Cash Flow vs Appreciation - Same thing?

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pepperz
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Cash Flow vs Appreciation - Same thing?

Post by pepperz » Sun Apr 21, 2019 9:07 am

Scenario 1:
You own an apartment complex that clears $2K/month profit for you to do whatever you want with.

Scenario 2:
You have a stocks/bond portfolio that pays little to no dividends. (Let’s say it’s a 600K portfolio so that 4% withdrawal is about $2K/month)

Is one of those scenarios really “better” than the other or are they essentially the same?

Wondering if the difference is that “Scenario 1” feels like a paycheck which is easier to spend while “Scenario 2” you have to choose to sell / withdraw from portfolio which is emotionally harder... but in the end they are equal?

JoeRetire
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Re: Cash Flow vs Appreciation - Same thing?

Post by JoeRetire » Sun Apr 21, 2019 9:23 am

pepperz wrote:
Sun Apr 21, 2019 9:07 am
Scenario 1:
You own an apartment complex that clears $2K/month profit for you to do whatever you want with.

Scenario 2:
You have a stocks/bond portfolio that pays little to no dividends. (Let’s say it’s a 600K portfolio so that 4% withdrawal is about $2K/month)

Is one of those scenarios really “better” than the other or are they essentially the same?
They aren't essentially the same. They are only similar if the stocks/bond portfolio consistently throws off $2k/month. With no dividends, the variability makes that unlikely. And of course tax considerations may make them even less similar.
Wondering if the difference is that “Scenario 1” feels like a paycheck which is easier to spend while “Scenario 2” you have to choose to sell / withdraw from portfolio which is emotionally harder... but in the end they are equal?
That emotional difference you feel is a common behavioral economics trait.

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JoMoney
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Re: Cash Flow vs Appreciation - Same thing?

Post by JoMoney » Sun Apr 21, 2019 9:35 am

Personally, I would view owning the apartment complex as being a job (at least part-time job) that should be providing extra income over passive investments.
Being a landlord is a type of business, it's not really "diversified", but at least you have control over some aspects and might be able to manage some of the risks better than other concentrated investments (like buying a single stock).
Real estate is very much dependent on factors like the market in a specific location so I really think it difficult to generically compare them. A hot real estate market that's growing rapidly can make someone a lot of money even if the property is not cash-flow positive... it can also crash...
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham

dbr
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Re: Cash Flow vs Appreciation - Same thing?

Post by dbr » Sun Apr 21, 2019 11:26 am

A plan in which you assume and income of $2k a month from real estate and in which you implement a withdrawal of $2k a month from a portfolio is by assumption the same thing as far as the income you have to spend. After that these two options are not the same at all.

Differences firstly include the risk regarding how sustainable that income is. You have evaluated that risk for the portfolio using the SWR method. As an aside most SWR studies take that 4% from the initial portfolio value so it is constant in real dollars. I don't know what assessment you have of the risk to your real estate income. Don't forget to plan that you need that income to be in real dollars, increasing with inflation.

Secondly the fate of the underlying resources is going to be quite different. You would surely want to attend to what the likely wealth is that you would hold over time. The SWR method assumes that in the worst case at the end of say 30 years the money is spent down, but in fact almost all the outcomes of this sort of plan leave the investor with wealth, in many cases a lot of wealth, at the end. How does that compare to the wealth you expect to have in your real estate?

A further difference is that a real world retirement plan is not very practical depending on fixed amounts of income every month. In reality sometime one spends a lot of money and other times less. Withdrawals from a portfolio can be made more or less as needed. It is not clear how to take larger and smaller amounts from real estate, but I guess people in that business would be able to figure that out. I would think the need for cash input to real estate would cause a lot of uncontrolled uncertainty of income.

As others often point out real estate would tend to be a business that requires time and attention and that eventually might not be sustainable. Advice on that can come from those who do it. Maintaining a portfolio is pretty simple.

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pepperz
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Re: Cash Flow vs Appreciation - Same thing?

