Can real estate substitute for bonds in asset allocation?

[Bruceski44]

If the answer is, "Live with the fact that it fits your needs and be done with it" (as Texas Proud posted previously) - i.e. I do *not* need to transform my AA in order to hold a lot of bonds - then, that means that RE is in some sense a "substitute" for bonds, at least in my own portfolio (which is the portfolio I was asking about in my OP).

I can relate. My own portfolio is 47% RE, 44% stocks and bonds, 5% bank cash and 5% P2P loans. (not exactly 100% due to rounding errors). Of the stocks and bonds, 10% is bonds and 8% is investable cash.

I've considered adding more bonds, but hesitate for these reasons:
1. Rising interest rates compel me to use short-duration bonds with pathetic yields to avoid price drops.
2. Rising equities compel me to stay fully invested.
3. My RE portfolio generates substantial monthly income. I retired a year ago and haven't needed to draw from my tax-deferred accounts yet. I expect to hold off until after I turn 59.5 late next year.
4. My investable cash cushion will provide for my income needs until my FRA (66 and 10) thanks to dividend income.
5. Two of my RE investments have not started paying regular distributions yet. They are more growth-oriented, but I do expect them to supplement my income at some point.
6. As I wrote previously, my RE portfolio is designed to be as safe as possible.

Perhaps if the market cools off I will reallocate, but am currently looking at preferred stocks instead of bonds. Once we get past the next recession, I will sell my bonds and invest the proceeds into safe, dividend-paying equities and be done. NOTE: I am not trying to time the market, but anyone can see we are near the top. The same goes for RE.

 

[Senator]

OP asked if RE was a substitute for bonds, not can I substitute RE for bonds...

two very different questions even though they sound exactly the same...

Great observation. Most FAs answer the question for the general public, not for a person's individual circumstance.

An FA wants to be as generic as possible, then they can say (when they turn out to be failures) "That is what all the smart people recommend".

 

[Clone]

This feels to me like several ongoing debates. All somewhat related, yet distinct.

Asset allocation- how to distribute your investments for the purpose of balancing risk, return, and the ability to ride out the down times.

Assets- what contributes to your net worth. Most of this thread has been dealing with types of assets.

Sources of income- where is the money coming from? Social Security payments, pensions, annuities, dividends, real estate income, sale of assets, etc.

Where the discussion goes off the rails is when we try to use terms from a different category. How do I consider a pension when discussing net worth? Is real estate income like bond income (or can I sub RE for bonds). My portfolio isn't very large, but I have paid for health care, a pension, SS, and RE income that covers 145% of my projected yearly spend- Do I still need 20 times my last year's earnings in investments?

Rather than try to compare your situation against some 'standard retirement configuration' or others on this board, we need to develop the confidence to assess our own situation and make our own decisions. A lot of the good information on this board can be confusing until you sort out what applies to you and what is not relevant.

 

[haha]

OH... one other thing... RE has tax advantages that are of no value to me anymore....

IOW, I pay zero income tax.... taking depreciation (required) would only mean I would have to pay recapture tax when sold... I do not have that problem with a bond..

How do you get a middle class family income and pay no tax?

I have a modest income, take advantage of whatever tax benefits are available to me, and still pay a minimum of $5-$6 thousand in federal tax every year.

And this is less than I paid until recently.

Ha

 

[pb4uski]

The secret to paying zero tax on a middle class income is tax-preferenced income... qualified dividends and LTCG since they are taxed at 0% of your taxable income is under a certain amount.

Under the new law in 2018 a married couple filing jointly with standard deduction could have $101,200 of income and pay $0 IF that $101,400 was $77,200 of qualified dividends and LTCG and $24,000 of ordinary income (dividends, pensions, taxable SS, etc).

The above is for a couple and assumes standard deduction. For a single the amounts would be halved.

Under existing law in 2017 the amounts would be $20,800 of ordinary income and $75,900 of preferenced income for a married couple taking standard deduction for a total of $96,700.

That is why tax efficient placement of investments is so important to many of us.

 

[Senator]

How do you get a middle class family income and pay no tax?

I have a modest income, take advantage of whatever tax benefits are available to me, and still pay a minimum of $5-$6 thousand in federal tax every year.

And this is less than I paid until recently.

Ha

I take excess of $60K in depreciation. That $60K is essentially tax free, until I sell. Add in the standard deductions, and you have another bunch of deductions/exemptions, $6,300 + $4,050, and you have almost $70K tax free.

Factor in a few business expenses that I likely would have had anyway, and it's a bit more.

And I still pay over $20K in federal income taxes....

 

[Luck_Club]

This feels to me like several ongoing debates. All somewhat related, yet distinct.

