Why Adding Real Estate Now Makes Sense

November 06, 2019

Late in the economic cycle, income-generating investments are viewed as an attractive buffer against stock market volatility. Real estate can be an income- generating option that has the potential to be a strong investment when held long-term. While not immune to the risks associated with economic downturns, adding real estate investments to a portfolio of diversified stock and bond assets can help manage a portfolio’s overall risk. Real estate values do not tend to move in a highly correlated manner with U.S. stocks, thus potentially reducing risk and smoothing overall portfolio returns during periods of stock market volatility. 

Some investors feel that they have “enough real estate” by owning their primary residence, particularly in Southern California with the high cost of real estate. While single family homes are typically solid long-term assets, they are relatively illiquid, and when owner occupied, can’t be easily used as a source of funds. Purchasing a rental home or a small apartment complex (e.g. triplex) can be a smart way of diversifying, but is often a concentrated bet on one property, and the cost is prohibitive for many investors. Projected cash flows on investment properties often look attractive initially but acting as a landlord can be costly and time intensive. These landlord hassles can be avoided by hiring a property manager, but this additional cost erodes investment returns.

Investing in different types of real estate, such as multifamily properties, commercial properties, or Real Estate Investment Trusts (REITs), can avoid “putting all your eggs in one basket” as Cervantes’ character Don Quixote famously opined. Unfortunately, the price of office buildings, multi-family residences and commercial/industrial buildings exceeds most investors’ budgets and can make this direct investment approach unrealistic.

Fortunately, there are several options apart from direct investments in real estate, including REITs and mutual funds. REITs are professionally run, liquid investment pools that provide diversified access to many property types, including office buildings, commercial buildings, shopping centers, or apartment buildings. Some REITs are focused on one property type, and many are publicly traded, offering liquidity like a mutual fund. Real estate mutual funds invest in REITs and real estate operating companies, resulting in even broader asset selection than a typical REIT, making it an attractive option for private investors.

Many clients will see real estate investments recently added to their portfolios, for the income and return potential cited above. As always, please contact us if you have any questions.