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Liquid Investors Should Increase Real Estate Allocation Now

August 20, 2009
George Heery Founding Partner

George Heery Founding Partner

Submitted by George Heery, Founding Partner

Real Estate investors take a variety of risks and have a variety of advantages. The illiquidity risk associated with real estate and how leverage increases the volatility of this risk is keeping many otherwise liquid investors out of the market. Investors’ fears are rational and amplified by the current market conditions. A recent estimate by Deutsche Bank predicts that by the 1st Quarter of 2011, 48% of homeowner/mortgagors in the United States might be under water. With negative equity pervasive, it seems implausible the National Association of Realtors is right that prices will bottom out in early 2011. Heery Brothers will outline how asset allocation to cash, stocks and fixed income instruments can work in consort with prudent direct ownership of investment property. The net result can be less risk and less volatility with comparable or better returns. It is clear that pricing is favorable and an over correction is likely over the next 6 to 12 months. Don’t wait for this excellent blend of a low cost of capital and low prices to lose its elixir.

Let’s first look at a unique situation in public equity markets. We have significantly reconciled residential real estate values. Legitimate fears that commercial real estate values have not made their full adjustment persist. Wall Street seems to have put on the back burner their marked-to-market tantrum over commercial real estate. Concerns over commercial real estate performance and other factors may reveal the current rally in equity markets as a bear market rally. Many market makers assert equity markets are over-bought and adjustment to prices could be at hand this fall. It sounds vaguely familiar that real estate finance and macroeconomic concerns can do a real number on the market indices when earnings do not support prices.

So, is real estate going to become a favored asset class? Well maybe not favored, but a good allocation for a liquid and balanced portfolio. If bond yields don’t appeal, stock prices fall and cash yields are lousy, why not put everything you got into real estate? Wrong, but increased allocations to real estate while maintaining a balanced investment portfolio including cash is now prudent. In other words, we think now there is going to be a good alignment of interests to maximize investor returns through real estate investment. Modern portfolio theory takes the returns, volatilities, and correlations of an assortment of assets and mixes them in systematic proportions to produce a portfolio that, in theory, provides the optimum return per unit of risk or volatility. So while maintaining cash, fixed income instruments and stocks, buy real estate. The deductibility of interest, the deductibility of loan points and the effect of cost recovery (aka depreciation) are major reasons to own real estate.

Never use this model to get addicted to cheap money and interest rate deductibility. A moderate amount of leverage can still have advantages whilst mitigating volatility and illiquidity risk. In fact, do not buy investment real estate if you have serious concerns about personal liquidity. The below table compares a portfolio without real estate to a portfolio with real estate. Which would you prefer? We would be delighted to discuss with listing and buying opportunities. Please contact Heery Brothers at 404 974 4378.

Summary Table of Portfolio for a 40 Year Old with $5 to $10 Million in 36% Tax Bracket click here.

Portfolio w/o Real Estate

Portfolio w/Real Estate

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One comment

  1. […] Real Estate investors take a variety of risks and have a variety of advantages. The illiquidity risk associated with real estate and how leverage increases the volatility of this risk is keeping many otherwise liquid investors out of …Next Page […]



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