physical real estate as safe money

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bamajames
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physical real estate as safe money

Post by bamajames » Wed May 30, 2018 2:02 pm

I have a question concerning rental property that is paid for ( no mortgage). I have a portfolio based on
liability matching school of thought. If I use the value of the property within the total portfolio, what percent
of value of the property could be used as safe money or expense floor? This is sfd in very good neighborhood
with excellent rental history.
thanks for your time

alex_686
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Re: physical real estate as safe money

Post by alex_686 » Wed May 30, 2018 2:08 pm

Long term, in general, real estate has done about as well as a BBB bond.

Rule of thumb is to discount the appraised value by 20% to 40%. I might chose the 40% market. You mentioned cash, no mortgage, which sounds like risk adverse conservatism. You also mentioned SFD, good neighborhood, and strong rental history, which sounds like overconfidence. This mixture does not play well with each other.

Grt2bOutdoors
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Re: physical real estate as safe money

Post by Grt2bOutdoors » Wed May 30, 2018 2:10 pm

Make sure you have sufficient liability and fire insurance on property. A building yields zero in the event of a fire which makes it inhabitable.
If you want to be really conservative, use a 30% valuation. Basically, land value.
"One should invest based on their need, ability and willingness to take risk - Larry Swedroe" Asking Portfolio Questions

bamajames
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Re: physical real estate as safe money

Post by bamajames » Wed May 30, 2018 3:04 pm

Thanks for your quick response. I am covered very well on the insurance question.
I was guessing around 25% discount on appraised value so hopefully in the correct
range there. I am very conservative and have always favored RE over reits.

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Tyler Aspect
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Re: physical real estate as safe money

Post by Tyler Aspect » Wed May 30, 2018 3:44 pm

Physical real-estates are safe money until they are not. Real-estates are more like high yield sector stock than BBB bond.

The impression that commercial properties are similar to BBB bond probably comes from its high yield income stream. But this is no different than holders of utility stocks who might think their stocks as substitution for bonds. Not really.

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alex_686
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Re: physical real estate as safe money

Post by alex_686 » Wed May 30, 2018 4:09 pm

Tyler Aspect wrote:
Wed May 30, 2018 3:44 pm
Physical real-estates are safe money until they are not. Real-estates are more like high yield sector stock than BBB bond.

The impression that commercial properties are similar to BBB bond probably comes from its high yield income stream. But this is no different than holders of utility stocks who might think their stocks as substitution for bonds. Not really.
I would agree with you 100% if we were talking about REITs, but we are not. We are talking about direct holdings of real estate. I would suggest that you look up the index returns of direct holdings, except they tend to be lock behind proprietary paywalls. Sigh.

The liquidity and leverage that REITs use transforms them so their risk / return is more akin to other equities.

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badbreath
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Re: physical real estate as safe money

Post by badbreath » Wed May 30, 2018 8:36 pm

I would ask on biggerpockets.com
“While money can’t buy happiness, it certainly lets you choose your own form of misery.” Groucho Marx

WildBill
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Re: physical real estate as safe money

Post by WildBill » Wed May 30, 2018 9:48 pm

bamajames wrote:
Wed May 30, 2018 2:02 pm
I have a question concerning rental property that is paid for ( no mortgage). I have a portfolio based on
liability matching school of thought. If I use the value of the property within the total portfolio, what percent
of value of the property could be used as safe money or expense floor? This is sfd in very good neighborhood
with excellent rental history.
thanks for your time
Howdy

I have similar property and I have always viewed it as the equivalent of an illiquid 5% inflation indexed bond, albeit one with more favorable tax treatment.

The key issue is lack of liquidity. You can only realistically look at the income stream if you are considering as part of an LMP floor. You are only ever going to sell it once, and all of it at once, and if it is a forced sale you will be lucky to get 75% of value. Even on an excellently priced sale capital gains tax on the property is rough, especially if you have held it for a number of years and the basis is low. You can do a tax free exchange, but that is not a liquidity event.

You make your money when you die, and your heirs get the property at a stepped up basis :D

Happy renting

W B
"Through chances various, through all vicissitudes, we make our way." Virgil, The Aeneid

AlohaJoe
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Re: physical real estate as safe money

Post by AlohaJoe » Wed May 30, 2018 10:05 pm

bamajames wrote:
Wed May 30, 2018 2:02 pm
I have a question concerning rental property that is paid for ( no mortgage). I have a portfolio based on
liability matching school of thought. If I use the value of the property within the total portfolio, what percent
of value of the property could be used as safe money or expense floor? This is sfd in very good neighborhood
with excellent rental history.
thanks for your time
None?

In the context of a Liability Matching Portfolio, real estate is not safe because you can't guarantee that you'll liquidate the property when the liability is due and you can't guarantee that the rental stream will exist when the liability is due.

Liability Matching Portfolios are the diametric opposite of "probabilistic" portfolios. With bonds there is a legal contract that you can sue over if you aren't paid 5-, 10-, or even 20-years from now. Does your real estate have anything like that?

That said -- I think the 20% or 40% rules of thumb in this thread are perfectly fine but just don't kid yourself that you're doing any kind of Liability Matching Portfolio.

CnC
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Re: physical real estate as safe money

Post by CnC » Thu May 31, 2018 9:43 am

Perhaps this is a local thing but real estate value can change completely based on how the neighborhood changed. I won't say the city but there is a major city 30-50 miles from where I live that had many affluent suburbs and satellite towns surrounding it. Over the last 40 years most of those towns property values have steady marched down due to rapid expansion of crime and poverty.

Where I live is separated by tens of thousands of acres of fields which have kept property values up. But I do not know if this will hold true over the next 30+ years.

Nate79
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Re: physical real estate as safe money

Post by Nate79 » Thu May 31, 2018 10:12 am

Unless you plan to sell the asset what value does it have in your portfolio? Why not instead include the net income stream as an income base no different than SS, pension, etc?

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Phineas J. Whoopee
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Re: physical real estate as safe money

Post by Phineas J. Whoopee » Thu May 31, 2018 11:44 am

Groucho Marx, for the movie Cocoanuts, wrote:... You can have any kind of a home you want. You can even get stucco. Oh, how you can get stucco. ...
PJW

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