jvenator · January 10, 2012 10:12
diff --git a/gistfile1.txt b/gistfile1.txt
 One way to achieve higher investment returns in real estate is to use leverage or debt. It can allow one to
 achieve significantly higher returns, and place most of the downside risk on lender. However, it makes the
 investment return more sensitive to changes in the property’s financial performance.

 Let’s consider a property that is purchased for $10.0 million and has NOI of $800k
 (net operating income = revenue – expenses excl. debt). If the purchase is all cash,the annual return
 (aka – cash on cash) is 8.0% ($800k / $10.0M = 8.0%). If the buyer gets a loan at 80% LTV (loan to value)
 or $8.0M with a 7% interest rate ($560k). the property still throws off $800k in NOI but has a $560k debt
 payment. This leaves $240k, however, she only invested $2.0M in cash because of the 80% loan.  This equates
 to a leveraged return of 12.0% for the buyer ($240k / $2.0M = 12.0%). We see that because the borrowing rate
 of 7% is less than the 8% cash on cash return, it is beneficial for the buyer to borrow more money at the
 cheaper rate. If the buyer got a loan at 90% LTV on the same terms her leveraged return would be 17.0% (debt
 payment = $630k leaving $170k on a cash investment of $1.0M). Higher debt equals higher returns when things
 go well.

 Using the 80% LTV example, let’s assume NOI decreases by just 10% to $720k. If the buyer uses all cash for
 purchase her return is still 7.2% (small drop).  With the 80% loan, the leveraged return is 8.0% (big drop
 from 17.0%). Just as leverage magnifies positive performance, so does it magnify negative performance.
 
 The most aggressive RE investment firms used too much leverage (aka – debt) in the last few years.
	One way to achieve higher investment returns in real estate is to use leverage or debt. It can allow one to
	achieve significantly higher returns, and place most of the downside risk on lender. However, it makes the
	investment return more sensitive to changes in the property’s financial performance.

	Let’s consider a property that is purchased for $10.0 million and has NOI of $800k
	(net operating income = revenue – expenses excl. debt). If the purchase is all cash,the annual return
	(aka – cash on cash) is 8.0% ($800k / $10.0M = 8.0%). If the buyer gets a loan at 80% LTV (loan to value)
	or $8.0M with a 7% interest rate ($560k). the property still throws off $800k in NOI but has a $560k debt
	payment. This leaves $240k, however, she only invested $2.0M in cash because of the 80% loan. This equates
	to a leveraged return of 12.0% for the buyer ($240k / $2.0M = 12.0%). We see that because the borrowing rate
	of 7% is less than the 8% cash on cash return, it is beneficial for the buyer to borrow more money at the
	cheaper rate. If the buyer got a loan at 90% LTV on the same terms her leveraged return would be 17.0% (debt
	payment = $630k leaving $170k on a cash investment of $1.0M). Higher debt equals higher returns when things
	go well.

	Using the 80% LTV example, let’s assume NOI decreases by just 10% to $720k. If the buyer uses all cash for
	purchase her return is still 7.2% (small drop). With the 80% loan, the leveraged return is 8.0% (big drop
	from 17.0%). Just as leverage magnifies positive performance, so does it magnify negative performance.

	The most aggressive RE investment firms used too much leverage (aka – debt) in the last few years.
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