Post by pepperz » Sun Apr 21, 2019 12:05 pm

Thanks all for your feedback!

I have a friend who invests in real estate and always brings up cash flow being better than appreciation.

I realize the business models are different (as in REI is a business while stock investing is not) so you cannot really compare those equally but always wondered if the way they paid you was really the same in the end.

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Re: Cash Flow vs Appreciation - Same thing?

Post by abuss368 » Sun Apr 21, 2019 12:39 pm

Our goal has been to build a growing cash flow stream from dividends for retirement. We invest in index funds only.
John C. Bogle: "You simply do not need to put your money into 8 different mutual funds!"

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Re: Cash Flow vs Appreciation - Same thing?

Post by delamer » Sun Apr 21, 2019 12:41 pm

How much is the apartment complex worth in your example?

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pepperz
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Re: Cash Flow vs Appreciation - Same thing?

Post by pepperz » Sun Apr 21, 2019 12:42 pm

May I ask which index funds you are investing in that would produce those kinds of dividends?
abuss368 wrote:
Sun Apr 21, 2019 12:39 pm
Our goal has been to build a growing cash flow stream from dividends for retirement. We invest in index funds only.

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pepperz
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Re: Cash Flow vs Appreciation - Same thing?

Post by pepperz » Sun Apr 21, 2019 12:47 pm

I am not sure. :) Can we assume it’s the same amount of cash you have invested in either scenario?

I don’t want to make this about “REI vs Stocks” because of the many differences including using leverage for real estate.

I was just curious about the arguments people make saying “real estate is real cash in your pocket while appreciation is not”
delamer wrote:
Sun Apr 21, 2019 12:41 pm
How much is the apartment complex worth in your example?

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Re: Cash Flow vs Appreciation - Same thing?

Post by cherijoh » Sun Apr 21, 2019 12:53 pm

pepperz wrote:
Sun Apr 21, 2019 12:47 pm
I am not sure. :) Can we assume it’s the same amount of cash you have invested in either scenario?

I don’t want to make this about “REI vs Stocks” because of the many differences including using leverage for real estate.

I was just curious about the arguments people make saying “real estate is real cash in your pocket while appreciation is not”
delamer wrote:
Sun Apr 21, 2019 12:41 pm
How much is the apartment complex worth in your example?
"Cash in your pocket" makes me think they are spenders not savers or investors. That is a totally different mentality.

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Re: Cash Flow vs Appreciation - Same thing?

Post by delamer » Sun Apr 21, 2019 12:57 pm

pepperz wrote:
Sun Apr 21, 2019 12:47 pm
I am not sure. :) Can we assume it’s the same amount of cash you have invested in either scenario?

I don’t want to make this about “REI vs Stocks” because of the many differences including using leverage for real estate.

I was just curious about the arguments people make saying “real estate is real cash in your pocket while appreciation is not”
delamer wrote:
Sun Apr 21, 2019 12:41 pm
How much is the apartment complex worth in your example?
Fair enough. But I don’t see the two scenarios as equal because real estate and stocks are such different animals.

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Re: Cash Flow vs Appreciation - Same thing?

Post by abuss368 » Sun Apr 21, 2019 1:12 pm

pepperz wrote:
Sun Apr 21, 2019 12:42 pm
May I ask which index funds you are investing in that would produce those kinds of dividends?
abuss368 wrote:
Sun Apr 21, 2019 12:39 pm
Our goal has been to build a growing cash flow stream from dividends for retirement. We invest in index funds only.
We use total market index funds (in signature line). We have added both U.S. and International REITs which provides a much higher yield.
John C. Bogle: "You simply do not need to put your money into 8 different mutual funds!"

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Re: Cash Flow vs Appreciation - Same thing?

