Winterizing Retirment in a Recession

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Last week I was having a conversation with my dad about retirement. Like most people, the majority of his retirement investments are done via his 401k. I came away from that conversation thinking, “If I was in his position what would I be doing right now.” Taking into account down international markets, shifts in leading housing markets like Dallas, and the current trade wars, being ready for a recession is the obvious answer.

The European, South American, Chinese, and Mexican economies are all currently in an economic slowdown or recession. In Europe, the UK’s growth is stagnant. Britain ‘s economy contracted 0.2% for the second quarter after a minimal 0.5% advance in the year’s first period. The German economy, which is heavily dependant on automotive exports, is also slowing down due to an international slump in demand. Italy has been in a recession since 2018 and is sitting at about 30% youth unemployment. Mexico, America’s third largest trading partner, is similarly dealing with its second consecutive down quarter.

All of that begs the question, is the Trade War with China the straw that breaks the camel's back? No matter your political persuasion, we can all see the swings in America’s stock market every time new news is released on its happenings and the billions in subsidies doled out by the United States just to keep the agriculture industry above water. China has long been a leader of global economic growth, but is slowing to a near 30-year low of 6.2% in 2019 despite the Chinese government's quantitative easing. Many economists predict that economic growth in China could slow to 4% as their economy continues to mature. Central bankers have been hoping that Chinese fueled growth would justify the levels financial assets in the U.S. have reached, with stock and bond markets pushing records. But with China’s maturing economy causing a slowing of global growth financial assets are creating a bubble. When the market finally recognizes that low interest rates are not fueled by growth, be prepared for that bubble to burst.

Speaking of bubbles, let’s not forget about the booming real estate market America has had the last 5 or so years. Housing markets across the country have experienced tremendous growth. Most reaching or exceeding the prices prior to the collapse of the market in 2008. That combined with low inventory and low interest rates have driven a seller’s market. Recently however, leading markets have been experiencing a shift. Dallas is a perfect example. As of January 2019, 78.9% of all ZIP codes in Dallas have shown signs of shifting in favor of buyers, according to Trulia. The number of houses on the market has also gone up 24% with the number of sales down 3% and prices only up 1% from the same time in 2018.

So with all these indicators of a pending recession, how does someone planning to retire in the next three to five years mitigate losses and stay on track? The long and short answer is a smart investment in multifamily property. As returns in the market slow or turn into losses, rental properties continue to cash flow, often offering 10 to 15% cash on cash returns. Then, when the market rebounds, you have the potential to sell the property and liquidate your investment or carry the note and act as a bank for a new buyer, making your money on the interest they pay.

I'm 58 and have built my retirement plan around multifamily syndication investing.  I believe that with the right deals, there is no place safer and certainly nothing can touch it for income.  I watched my parents have to withdraw from their IRAs to live when the market was down, and whatever wealth they had was decimated.  My only regret in life is that I didn't know about multifamily passive investing when they were alive.  I could have really helped them.

My father did exactly that & when he passed my mother had a passive income of $42k/yr plus her own pension until she passed at 90. She travelled the world on his foresight.

@Sarah Sparks there's tons of resources here on BP. There's also tons of podcasts, books and blogs dedicated to syndication. I would recommend attending some events and listening to podcasts. There are plenty of great people here on BP that will answer questions too. I'm happy to help if you have any other questions. 

Taylor, you might be over analysing this. What is a recession? How much does a recession matter?

If you buy a property that is 10% below market and a recession happens, will you feel any impact?

I have owned properties for decades. I can not remember much about any impact from recessions. If the loan continues to be serviced and the property continues to generate an income, why do I care about the value of something I have no intention to sell? Like people who watch the stock market each day. Unless they were going to transact, why do the daily prices matter. Even worse is when they focus on the Dow index and yet they do not own any of the companies in the index.

BTW, I am an investor in the UK and in the USA. While the UK has a correction for 1 quarter, it does not matter greatly to the long term investors. What might matter is the political situation, the currency's value and similar. 

When the 'Great Recession' happened, something like 10% were unemployed. That means that 90% of the folks still got out of bed and went to work. We had 90% employment. 

Yes, the statistics are more subtle than I just implied. Still, be careful about over preparing for a recession. Or, should I be saying Winter is coming'?

@Tylor Billings I agree with you that multifamily is a good vehicle to park your money in without having to worry about economic forces that aren't controllable under your power. There's one true fact tho, as people are downsizing they are usually downsizing to apartments. We specifically like the C & B class apartment community's in either B or A areas, where we have the opportunity reposition up. Someone will always need a roof over their heads.