Asset allocation- how to distribute your investments for the purpose of balancing risk, return, and the ability to ride out the down times.

Assets- what contributes to your net worth. Most of this thread has been dealing with types of assets.

Sources of income- where is the money coming from? Social Security payments, pensions, annuities, dividends, real estate income, sale of assets, etc.

Where the discussion goes off the rails is when we try to use terms from a different category. How do I consider a pension when discussing net worth? Is real estate income like bond income (or can I sub RE for bonds). My portfolio isn't very large, but I have paid for health care, a pension, SS, and RE income that covers 145% of my projected yearly spend- Do I still need 20 times my last year's earnings in investments?

Rather than try to compare your situation against some 'standard retirement configuration' or others on this board, we need to develop the confidence to assess our own situation and make our own decisions. A lot of the good information on this board can be confusing until you sort out what applies to you and what is not relevant.

Great Point. I know I'm guilty of pounding my Real Estate Income in the square hole. It has worked for me, and I believe there is room for others to participate in what has worked for me. Hence I want to teach the benefits and strategies I have learned to mitigate risk, and maximize reward.

I wish others would do the same. Teach us how you get those 10% returns from marketable securities. How do you know for certain you have bought the home depot and not the K-mart, JC Penny, or thousands of others that went to zero. Especially on a passive, buy it and forget it basis.

How can you sort through all the stocks, bonds & Mutual funds, to avoid the dogs and be left with the jems that are working for you?

I often hear touted XYZ etf is great nobrainer. Doubting Thomas here says WHY?
Why didn't you say how you came to pick that ETF over the 100's of others advertising the same thing?
Why are you certain that ETF won't take a proportional market cut during a correction, thus wiping out your gains?

When it comes to marketable securities I've picked a few winners, but I've bought my share of in the immortal words of Tommy Boy "If you want me to take a dump in a box and mark it guaranteed I got time." Most of my winners I contribute to luck, since I was looking at the same stats on both, PE, Dividend yield, Book Value etc.

 

[Senator]

I wish others would do the same. Teach us how you get those 10% returns from marketable securities. How do you know for certain you have bought the home depot and not the K-mart, JC Penny, or thousands of others that went to zero. Especially on a passive, buy it and forget it basis.

How can you sort through all the stocks, bonds & Mutual funds, to avoid the dogs and be left with the jems that are working for you?

I often hear touted XYZ etf is great nobrainer. Doubting Thomas here says WHY?
Why didn't you say how you came to pick that ETF over the 100's of others advertising the same thing?
Why are you certain that ETF won't take a proportional market cut during a correction, thus wiping out your gains?

When it comes to marketable securities I've picked a few winners, but I've bought my share of in the immortal words of Tommy Boy "If you want me to take a dump in a box and mark it guaranteed I got time." Most of my winners I contribute to luck, since I was looking at the same stats on both, PE, Dividend yield, Book Value etc.

I just do a lazy man's portfolio. Returns greater than 5 years ago I had a lot of cash ready to pounce on real estate. I have beaten the S&P or come close to it with just ETFs IVV, IVW, IWM, QQQ, DVY, HDV. I have beaten the MSCI World Index handily for 10+ years, which many (Fisher Investments) say is the gold standard.

No trading, no reallocation, no capital gains taxes. Sleeping well at night.

 

[hesperus]

I wish others would do the same. Teach us how you get those 10% returns from marketable securities. How do you know for certain you have bought the home depot and not the K-mart, JC Penny, or thousands of others that went to zero. Especially on a passive, buy it and forget it basis.

I don't know, I kinda like the $18-20K month passive dividend/interest income we get from our portfolio, without having to juggle rental properties.
I could liquidate & plow half our eight figure portfolio into real estate and really shoot for higher income, but I don't want to manage rentals and take on that effort. I generally keep our real estate for personal use, and this actually does work toward my allocation goals. I have been there and done that with owning rentals. It's still work.

But Kudos to you for finding a way to get out of the mega corp world and blaze your own path.

 

[Luck_Club]

I don't know, I kinda like the $18-20K month passive dividend/interest income we get from our portfolio, without having to juggle rental properties.
I could liquidate & plow half our eight figure portfolio into real estate and really shoot for higher income, but I don't want to manage rentals and take on that effort. I generally keep our real estate for personal use, and this actually does work toward my allocation goals. I have been there and done that with owning rentals. It's still work.

But Kudos to you for finding a way to get out of the mega corp world and blaze your own path.

I'm not fully done, but close.

My life is great, can't complain one bit. I've been blessed with frugal genes, and a modest intellect. The combination of which leads to a very comfortable life.

