If I Were You, I Wouldn’t Start From Here

There’s a well known joke about a tourist in Ireland who asks one of the locals for directions to Dublin. The Irishman replies: ‘Well sir, if I were you, I wouldn’t start from here’. 

The idea behind the joke is if you want to get somewhere, it is better to start from some place where you have a good chance of reaching your goal. 

In investing getting rich in the shortest possible time means starting from a place where the compound return is high, and importantly higher than the average. We know that the long term arithmetic average of stock returns is roughly 8%, with a real return of about 3%. 

If we want to achieve a financial goal in the shortest possible time, it is better to start when the expected future returns are high. Here we can use the rule of 72 - 10% compound per year gets you double your money in 7.2 years. 5% takes you 14.4 years. So which one do you want to start from? If you want high returns then you have to have the patience and the fortitude to invest when everything looks unattractive but offers outstanding forward yields. 

The answer is bleedingly obvious although most of us forget this. The reason why is we generally have a pool of funds or get paid weekly and dollar cost average into the market without asking what is my expected return? Simple maths shows this is not a way to maximise your investment returns over the long term. We do it because that is what the finance industry tells us is the best way. Best for whom?

The way to “get to Dublin” is to wait for expected returns that get you there quicker than any other way. That’s why where you start out tells you a lot about where you will end up. 

If you have an investment property bought at a low rental yield, say 1% this most likely indicates a high purchase price. The probability of making high returns over the long term are very low. Most people simply project out the recent past and use this figure (if they actually even bother to calculate the expected returns) for future value.    

It is simply asking yourself how can you generate a higher yield? If your purchase price is $1,000,000 and the net rental yield is 1% then to increase the yield, you can double the rent, but it is unlikely that doubling the rent will succeed as you would have done that already. Even then 2% is not exactly what you would be happy with. 

Sell for more? Say $1,200,000 but for the prospective buyer that means an even lower yield than 1% because of the higher purchase price. While you can argue the case for a higher price, you need someone to actually buy the property thinking they can generate a higher return (that you somehow can’t see). 

The point is a high price and a low starting yield is not the way to Dublin. Unless you are comfortable taking the long way.