get Your Property Listed

It’s time to list your property.  If you’ve chosen a realtor they will do this for you.  If you are using flat fee MLS, craigslist, or doing it yourself with local FSBO sites, you’ll need to get your property listed yourself.  Write a thorough description and have at least a hundred pictures ready to go.  While you can only post so many on a website, create your own website for the property that has all of the pictures with captions and descriptions.  This will save both you and your buyer a lot of time in the long run.  It is a fact that the more pictures you have, the more buyer interest you provoke.

Advertise Your Investment Property

Finally, advertise the heck out of your place.  Don’t just stick to the MLS service.  Look into every classified and online service available, including craigslist, zillow, fsbo.com and any local or national real estate sites.  Run free ads in your local neighborhood and find relocation services that you can work with.  You can even use social networking such as facebook so that your friends and colleagues can help you find a buyer.

BRIC Countries Have Strong Historical Growth

GDP growth in the United States has averaged 3.2% over the last 65 years.  This growth rate is typical for a developed country with a developed market.  In fact, it is a higher growth rate than most of the other developed countries and European counterparts.  Now compare that to the BRIC countries GDP growth rates.  The BRIC growth rates are much higher. Below, we’ve gathered some charts that show the growth of each BRIC country’s GDP and then show a chart of their country’s stock market performance directly below that chart.  While you read about these countries and consider investments, make sure you look at both their GDP growth and how their markets have reacted to the growth.

Brazil. Since the 1960s, Brazil’s GDP growth has averaged over 5%, with the 1970s averaging over 8% and as reaching as high as 14% in 1973.  This was followed by a few up and down years in the 1980s and early 1990s.  Since then, growth has averaged over 4% but has hit as high as 7.5% in 2010.  In 2011, growth slowed to under 3%, but to many Brazil is still considered a high growth emerging market to invest in.  It is not growing as fast as China but the economy is more open to investors and its stock market has done very well over the past decade and is up over 300% since 2000, despite a 50% sell off during 2008 – 2009.

Russia. The GDP growth of Russia has only really been reported since 1995, as the economy was closed to outsiders before that.  After a horrific negative growth period during the 1990s, Russia has averaged an amazing 7% GDP growth from 2000 to 2008.  However, during the 2008-2009 recession, GDP shrank by 10%.  And during that same time their stock market shrank by nearly 75%, only to rise by 200% during the next two years.

India. India is also considered an emerging market.  As the chart below indicates, India’s annual GDP growth has averaged almost 9% during the past decade.  That is almost three times as fast as the US grew.  Furthermore, during the great recession of 2008-2009, India kept its GDP growth at nearly 6%.  Note that during the period of high growth in GDP between 2004 and 2008 that their stock market also climbed 300%!  And then when GDP growth slowed during the 2008-9 recession, the stock market fell by half.  Since then their market has nearly doubled and is back near all time highs.

China. China’s GDP growth averaged about 9.9% during the period from 1979 to 2010.  However, growth reached as high as 14% during 2007.  The Chinese government has had a target growth rate of 8% for the past ten years, which they recently brought down to 7.5%.  While most people now agree that China is no longer an emerging market and that it is really a developed economy, it is clear that their growth rate is still way above the rest of the developed countries.  For several years investors have been worried about China’s economy.  The government has put programs in place to slow their growth and investors have been worried that a recession, or at least a period of slow growth, is inevitable.  Despite all the scares, the Chinese economy continues to grow at close to double digit rates.  One other thing you should know about China’s economy is that it is communist, and therefore the economy is controlled by a strict government.  Not only does the government have complete control over fiscal policies, but it also controls the growth rates that are reported to the rest of the world.  While outsiders try to verify the accuracy of these growth estimates, there is often concern over what is actually happening versus what we are told is happening there.  China is the only of the BRIC countries that experienced high growth (9%) during the 2008-2009 great recession.

Now turn to look at how the Chinese stock market has reacted to its GDP growth and to the great recession.  While China’s stock market had good gains during the 1990s it was nothing to what happened when China became so popular in 2006.  From 2006 to 2008, China’s stock market rose almost 300%!  Since then it has fallen in half.

But Are the Stocks Worth Buying

It is clear that the BRIC countries have demonstrated a high level of growth for a long period of time.  And while future growth estimates for all of the countries keep falling as their markets become more developed, the countries may still be a good investment.  Here’s what you need to look at before you start investing in emerging markets.

First, look at the charts above and compare the GDP growth to the stock market growth.  See how they compare and look for periods when the growth is still there but the stock market is more attractively priced.  For example, investing during the euphoria and peak of each emerging market would have resulted in huge losses, but investing after the damage was done would have yielded spectacular results.  Look closely at how the market is correlated to its growth and try to pick an entry point where valuations are reasonable.

Another example of a market that could be overvalued would be Brazil.  While Brazil, India and Russia’s stock markets are all trading near their peaks, Russia and India have growth rates near their historical average.  Brazil on the other hand, has not recovered fully and its growth rate is only a fraction of its historical rate.

Other factors to look for are any country specific developments that can affect the long term valuations. For example, China’s restrictive and secretive government is charged with manipulating their economy and their currency.  Some people believe that in the end this is going to catch up with them in the form of slower growth.

Yet another factor to consider is the regulations of the foreign markets.  For example, there have been hundreds and maybe thousands of Chinese companies that are listed on the US exchanges that have had fraudulent accounting practices.  Some of the companies have completely made up revenue and profit figures, and because of language and culture differences, it is difficult to confirm many of these countries’ financial statements.  And when there is fraud, the SEC has no jurisdiction over the Chinese companies and therefore everyone loses their money with no chance of litigating.

Finally, there is a large underlying them about these countries that their growth is starting to slow because they have already achieved so many productivity and cost of living increases over the past decade or two.  While this should be a deterrent to investors, it doesn’t mean that these countries won’t outperform the developed countries’ stock markets.  However, luckily, for every emerging market that develops, there is usually a new country that is emerging.  Read our post about the emerging MINT countries for more information on some other fast growing emerging markets.

A Good Way to Invest in These BRIC Countries

So if you’ve done your research and you’re interested in investing in these markets, how do you do it?  Our advice is to buy mutual funds or exchange traded funds.  Locating and buying individual stocks in these markets is beyond risky and you must keep a well diversified portfolio of emerging stocks.  Low cost mutual fund companies like T Rowe Price and Vanguard have actively managed funds that invest in BRIC and other emerging market countries.  Another alternative is to buy the ETF iShares MSCI BRIC Index Fund (Ticker BKF).  It has only a 0.6% fee and can be traded during the open market, unlike a mutual fund that can only be bought or sold once a day when the market is closed.