Post by abuss368 » Sun Apr 21, 2019 1:13 pm

pepperz wrote:
Sun Apr 21, 2019 12:42 pm
May I ask which index funds you are investing in that would produce those kinds of dividends?
abuss368 wrote:
Sun Apr 21, 2019 12:39 pm
Our goal has been to build a growing cash flow stream from dividends for retirement. We invest in index funds only.
Which hopefully combined with pension and social security will provide enough cash flows for retirement. We may or may not plan to work part time. Something totally unrelated to current careers.
John C. Bogle: "You simply do not need to put your money into 8 different mutual funds!"

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Re: Cash Flow vs Appreciation - Same thing?

Post by KlangFool » Sun Apr 21, 2019 1:38 pm

pepperz wrote:
Sun Apr 21, 2019 12:05 pm
Thanks all for your feedback!

I have a friend who invests in real estate and always brings up cash flow being better than appreciation.
pepperz,

1) While the real estate is doing well, it throws off a cash flow of $X per month. If it is not doing well, you will need a cash flow of $Y to maintain the real estate.

2) A portfolio of 60/40 will produce about 2% of dividend/distribution/interest income per year. Even if it is not doing well, it requires $0 in cash flow to maintain the 60/40 portfolio.

3) So, in order for real estate to be worthwhile, the $X needs to be significantly larger than $Y in order to compensate for the additional risk of $Y.

4) If you put 600K into real estate and you only get $2K per month out it, it is a lousy deal.

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Re: Cash Flow vs Appreciation - Same thing?

Post by KlangFool » Sun Apr 21, 2019 1:42 pm

OP,

When you asked the wrong question, you will never get the right answer!

Why should we trade cash flow with capital appreciation? We should get both at the same time. Do not invest in something that does not give you both: cash flow and capital appreciation.

This is the same in the case of buying the house that you live in.

KlangFool

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Re: Cash Flow vs Appreciation - Same thing?

Post by abuss368 » Sun Apr 21, 2019 1:57 pm

Jack Bogle has called “income risk” the risk of a retiree not having the cash flows to live and pay the bills. He said a retiree should be able to go to their mailbox and cash those dividend checks.

I always thought that made a lot of sense and was very sound advice.
John C. Bogle: "You simply do not need to put your money into 8 different mutual funds!"

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Re: Cash Flow vs Appreciation - Same thing?

Post by dbr » Sun Apr 21, 2019 2:22 pm

KlangFool wrote:
Sun Apr 21, 2019 1:42 pm
OP,

When you asked the wrong question, you will never get the right answer!

Why should we trade cash flow with capital appreciation? We should get both at the same time. Do not invest in something that does not give you both: cash flow and capital appreciation.

This is the same in the case of buying the house that you live in.

KlangFool
Agreed. In general the question "cash flow or appreciation" doesn't even make any sense. I wonder what the person who is saying that actually means by it.

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pepperz
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Re: Cash Flow vs Appreciation - Same thing?

Post by pepperz » Mon Apr 22, 2019 8:58 am

When you advocate for both (cash flow and appreciation), is the 2% dividend yield of a total stock index fund acceptable “cash flow” to you?

To me it’s negligible unless you’ve hit your retirement portfolio goal.
dbr wrote:
Sun Apr 21, 2019 2:22 pm
KlangFool wrote:
Sun Apr 21, 2019 1:42 pm
OP,

When you asked the wrong question, you will never get the right answer!

Why should we trade cash flow with capital appreciation? We should get both at the same time. Do not invest in something that does not give you both: cash flow and capital appreciation.

This is the same in the case of buying the house that you live in.

KlangFool
Agreed. In general the question "cash flow or appreciation" doesn't even make any sense. I wonder what the person who is saying that actually means by it.

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pepperz
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Re: Cash Flow vs Appreciation - Same thing?

Post by pepperz » Mon Apr 22, 2019 9:01 am

It sounds like the consensus here is that dividend payments are the “cash flow” equivalent to REI.

Now my next question- being that the stock index funds preached here pay such low dividends (which to me means you need to have hit your goal retirement number befor ‘cashing those dividend checks’)...

