Friday, July 25, 2008

Price is What You Pay, Value is What You Get

I spent a week in Michigan visiting friends and family near Ann Arbor where I was raised. The mood and outlook on the economy in the state is not very good though Ann Arbor is in decent shape compared to the rest of the state. The local folks talk about how there are many "good deals" in the area real estate market. I take exception to the idea that there are good deals; when I look at a piece of real estate I try to anticipate how it will "perform" over the next 15-20 years and I do not see the indicators which would lead to good performance in the forseeable future for Michigan area real estate.

Remember: Price is what you pay, value is what you get. Even though prices are down in Michigan from 2-4 years ago, I do not think there are many good values because I do not see the economic issues which will cause the real estate to perform at a high rate going forward. I do not see immigration into the state, I do not see rising population with increasing needs for housing and I do not see wide spread job growth which would provide quality income for people to pay for housing. If you have to live in Michigan it is now cheaper to buy the house you want, but you should be buying as a residence and not as a quality investment.

You buy investment real estate over time with the goal of selling it later after taking profit, over time and at the sale. You are attempting to be a bit of a fortune teller, and predict the future. What makes a property a good value really depends on what the performance is going forward, so do not make the mistake of believing you have a good deal because you are buying something at a lower price then you would have paid in the past.

Nortel stock (NT) was was at $81.00/share in August of 2000. It dropped to $9.00/share in 2001 and I bought 200 shares. I believed that Nortel would continue to be a viable long term play because of their strong presence in the corporate telecom market and the entrenchment in US Government data switching. Cisco seemed to have won the battle for corporate networks, but I believed the Nortel government implementations would allow them time and money to recover. In 2003 I sold my stock at slightly more than $2.00/share, after deciding that even if the company were to recover I should sell my stock (at this point in time it was now worth $400.00), and put the money someplace else. Nortel stock is now trading at $7.00/share after a reverse 10/1 split, meaning my shares would be worth $140.00 today. I am glad I only lost $1,400.00 in the deal!

The moral of the story is that just because a price has dropped does not mean you have a good value. When investing, you need to ask yourself, what are the values which will cause people to see the investment as more valuable in the future. An investment is only a good value if the investment contains qualities which will cause it to perform better going forward!
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1 comment:

Unknown said...

Kevin, thanks for an excellent blog post. As A Realtor and former retail store owner, I know that "discount" is not what you pay, it's what someone else says you get. My thought is that whatever you pay in a market is market rate, what a buyer and seller agree is the price. To say it is 50% off from 3 years ago doesn't mean it's a good deal. It can mean that 3 years ago someone paid a bubble market price. Focusing on real value, especially as it relates to investment property. Keep blogging about this.