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How to Prepare Your Portfolio for a Maturing Bull Market

Aka, If the Stock Market Crashes Here’s What You’ll Want to be Holding

How will you feel if the stock market undergoes a significant correction? If you are like many investors and you have a high percentage of your assets in public equities — then a big drop in stock prices is going to be uncomfortable. For years now equities have enjoyed strong and steady growth. But recent volatility — especially in tech stocks — is a reminder that the market doesn’t move in only one direction. On a more ominous note, a new report by GoldmanSachs warns that a big drawdown is imminent. So in the face of a retreating stock market, where can investors turn to for stability and growth?

“It’s amazing how many people tend to overlook the investment potential of this asset.” — Investopedia

Diversify. Diversify. Diversify. We’ve all heard this many times. Yet most investors typically hold just two asset classes: Stocks and Bonds. In this scenario, what often passes for diversification is merely diversification within the same asset: i.e. holding equities international markets or corporate bond along with municipals. Yet there is a third major asset class that most investors miss; and that’s commercial multifamily real estate. This often overlooked opportunity can provide investors greater diversification and also deliver strong returns even in the face of a big drop in stock prices. Most investors’ real estate holdings are limited to their personal residence. The real estate I’m talking about is different. Commercial multifamily real estate is industry-speak for large apartment complexes. Unlike your home, multifamily real estate is a true investment.

Multifamily real estate offers investors a number of attractive benefits including a real annual stream of income, favorable tax treatment, and asset diversification.

Starting with this last point, a key aspect of real estate is that the returns are tied to rents and the net operating income of the property not to GDP or the prevailing mood on Wall Street. And even in situations when a deteriorating stock market is due to a drop in the economy; multifamily real estate can still perform well. In fact, during the 2009 housing crisis and great recession, multi-family real estate avoided much of the pain experienced in residential real estate. As detailed in a recent book The Perfect Investment [1], delinquencies for single family homes peaked in 2009 at 4%. At about the same time, delinquencies in multi-family peaked as well — but only at .04%. That’s 90% lower than than those of single-family homes. (By early 2015 this multifamily delinquencies dropped even further and were 98% lower than those of single family homes.)

Annual Income, Capital Gains and Tax Advantages

One of the most attractive aspects of multi-family real estate investments is that they can generate strong annual income — typically in the 6–10% range, which is paid quarterly. What’s more this income can be offset with depreciation, which means that in the short-term investors are often not paying taxes on these payouts. (Taxes are deferred until the property is sold).

In addition to annual income, there are a number of other advantages real estate offers investors — such as the opportunity for capital gains when the investment property is later sold. These gains are on top of the annual distributions and these additional returns can be tax advantaged as well. OpenPath Investments, a firm in which I have been a partner (since leaving Google in 2007), seeks to provide investors a total return on equity of 1.5-2.0X over a 5-year period which equates to a ~14–15% Internal Rate of Return. These kind of returns far exceed those of the US stocks, which over the last 10 years and historically have averaged just ~7%. Further, for a growth portfolio of mostly stocks, multifamily real estate can provide healthy diversification — away from equities, tech, and even the SF Bay and NYC areas.

One last point about commercial real estate is that these properties can be invested in passively through firms that specialize in acquiring and managing this type of asset. And of course partnering with the right real estate investment firm is key.

Where’s the best place to invest in 2018?

If you are concerned about a big drop in the stock market but still looking for greater returns than those offered by bonds then consider diversifying your assets with multifamily commercial real estate.

The Net-Net, when I look at the risk/reward for stocks and bonds in 2018, I don’t like what I see. For me, multifamily real estate offers a much more interesting opportunity for strong returns.

A couple other posts that I think you will like:

“My Next Google: A perspective from employee 75

“How Much Real Estate Should You Hold?”

Note: OpenPath investment opportunities are for accredited investors. I am not a CPA or professional financial advisor. All opinions are my own. I encourage you to consult your accountant to fully understand your individual tax situation.

[1] The Perfect Investment by Paul Moore was published in Aug 2016

[2] OpenPath Investments is a social impact real estate company that acquires multifamily housing in stable, growing, inventory constrained markets and then adds value to the properties — with an eye on the environment — while building community for the residents.

Written by

Investor, Partner, Advisor. First Google Advertising Exec (2000–07), ex-Chicagoan. Now at OpenPath Investments & FullCycle Climate Partners

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