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Another financial therapy request

Discussion in 'Investing Strategies' started by shake-the-disease, 25th Sep, 2007.

  1. shake-the-disease

    shake-the-disease Well-Known Member

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    Greetings, I'm only an occassional poster but would greatly appreciate some input on my next step.

    My situation today is that I own 3 properties. The 2 IPs are fairly cashflow negative and I'm capitalising about 50% of the shortfall. Total LVR including PPOR is 60%. I also have a lot of PPOR debt unfortuantely.

    I currently have about $135k in spare equity I can draw out of one of my IPs. I don't hold any shares.

    I want to keep buying assets, but this time to diversify a bit and to get something higher yielding as I don't want to increase the rate of capitalising the shortfall too much. Call me conservative ;)

    My idea is to use the new $135k loan plus a new margin to buy (through a DT?) about $220k in LICs. They seem to pay around 4% divs I think. Not great but compared to property fairly good.

    Is this a dumb idea, should I look at instead buying direct shares? What would you do in my position?

    Thanks in advance :)
     
  2. Simon Hampel

    Simon Hampel Co-founder Staff Member

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    Unless you are confident that you can add more value than an investment manager (either fund manager or LIC manager), then I'd suggest not buying the shares directly.

    If you are prepared to educate yourself about stock selection, portfolio management and risk management, then go for it (you'll possibly do better than the manager would - and for lower cost) ... but if you don't have the time or inclination to learn how first, then perhaps outsource the management of your share portfolio.
     
  3. shake-the-disease

    shake-the-disease Well-Known Member

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    Thanks Sim.

    I read somewhere someone critisicing LICs because they trade at a premium to their asset backing. Is that a significant factor?

     
  4. Simon Hampel

    Simon Hampel Co-founder Staff Member

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    Actually - they can also trade at a discount to asset backing.

    This is actually why I don't particularly like LICs, because there is an additional variable to take into consideration (market sentiment) ... but as I already mentioned, this can produce opportunities to buy more cheaply than the company is arguably worth.
     
  5. Glebe

    Glebe Well-Known Member

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    It's an interesting scenario. You're heavily negatively geared. You also have high non-deductible PPOR debt. Should you borrow more?

    I would caution against borrowing a further $220k to invest in the sharemarket. You'd be looking at an interest bill of $17800p.a. Some of that would be covered by dividends (say, $10000), but the remainder would need to be capitalised against rising share market prices.

    I'm not sure at this stage of the market if share price rises are 'guaranteed'. Whilst you'd probably only need a share price rise of about 4% to maintain your LVR, it wouldn't be inconceivable for the sharemarket to pull back 10% over a year either.

    So you need to stress test various scenarios. Start with the fun stuff like a 25% return p.a. over the next couple of years, then drop it to 20% then 15% etc etc all the way to about -15%.

    Also, play with interest rate changes from 7.5% -> 9% and see if you can withstand the scenarios.

    Will you get a margin call? Will you have enough cash in the bank to top up your account? Will you be able to sleep at night?

    The good times will look after themselves, but whether or not you can weather the bad times should be the decider.

    This is the crux of the matter, the LIC vs ETF vs managed fund vs direct shares debate is largely irrelevant.
     
  6. crc_error

    crc_error The Rule of 72

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    With your level of debt, i would be careful about margin loaning your equity.

    Prehaps start with investing your IP equity into a managed fund, and collecting the dividend and using it to pay some of the IP interest.

    Plus capatilizing IP interest.. your really skating on thin ice! :eek:

    Prehaps look at more higher yielding investments like Listed property trusts, and use the dividends to pay some of that interest.
     
  7. shake-the-disease

    shake-the-disease Well-Known Member

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    Thanks for everyones input.

    I hear what you are saying about skating on thin ice, I know it might look that way. The capitalising of some of the shortfall on IPs is only for 2 to 3 years at which time our household income will go up substantually.

    That said perhaps it might be more prudent to just buy $100k of shares and not margin them. Decisions decisions...
     
  8. Mark Laszczuk

    Mark Laszczuk Well-Known Member

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  9. crc_error

    crc_error The Rule of 72

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    Probably a good idea :D