Over the years this blog has heavily focused on Stock Market Investing. Recently I have received several questions regarding Real Estate Investing. I wanted to clear the air about how I really feel about real estate investing and what I am doing about it.
I like Real Estate Investing
Right off the bat I’ll be clear, I like Real Estate as an asset class. Why? Well it comes back to the concept I value above all others in investing, diversification. In general, I have a high exposure to the stock market. That’s not necessarily a bad thing, but during certain periods of economic distress the stock market can move in tandem. I much prefer a mix of uncorrelated investments. It’s why I hold stock, international stocks, small caps, and bonds as part of my asset allocation.
Real Estate Investing and Diversification
Real Estate Investing has some correlation with stocks. There have been numerous studies on how well they correlate with very mixed results. A study by CXO Financial Advisory in 2008 found no correlation. But for every uncorrelated analysis there are others saying they are correlated. I tend to agree with this paper that the type of real estate defines the degree of correlation but that overall correlation is probably weak. The implication, if correct, is real estate investing done right can lead to diversification of outcomes in your investments. A strong reason in my book to include real estate investing in your portfolio.
But I’m Silent on My Real Estate Investing
So why am I not preaching about my real estate portfolio, you ask? Well frankly, I don’t have one. Or to be more exact my only current real estate investment (beyond my current home) is a small holding in a REIT index fund. These over weight me slightly in stocks that are primarily real estate investments. However, let’s be honest, they are still just stocks with a different source of revenue. Normal Stock REIT index funds from Vanguard are heavily correlated with the stock market and thus more of a sector tilt then a diversification away from stocks. It’s a post for another day to talk about asset allocation tilts but this is not relevant to fulfilling the diversification criteria I crave from Real Estate.
A Single Home Purchase is Not Diversification
So why don’t I buy real estate outright? Well this brings us to why I currently don’t have significant Real Estate holdings beyond my own home. You can’t buy a real estate property in the US outright for less than a few $100K. The thing is $200K (taking the lower end of the scale) on its own would represent a significant portion of most people’s portfolio, even those as high-income professionals. Even with a $2M portfolio that’s 10% of your entire asset base in one home.
The problem with so much in a single home is a single home is not diversified at all. It is subject to a single regions politics, demographics, and employment options which may drive out renters if they change suddenly. It is likely subject to a single set of renters at a time, who can easily trash your home or quit paying. Essentially a single home is a heavy concentration of one’s portfolio in a single asset. Not exactly what I’m searching for in my quest for diversification.
The Home I Live in is Not an Investment
Now let’s pause here to discuss a dichotomy. What about my own home? I own it, isn’t that the same thing? Well yes and no. First, most readers recall I don’t view my home as an investment. It’s a hedge against future costs and a luxury good so I don’t have to share a wall with neighbors. Nothing more, nothing less.
If it’s value goes down, it matters for only one reason. That is when I go to sell and move to a new area I’m hopeful both areas are moving in tandem so the purchasing power from my existing home can buy an equivalent or cheaper abode somewhere else. I couldn’t care less for my personal home’s value if the real estate market collapsed, so long as there is enough correlation between markets to not impede my ability to move. Not exactly an argument for diversification from stocks there.
Investing in a Remote Home is a Headache I don’t Want
However, my personal home does add to my lack of desire to own a rental property near me. No sense increasing my dependency on my current region of the country any more than I have too. Which leads me to the final nail in direct real estate investing for myself. The greater the distance the harder it is to maintain a rental property.
You either must pay someone to do upkeep, which can be expensive and leaves things out of your control to someone you may not know. Or you must do it yourself, which usually requires you to be local. Doing it yourself is not a passive activity, it’s like having another job. I don’t need another job. Doing it via someone else requires you to give over that control. I’m not letting some faceless corporation control something as large of 10% of my assets by outsourcing property investments.
Real Estate Syndication for the Win
So real estate is out as a direct investment and as a REIT for my purposes. What does that leave? Well, recently new opportunities have arrived in the form of crowd funding and syndicated Real Estate activities. Sites like Fund Rise exist to allow you to invest small portions of money alongside other investors in properties around the world. (Note I picked on Fund Rise as one of the more well-known options, but there are many and this is not an endorsement of any given one). The ramifications of this model are you can spread anything from $10K to our originally referenced $200K across many properties. These options fulfill the diversification need that keeps me out of Real Estate Investing today. To be clear it’s not the size of the buy in, it’s the ability to invest that buy in across multiple properties in a diversified manner that has kept me away.
Two Types of Real Estate Syndications
These companies seem to offer two types of investments. One is based on equity in the property and the other on debt.
The debt funding options basically have a fixed return. You are essentially funding an investments mortgage. It’s essentially like buying a mortgage bond. Honestly, I have little interest in this type of real estate investing. If I wanted a mortgage bond I’d buy it from Fannie Mae on the bond market for lower fees and higher credit ratings. This type of crowd funding does not interest me.
However, the other type of platform focuses on equity. It’s riskier but you are buying a piece of the property and associated profits/appreciation. This is the type of real estate investing I’ve personally been looking for. With lower minimum bids I can diversify across a real estate portfolio for a lower allocation amount while still getting the diversification away from stocks.
My Own Biases are Holding me Back
So why haven’t I invested yet, you ask? Frankly it comes down to psychology and caution. Psychology comes into play in that I wonder if the real estate market is a bit overpriced, though perhaps less so then the stock market. I’m heavily opposed to market timing but that doesn’t mean I’m not susceptible to psychology when I must act rather than leave my automation too it as my stock market portfolio does. This psychology is only part of it, but if I must be realistic and true I must admit to myself it’s a big part.
Large Real Estate Crowd Funding Platforms Not Tested in Downturn
The other reason I’ve delayed investing is more logical These platforms are new. They haven’t been testing through a down turn and no one is sure what happens if the platforms disappear even if the investments are still there. Also, the law is still evolving here (having only really been fully acknowledged by the SEC in 2016) which could affect future values and availability. So, in a way I’m waiting to see how the next down turn and SEC rulings effect some of these crowd funding platforms before I jump in with both feet.
History of Real Estate Syndication
Now before I leave this topic I would be remiss if I didn’t give you some history. While the crowd funding real estate investing platforms are new, the concept of syndicated real estate investing is not. These instruments have always existed, but prior to a few years ago they were not as visible. If you wanted to invest alongside other investors in real estate, you needed to have connections or know like-minded individuals who were willing to do so with you. If it was anyone besides your friends, you needed to be an accredited investor to even be allowed to invest. Because of this limitation these were not advertised. As such opportunities were not easily viewable nor reviewable on any scale. That all changed in 2016 when the SEC ruled that non-accredited investors could invest in these vehicles in small amounts.
New Players not New Risks
The risks of these type of investments hasn’t changed. IE. the impact of those putting together the funding agreements has some impact on the long-term risk. The difference is the players, the platforms themselves, have changed. So, the crux of why I am waiting is to see how these players respond to a down turn and then choose the right one for me based on my investing goal of diversification.
Real Estate Syndication Investing, Only a Matter of Time
I’m not sitting on my hands now. I’m actively investigating the options in this crowded field. But for now, at least I’m going to stay the course with my current portfolio. Someday soon though I will move more actively into the real estate market as an asset class. One of the crowd funding sites will be my entry point.
Do you invest in real estate? If so how?