Thanks for the feedback everyone. 

@John Corey I think you may have misunderstood what I was saying. You are 100% right. As long as the property is cash flowing and you do not plan to sell the property is a great investment in a recession. I am talking about shifting retirement funds from traditional financial assets, stocks and bonds, into real estate if you plan to retire during the next recession. The reason being that when a recession hits it could be big or small long or short we just don't know. But looking at recent recessions there is the potential of losing 20-50% or more of your investment in say your 401k. That loss is a major impact to potential cash flow that you would not see with a property. It's great to get some insight from the other side of the pond, thanks!

IMO, any equity investment (real estate or stock) is a riskier investment than I would like to have in retirement. Lower risk and leverage, institutional grade real estate may be okay. I don't want to have to rely on the earnings at that stage of life...just capital preservation.

So you "winterize" your retirement by buying multifamily real estate.    I own multi-family syndications, but I dont know that I would recommend them for retirement.

- there are very few "Core" deals out there, almost everything is "Value Add" or "Opportunity" which are much higher risk. The point of retirement investing is preserve principle. Maybe something in the NNN space, but you specifically mentioned multifamily.

- Given we are at the end of the cycle, cap rates on multifamily especially are very compressed. When the recession hits they will expand and your investment will instantly be worth less than you paid even if you hold-steady or improve rents. If Cap rates go from 4% to 6% on a 100,000 NOI building, that reduces the value of the building $900,000 (2.5 to 1.6 mil). That is not unrealistic in a recession cap rates could go much lower.

- Syndications or direct investment are very illiquid, you cant get out fast.   If you have need of the money (health scare) you cant easily liquidate.

I am not a retirement planner but I would think a mix of higher rated bonds with some dividend stocks would be a much safer investment if you are in retirement.    Now if you are 20 years out, like me, it is much different math.   The risk/reward ratio makes much more sense.  

@Tylor Billings if I was a couple years away from retirement I would not be buying rental real estate. Talk about not being passive. Syndications are illiquid and in retirement that can be very bad if you have a large expense (healthcare related for example).

I would stop talking about a recession. It may come sometime soon or it may not. Most people have no idea and can’t predict it. If you are nearing retirement I would allocate more (say 50 percent) of the portfolio to bonds.

@John Nachtigall I should have read your comment before I commented. I agree with everything you just said. Syndications and out of state rental property while nearing retirement is a bad idea for most people unless that money you put in those things I’d say 10 percent or less of your portfolio value

@Holly Williams stated a perspective that aligns closely to mine, on this topic. I wish I'd found LP syndication investing 15 years ago. Hindsight, 20/20.

I'll share a quick, recent story I heard... related to the one Holly shared:

3 weeks ago, I shared a Lyft with a friendly, real estate-savvy part-time retiree. He told me that he and his wife lost 60% of their nest egg just as they entered retirement years. Their nest egg was held almost entirely in stocks. He drives a Lyft now, because he has to. He said they aren't in dire straights or desperate for the income, but it's a fundamentally different version of their 'golden years' than they had originally planned.

The Lyft driver proactively said that if he could go back in time, he would have invested his nest egg primarily in real estate, in stead of stock. At the end of the ride, he asked for a stack of my business cards, "so he can give it out to [his] business passengers in suits who think they have it all figured out." I obliged. [end of story]

Folks approaching retirement can invest in assets that remain whole while generating income to live off, simultaneously. Aka - real estate.

Note: I still believe in diversification and do hold a % of stocks in my own portfolio, but I have a ways to go before retirement age.

@Tylor Billings I think the key to weathering any economic down turn is liquidity. Usually when a business fails it is because a drop in income prevents their ability to make debt payments. That can absolutely happen to someone who owns rental property.

It is interesting that there have been several posts lately about pending recession. In every case people analyze the future, with assumptions that the next recession will have similar characteristics as the 2008 crash. There is a danger in viewing future events based on most recent events. Recency bias causes you latch on to recent memories, but that makes you blind to other possible outcomes. A stock market and housing crash is obvious based on the last crash, which actually makes it less likely. Everyone is saying "run towards multifamily, it is safe" so that seems safe. History shows us the "sure thing" is usually where you find risk. What if multifamily is actually where the next problem exists? Hear me out. 