Are there other funds that pay higher dividends which fit the Bogleheads philosophy?

dbr
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Re: Cash Flow vs Appreciation - Same thing?

Post by dbr » Mon Apr 22, 2019 9:03 am

pepperz wrote:
Mon Apr 22, 2019 8:58 am
When you advocate for both (cash flow and appreciation), is the 2% dividend yield of a total stock index fund acceptable “cash flow” to you?

To me it’s negligible unless you’ve hit your retirement portfolio goal.

Setting cash flow of a portfolio at the level of dividends paid is a misunderstanding of how to use a portfolio for income. The issue has been discussed here so many time there is no point in adding to it.

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pepperz
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Re: Cash Flow vs Appreciation - Same thing?

Post by pepperz » Mon Apr 22, 2019 9:24 am

Thank you, dbr. Funny enough, considering this brings me back to my original question... is there a difference between paying yourself via dividends vs selling stocks that have appreciated?

Or are they the same in the end but one emotionally feels better?
dbr wrote:
Mon Apr 22, 2019 9:03 am
pepperz wrote:
Mon Apr 22, 2019 8:58 am
When you advocate for both (cash flow and appreciation), is the 2% dividend yield of a total stock index fund acceptable “cash flow” to you?

To me it’s negligible unless you’ve hit your retirement portfolio goal.

Setting cash flow of a portfolio at the level of dividends paid is a misunderstanding of how to use a portfolio for income. The issue has been discussed here so many time there is no point in adding to it.

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Re: Cash Flow vs Appreciation - Same thing?

Post by KlangFool » Mon Apr 22, 2019 9:27 am

pepperz wrote:
Mon Apr 22, 2019 9:24 am
Thank you, dbr. Funny enough, considering this brings me back to my original question... is there a difference between paying yourself via dividends vs selling stocks that have appreciated?

Or are they the same in the end but one emotionally feels better?
dbr wrote:
Mon Apr 22, 2019 9:03 am
pepperz wrote:
Mon Apr 22, 2019 8:58 am
When you advocate for both (cash flow and appreciation), is the 2% dividend yield of a total stock index fund acceptable “cash flow” to you?

To me it’s negligible unless you’ve hit your retirement portfolio goal.

Setting cash flow of a portfolio at the level of dividends paid is a misunderstanding of how to use a portfolio for income. The issue has been discussed here so many time there is no point in adding to it.
pepperz,

<<Or are they the same in the end but one emotionally feels better?>>

Correct.

KlangFool

dbr
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Re: Cash Flow vs Appreciation - Same thing?

Post by dbr » Mon Apr 22, 2019 9:28 am

pepperz wrote:
Mon Apr 22, 2019 9:24 am
Thank you, dbr. Funny enough, considering this brings me back to my original question... is there a difference between paying yourself via dividends vs selling stocks that have appreciated?

Or are they the same in the end but one emotionally feels better?

You can read all about it here: https://www.google.com/search?sitesearc ... +investing

Note that the stocks do not have to have appreciated for the system to work. I think it feels good emotionally for anyone to know that they have saved money and now they get to spend it.

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Re: Cash Flow vs Appreciation - Same thing?

Post by 22twain » Mon Apr 22, 2019 10:29 am

pepperz wrote:
Mon Apr 22, 2019 9:24 am
Thank you, dbr. Funny enough, considering this brings me back to my original question... is there a difference between paying yourself via dividends vs selling stocks that have appreciated?

Or are they the same in the end but one emotionally feels better?
They are basically the same in the end. See this Morningstar growth chart that compares Vanguard High Dividend Yield Index Admiral (VHYAX) with Vanguard Total Stock Market Index Admiral (VTSAX). Each starts at $10K, and all dividends are reinvested.

VHYAX (blue) versus VTSAX (orange)

I'm retired, and I personally have no problem with collecting dividends by turning off reinvestment, then selling shares occasionally to cover the rest of my spending needs. However, for many people dividends feel better emotionally.
My investing princiPLEs do not include absolutely preserving princiPAL.

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