While most investors got into real estate investing because they understand the opportunities to make money through leverage and capital growth or high returns, I still see and hear from many who don’t fully understand opportunity cost.

Remember that anyone who enters a property generally does so to generate money or income; the number of businesses/properties you own is insignificant.

So what does opportunity cost mean?

Well, according to the encyclopedia, “Opportunity cost is a term used in economics to refer to the cost of something in terms of a lost opportunity (and the benefits that might be received from that opportunity), or the most lost alternative.” For example, if a city decides to build a hospital on vacant land it owns, the opportunity cost is something else that could have been done with the land and construction funds instead. , or a parking lot, or the ability to sell the land to reduce the city’s debt, etc.

So in terms of real estate investment, if an investor decides to invest £50,000 in a property in, say, Wales, the opportunity cost would be what they could have done by investing in Spain, Ireland or Dubai. Or similarly, if an investor decides to hold 50k equity in a property, the opportunity cost is what they could alternatively have invested this money in and the resulting value.

Now again, this will depend on your specific strategy, and many people aren’t too concerned about opportunity cost, they’re just interested in buying 1-2 properties that can be held for 15-25 years to use as a pension. That’s fine if that’s your strategy, but to me it’s too broad a strategy, carries risks and doesn’t maximize the opportunities available.

For me, I’ve always had a philosophy, right or wrong, that I should always work hard with my money. What does this mean? Well, as soon as I feel like my money has made a significant return and the returns are likely to decline, compared to other possibilities, I’ll look to take my profits and invest elsewhere, that is, when I feel like the opportunity elsewhere is greater than the current one. chance.

The great thing about ownership is that this doesn’t necessarily mean selling, as you can refinance and invest money elsewhere.

This is not unlike any other type of investment, such as buying stocks and shares: you make/lose your money based on the price you paid and the price you sold for, though clearly with ownership it is a good opportunity to earn a regular income. Also: If you keep it for 15-25 years, you should make money, but chances are there will be a few scares along the way!

To be a successful investor, you need to know when to enter the market and when to exit the market. And the people who do it best buy low and sell high!

I’ll give an example: although off-plan buying now has some foothold in the UK, I’ve done it successfully in recent years, but the key is to have a clear strategy.

For example, by doing all my due diligence, I was able to buy a property at the right price in the right location, but then sold it within a year of completion as I felt that was the period when I would see the maximum returns. , and opportunities would arise. be older elsewhere for the next 3 years.

So, to run the numbers, I just sold one that I bought off plan last year 12 months before its completion. I bought at a price that was already £10k below market value based on my research in an area that had little buying competition to leave. This was secured with just a £5k deposit. On completion I put another £28k on deposit so I tied up £33k of my own money. There was no stamp duty in this area.

I then put it on the market on completion, now even with things slowing down in the area I have just sold it for a £23k profit. So I bought £5k for 1 year, and a further £28k for 6 months, to get £56k back.

Why did I sell? Did I consider refinancing?

My first option would have been to refinance and rent, but the rent would not have accrued. So while the rent would have accrued to the price I paid for the property, I would have had 56k in equity which wouldn’t have done me much. So, since I don’t forecast much capital growth in the area for the next 3-5 years, and the return wasn’t attractive enough for me, it was better for me to release this capital and find another investment, I mean, I felt there was Better opportunities. to spend my £56,000, to make more money.

Now clearly looking ahead is an element of risk and speculation and there are no definitive answers so you need to forecast as best you can with the data currently available i.e. how do you forecast interest rates, purchase costs /selling, supply and demand, employment, general economy and market sentiment for the upcoming time period in the markets/regions you are investing in/looking to invest in.

Although opportunity cost can be difficult to quantify, its effect is universal and very real at the individual level. The principle behind the economic concept of opportunity cost applies to all decisions, not just financial ones, for example when Steven Gerrard decided to stay at Liverpool last summer, his home club and where he is captain, the cost of opportunity was what he could have achieved. if he had moved to Chelsea. It will be interesting to see what he decides this summer: Now he may feel the opportunity cost is too high to turn him down.

I hope this makes sense and remember to consider opportunity cost the next time you make an investment decision.