I'd love to find path to "truly passive" marketable securities. However, 2.16% doesn't make it happen. When the portfolio is only $1-2 mill, which is typical for the board, not much skiing happening on $1,800 to $3,600 a month.

Yep if you goosed the return to say 6% you'd have $50K a month Not that $18-20K isn't great to have for clipping coupons.

I WOULD LIKE TO FIND THE SAFE 5-6% RETURN IN MARKETABLE SECURITIES, as I'm sure many would.

I guess I still have the accumulation mentality, since my spend rate is under $5K a month, but want much more a month just in case.

 

[Luck_Club]

I just do a lazy man's portfolio. Returns greater than 5 years ago I had a lot of cash ready to pounce on real estate. I have beaten the S&P or come close to it with just ETFs IVV, IVW, IWM, QQQ, DVY, HDV. I have beaten the MSCI World Index handily for 10+ years, which many (Fisher Investments) say is the gold standard.

No trading, no reallocation, no capital gains taxes. Sleeping well at night.

Duly impressed what made you choose those, and would they take a hit if the "market" took a pause of say 10%-30%?

I'm meeting with 2 professionals in January, which I imagine are going to propose a watered down bowl of mush picks that barely beat inflation in good times. I have a decent amount of capital to put to work, and need to find a good safe short term parking place. Currently in CD's, because I totally got PO at the broker and liquidated it all saying we would rebuild after the first of the year.

 

[pb4uski]

A couch potato portfolio of 70% Total Stock and 30% Total International Stock would have performed similarly.... per Portfolio Visualizer

YTD: 23.50%
3-year (Jan 2015-Nov 2017): 10.05%
5-year (Jan 2013-Nov 2017): 12.90%
10-year(Jan 2008-Nov 2017): 6.57%
Jan 1997-Nov 2017: 7.57%

Plus, these are for Investor class: Admiral class would be a little higher

 

[Senator]

Duly impressed what made you choose those, and would they take a hit if the "market" took a pause of say 10%-30%?

I'm meeting with 2 professionals in January, which I imagine are going to propose a watered down bowl of mush picks that barely beat inflation in good times. I have a decent amount of capital to put to work, and need to find a good safe short term parking place. Currently in CD's, because I totally got PO at the broker and liquidated it all saying we would rebuild after the first of the year.

Mostly random... I wanted index ETFs, and those are some f the major indexes. They are $0 commission at Fidelity. Also, some dividend aristocrats. They would likely follow the market in a 30% drop. That is where SS, Pensions, dividends and real estate income come in.

Maybe a dividend aristocrat ETF can substitute for a bond fund...

 

[Luck_Club]

Mostly random... I wanted index ETFs, and those are some f the major indexes. They are $0 commission at Fidelity. Also, some dividend aristocrats. They would likely follow the market in a 30% drop. That is where SS, Pensions, dividends and real estate income come in.

Maybe a dividend aristocrat ETF can substitute for a bond fund...

I've got a fidelity account, I'll give them a look.

 

[Doc0]

I looked at return and volatility and sdy returns 0.5 % more than spy wit nearly identical volatility. It's a stock

 

[pb4uski]

Doc, the subject had changed....

 

[Doc0]

Oh? what's the subject pb? I thought we were talking about substituting an aristocrat etf for a bond like it says in the message before mine

 

[pb4uski]

ok i guess that you got it ... your post was a bit cryptic.

 

[Doc0]

Thanks for the validation. Doesn't seem cryptic to me looks like a stock quacks like a stock...

 

[pb4uski]

What made you think that anyone thought that it wasn't a stock?

 

[Doc0]

Because the suggestion was it could sub for a bond. Bonds add portfolio diversity and tend to reduce volatility clearly sdy and spy are virtually identical except for a little more dividend in sdy

 

[brucethebroker]

As to the people who talk about buying cheap... well, there were a good number of people who were renting those houses and lost them.... I could say 'if I bought at the bottom of the market in 2009 I would make out like a bandit'.... but that is pure 20-20 hindsight... people were buying RE to rent in 2007 prior to it crashing... and lost everything they invested... maybe YOU didn't, but that does not mean there were not a lot of people who did... people who had a balanced portfolio lost value, but the bonds provided a cushion for them... the lost value, but not everything...


edit to delete link that did not work... see pb4uki's post who fixed it for me... thanks...

I have been buying and (as a broker) selling property for 30 plus years. I know plenty of people who lost money during the crash of 07/08 in RE, but they were either owner/occs of houses (not landlords), or "flippers". Rents held steady where I live in the Midwest. Mortgages were fixed. Property taxes actually deceased. I do not know a single landlord/investor who "lost everything"-because the rents continued to pour in. Lots of new renters in the market (who had owned homes and lost them). The landlords I know looked at the crash to buy homes cheap. They did not worry about paper values.

