Tuesday, September 28, 2010

Cash Flow Investing vs Capital Gain Investing

Cash flow is present value. Capital gain is future value.

The famous author and speaker, Robert Kiyosaki, in his books mention about CASH FLOW.

Simple illustration:
(a) If you own a condo, every month you need to pay RM200 out from your pocket (Rental income is not enough for loan installment and expenses). How many condo can you buy?

(b) If you own a condo, every month you can pocket in RM200 (rental income > loan installment etc). How many condo can you buy?

That is cash flow investing.

Ignore the capital gain, Cash is King. Capital gain, in another point of view, is the bonus on top of the cash flow.

Capital Gain

Flipping a property fro capital gain is another type of game in the investment world. If you keep your property long enough, price will move up BUT you may not really gain because you may forget to "count" your hidden costs in. What are the hidden costs? Holding costs; Opportunity Costs; Disposal costs; Maintenance costs etc.
Cashflow Quadrant: Rich Dad's Guide to Financial Freedom
Another illustration

I bought a shopoffice for RM1.5 million. If my rental income > loan installment by RM1,000 per month, I can use the RM1,000 to invest somewhere else.

Once my rental income increases over the time, the value of the property follows. 3 years later, I may sell it for RM2.2 million because someone else will buy it for the rental yield. Then I made a capital gain.

IF, without a positive cash flow, first i have to suffer to make good the loan installment and I may not able to hold it long enough to sell for capital gain. Second, if the cash flow is not good, no buyer will pay such a higher price for it.
Similarly, if you own your home and live in it, I don't consider it an investment. (it is merely a saving or asset accumulation) Without cash inflow monthly (and with money going out each month for mortgage payments, utilities, quit rent and assessment, insurance, and maintenance), your house is a liability, not an asset. It might become as asset -- if you rent it out for income each month that exceeds your expenses on it, or when you sell it and realize a capital gain.

Therefore, cash flow comes first, capital gain follows.
Mind Your Own Business