Investing into RE too much?

Hey all,

In the spirit of diversifying your investments, I’m now wondering what the downside of investing into RE too much.

  1. RE is hard to turn into cash when s**t happens.
    This applies when a downturn happens, and you may have to ride it out yourself by covering PITI when there is a vacancy. But with the right (low) rent prices (say I charge 2000 for a 2bd/ba condo in current market), wouldn’t I still be able to cover some of it?

  2. RE appreciates slower than stocks (it follows stocks though).
    This seems just an opportunity cost rather than directly impacting cash flow. Conversely, in a downturn, stocks go down before RE so isn’t investing into stocks more risky?

  3. How much % of net worth into RE are people comfortable with? With first home buyers (esp in BA), it’s not too uncommon that they pour their entire net worth to make the down payment. After that, do people invest into stocks? What about when they buy the next home?

With 2 mortgages, I’m now debating how we should play it out. 1) pay off mortgage for rental property; 2) pay off primary; 3) put into somewhere safe like an index fund.

  1. Yes, you’re right, need to consider whether you can weather vacancy. Good times don’t last. Bad times, you might not be able to rent out no manner how low you decrease the rent.

  2. Volatility doesn’t equal risky. Traders love volatility. Investors view volatility as noise. Risky means the company is in danger of going bankrupt or its business is in a permanent down spin e.g. Yahoo! and JCP.

  3. Statistics show that as one get richer, the smaller the RE as a percentage of net worth. For most people, the allocation should be owned a home, bulk in index fund such as VINIX, and cash = at least 1 year expense (not including income tax :slight_smile: for obvious reason).

  1. You’re correct to realize you want always get today’s rent. I think everyone is different on how much cushion they want. Personally, I think 25% is adequate. If a 25% drop in rent lets you be break even, then you can ride out the downturn.

  2. Real estate usually decreases a much smaller percent than stocks do in a downturn. 2008 is the rare time real estate decreased >10% since the great depression.

  3. I think a good strategy is to buy a primary home, then convert it to a rental when you by the next home. Everyone will have a different pace for how often they can do that.

It is never too much (or too late) to invest. Here’s my take:

  1. When recession happens, your cash flow can turn negative quickly. That’s why you need to invest in properties that yield positive cash flow in an up market. That being said, people would still need a place to live even during a recession. There are still salaries being distributed during a recession. So I wouldn’t worry about over-leveraging too much.

  2. Yes, RE appreciates slower than stocks. But you can leverage more with RE than stocks. So the effects cancel each other out. If you don’t have a lot of money but can borrow a lot, then go with RE. If you have lots of money, then go with stocks.

  3. I would say 50% of your assets should be in stocks and the other 50% in real estate (assuming you don’t own a business). If your overall net worth is under a million, then your debt should be higher than your net worth.

I’m assuming you are under 40 years old, that being the case, you should acquire more assets rather than reducing debt. So my advice would be to invest your money in stocks or buy anther rental.

These are all great advices. Thanks all!

With 25% positive cash flow upfront, wow that’s a tough goal to reach unless you make significant down payment or refi to lower the mortgage. I think we’re slightly positive if we really tried, but I chose a tenant with stable income who wants to stay for several years (got sick of moving around), with juust under water (<500 negative cash flow / year).

stocks/RE 50:50 could also be tough to achieve, esp with the gains we’ve had from our first home. I’ll look closely at safe index fund to park the cash in. Thanks! :slight_smile:

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I often try to stress with 20% to 25% down and find whether I can manage it. This is perfect stress test for RE holders.

If you have locked fixed mortgage less than 4.25%, I would not suggest to pay down unless you decide to retire or take no pain in rental. If you have ARM, I would suggest to refinance with 30 year fixed or 15 year fixed whichever you are comfortable.

If you decide to pay down or pay off, wait for some more time what is coming out Trump/Rep plan as benefits may be different.

We actually have fixed with rental but 7ARM for primary. The thinking is we keep moving around <7yrs anyway, plus having ARM is a good psychological push to save up & pay off before the rate hike begins. For rental, it feels like more hassle to kick out tenant + sell the property + 1031 exchange + get new tenants. So we just kept it as fixed to gain more stability.

Interesting. What kind of plan do you predict? I thought with the increased standard deduction & fewer tax brackets, mortgage deduction becomes negligible.