It seems to me that retirees who use a 4% or 3% withdrawal rate worry far more about market dips than landlords do about valuation. My valuations of RE don't matter to me. Only cash flow/rents matter. And in my 30 plus years of landlording, they have never decreased.

 

[Texas Proud]

I have been buying and (as a broker) selling property for 30 plus years. I know plenty of people who lost money during the crash of 07/08 in RE, but they were either owner/occs of houses (not landlords), or "flippers". Rents held steady where I live in the Midwest. Mortgages were fixed. Property taxes actually deceased. I do not know a single landlord/investor who "lost everything"-because the rents continued to pour in. Lots of new renters in the market (who had owned homes and lost them). The landlords I know looked at the crash to buy homes cheap. They did not worry about paper values.

It seems to me that retirees who use a 4% or 3% withdrawal rate worry far more about market dips than landlords do about valuation. My valuations of RE don't matter to me. Only cash flow/rents matter. And in my 30 plus years of landlording, they have never decreased.

I actually bought and sold a house during that time... and if you did not have a tenant it was almost impossible to get one... I looked at a number of houses that actually had 'tenants' that paid nothing but utilities to live in a house.... kinda shocked me... one couple said they had moved 3 times already... had to be able to move in a moments notice... I wanted to buy the house they were living in but could not come to terms as owner went BK... bank would not foreclose so the Gypsies (as we called them) lived there for 2 years... when it finally came to market their dog had ruined all the kitchen cabinets and floors and they had allowed a leak to keep going and it had mold in one wall... so I passed...

Also, rent levels were not enough to pay the mtg and taxes, so it was negative cash at that time for people who bought the previous year or two...


I also looked at rents when this was happening as I was thinking about renting my old house, but as I said they had dropped in my neighborhood... it was not worth it for me to rent...


Anybody know a site where you can look at historical rents for different cities or locations?

 

[Luck_Club]

I use craig's lists to gauge market rents, and advertise my apartments. Not sure how to get historical rents. Maybe Zillow.

https://www.craigslist.org/about/sites

 

[Senator]

I actually bought and sold a house during that time... and if you did not have a tenant it was almost impossible to get one... I looked at a number of houses that actually had 'tenants' that paid nothing but utilities to live in a house.... kinda shocked me... one couple said they had moved 3 times already... had to be able to move in a moments notice... I wanted to buy the house they were living in but could not come to terms as owner went BK... bank would not foreclose so the Gypsies (as we called them) lived there for 2 years... when it finally came to market their dog had ruined all the kitchen cabinets and floors and they had allowed a leak to keep going and it had mold in one wall... so I passed...

Also, rent levels were not enough to pay the mtg and taxes, so it was negative cash at that time for people who bought the previous year or two...

I also looked at rents when this was happening as I was thinking about renting my old house, but as I said they had dropped in my neighborhood... it was not worth it for me to rent...

Anybody know a site where you can look at historical rents for different cities or locations?

I bought a 4-plex every year from 2008 to 2012. Five total. All were rehabbed and rented before I bought the next one. Any landlord that cannot find a tenant needs to get out of the business, or learn quick. You can always increase demand by lowering price.

I use Craig's lists to gauge market rents, and advertise my apartments. Not sure how to get historical rents.

Craigs is a good indicator, but I do it a bit different. I generally rent 6-10 units per year, in various places. I start showing a place as soon as I get notice the existing tenant is vacating (45+ days before an actual vacancy), and plan to have it rented in 2-3 weeks, maximum.

I start a bit higher than I think the rent should be, and look for the number of inquires. If the volume is not what I expect after a week or so, I lower price. I have a tendency to get 50+ inquires on each opening, each week. I pre-screen, so I only show a place a few times before it gets rented.

If I am too high on the price, lower quality renters are the only ones I get to inquire or view the apartment. These are ones that are barely qualified, ore ones that think I will waive the rules. Good renters can go anywhere, they know value and will not pay more than a place is worth. Poor quality renters have to take a chance and see and apply for every thing.

If the tenant quality is not what I expect after a week again, I lower price again. $25 or so. It depends on how high I initially thought I was. Also what season we are headed into and how many other vacancies I have coming up. I have dropped by $100 a month already.

If I get 1-2 tenants, that I think were qualified (based on discussions of wages, occupation, credit score, etc.) and they do not rent, I lower price. Works every time.

My rents in 2014 to now are up considerably, 20%+. From ~2000 to 2013 or so, rents were pretty flat. My vacancy rate is sub 2%, most of which is planned.