If standard deduction is increased to 30k for joint tax filing, mortgage tax deductions go away ! In such case, as you suggested, paying down primary is worth. Otherwise, paying down rental gives you cash flow. With depreciation applied you pay no tax or less tax on rental.

On any case, paying down fixed mortgage, esp low interest rate, does not financially good as you can earn more by investing other means (stocks or real estate).

Selling real estate, paying the tax and then buying stocks seems risky and sure loser…If you want to reduce risk, 1031 into less risky real estate…But paying tax will cost 30-50% right off the bat…Stocks crash fast and often…

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I don’t think that’s true.

If you use SF Case Shiller index as a proxy for Bay Area house prices. I once did the calculation, over the last 30 years compound growth rate is about 5% a year. If you lever up 5X, meaning if you only put 20% down, growth rate doubles to about 10% a year, for 30 years.

That assumes rent breaks even with PITI. But in 30 years I am sure rent will outrun PITI by a significant margin. P plus I is fixed, and T grows extremely slowly because of Prop 13. Then in year 31 your mortgage will be paid off, so P and I of PITI will be zero. If you factor that in return will be higher than 10%.

S&P 500 return, with dividend reinvested, I believe is around 10%. So RE will at least match stock’s returns, with massive tax benefits.

And, one does need a roof over his/her head…

When I said “slow”, I only meant the timing of the ups & downs, simply due to each asset class’s liquidity. Yes, leverage can match the higher gains in stock.

On the other hand, are you suggesting only invest into RE and none into stocks? Do people do that? I’m not judging, and I guess a lot of techies are in that situation when they buy 2M home and all they got is some RSU leftover after making down payment…

No, I am not saying that. Return is only part of the consideration. You raised the issues of liquidity and diversification. They too are part of the equation.

The only point I was trying to make is that Bay Area real estate’s return is at least as good as S&P 500, most likely superior with lower volatility.

I think people in general have more of a love affair with real estate than stocks. You can definitely show off your nice mansion in Atherton or Los Altos Hills. But have you seen anyone showing off their multi-million dollar holdings in AAPL? (except @hanera).

But in general, I read this somewhere and I think it makes a lot of sense: Real estate is a poor man’s investment vehicle whereas stocks is a rich man’s investment vehicle. When you are poor, you need to borrow a lot and leverage a lot to build up your assets. That’s where real estate can come in handy. If you are already rich, you don’t need to borrow that 80% to pay for the primary residence. You can just invest in stocks and get some hassle free dividend yield, rather than wasting time and getting your hands dirty with managing rentals.

IMO, Proven words !

Leverage and Depreciation are the two benefits of real estate investing.

If leverage is not required, then stocks, dividend and growth are best form to grow.

Without leverage, stocks are returning too high, esp during bull run.

Nowadays,I find it hard to get BA real estate, but easy to get stocks and grow.

I do not want to change the thread to stocks, but to show how wild we can make money in stocks (This is speculative) .

I just bought two IRBT options today, after hours 9% up, it takes a wild ride tomorrow with Trump’s tax plan revealed !

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I focus on real estate but watch stock market as well. If you talk about buying SP500 index, that’s stock investment. But many people trade stocks which is more like speculation. Compared with stock speculation, RE is better due to lower risk and long holding period.

For busy people, buying sp500 index is more appropriate since it requires zero effort. Buying and managing a rental property would be too much for most folks. If you calculate return per hour, SP500 beats RE. If you only look at returns, leveraged RE wins a lot.

Very few people make more money in stocks than RE

I don’t get why people always want to compare leveraged RE returns vs. non-leveraged stock returns. Leverage is risk no matter what your investment. How many RE investors got wiped out in 2008-2009 because of their leverage?

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Actually more people make money in stocks, but it is not public information. The growth in stocks are higher than real estate with equal amount (with equal Leverage.

Not only SP500 index, but there are many indexes, you can read here. This year NASDAQ index is doing great.

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I guess due to lack of complete understanding of the difference. Other than leverage, the differences are:
trading vs buy n hold e.g. stock speculation should be equate to house flipping without improvement not owner occupied purchase.
small sum vs large sum e.g. $2k stock investment vs $500k SFH or $100 mil stock investment vs $1 mil SFH
diversified vs concentrated e.g. Index fund should not be compared with 1 SFH.

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