You stated, "The reason being that when a recession hits it could be big or small long or short we just don't know. But looking at recent recessions there is the potential of losing 20-50% or more of your investment in say your 401k." Things to consider:

1. In the last recession, it was a 35% market drop overall. Of course it depended on what you were invested in, so I am talking S&P 500 averages. That was the worst stock market drop since the great depression 80 years before. It is hardly fair to say it is common.

2. Between the great depression and the great recession, there were many recessions. Half of the recessions saw the stock market come out positive with gains and half had loss, some very moderate.

3. There is only two times in history that the stock market dropped during a recession and was down again one year later. That was in 1937-1938 and in 2001-2002. Every other recession either had double digit growth during the recession or the year after the recession. The bigger the fall, the bigger the rebound. 

My point is that stock market crashes may seem obvious based on 2008 events, but looking back in history, it is not what happens the majority of the time. The only thing history has show us is that a stock market crash is a guaranteed opportunity to make money. Same with housing price crashes, each drop is always followed by a rebound. In many cases housing doesn't even drop during a recession. The events of 2008 where unique and due to heightened awareness of the events that lead to the crash, it makes it the less likely outcome of the next recession. That means something else is more likely.

This is where multifamily gains my attention. Everyone is saying, cash out your 401k and run to real estate, specifically multi family. The last few years have seen a major increase in syndication, which means more money than ever chasing larger multifamily. The other interesting trend is towards value add "flipping" of multifamily. Lots of properties built in the 1960's through 1980's have been purchased and renovated. Most where largely untouched properties for 30-50+ years. So you have people renovating, then raising rents and selling for a profit. Much of the money made is in renovating, forcing appreciation and selling. But for every sale there is a BUYER. The buyer didn't get a deal (the seller is the one who renovated and forced appreciation). So the new owner is assuming cash flow will go up and the property will appreciate. How is it logical that a property gets renovated after 30 years, you force appreciation and that the new owner can do the same in short order?

There is a multifamily frenzy. Money flows from the stock market to multifamily and that forces up demand, which forces up prices. Is the new bubble in multifamily? Here is some negative factors for multifamily:

1. Rent increases are outpacing wage increases

2. I have watched multifamily for years and properties are selling within days of listing - used to be months. 

3. Larger multi family are changing hands too frequently. Someone buys, forces rents up, sells two years later. 

4. The rate of multifamily value increase is faster than rents are appreciating. Isn't that speculation?

I could be wrong and there is a good chance I am. That is because nobody can predict the future. Mainly because outcomes are not obvious. But I also know that using the 2008 crash to model the next recession is less likely. There is an old saying, if everyone is buying, I say sell sell sell. If everyone is selling, I say buy buy buy. There is a solid case to be had that the contrarian investment is often the one that returns the best. The question is what investment is under performing today based on future prospect? I don't think that is multifamily. In fact arguably prices are the highest they have ever been by historic standards.

(Just to clarify, I am not saying move money from rental property to the stock market. I am just saying, never close your mind to alternate investment opportunities.)

I am counting on residential MF to keep me from having to become a cashier at walmart. I would not know how to operate those registers anyway-and untrainable. As long as you have enough cash or access to capital, so you are not forced to sell, MF is a very safe bet IMO. Office and commercial space has caused investors to lose serious money during protracted down turns; people however will always need a safe place to live.

I too have money in mutual funds-like Vanguard and Fisher; but by the time you pay management fees they really don't offer the kinds of returns available in MF, and they will suffer during bear markets.

So if you are thinking there may be a contraction, and we always should be prepared, don't get too leveraged and keep enough cash accessible to get you through tougher times.

My goal is to be bringing in more than enough cash flow to cover all of my costs in retirement. Any excess will be reinvested. In a desperate scenario I would liquidate holdings as needed. Recessions are the best times to be a buyer, and the worst times to be a seller. I want to be prepared to be a buyer, not acting out of fear and selling or taking too defensive of a position.

@Tylor Billings Very well thought out post Tylor. I came to the same conclusion you did many years ago. Most of my investment portfolio is in value-add multi-family properties. I am a cash flow investor at heart. IF the equity is there one day, great! If not, that's fine. I enjoy monthly passive income, that has made all the difference in my life. Best of luck! PS My Dad invested with me on a couple of multifamily deals as well. 

Beyond diversification, If you want to "winterize" your retirement, one thing to look at is asset protection. Diversification is great to spread out investment risk and loss, but won't do anything to protect that diversified portfolio. So as you diversify, also be proactive and protect it. And if you are a CA resident, one method I really like that you can take advantage of as a CA resident is a private retirement plan trust. If your primary purpose / intent is to protect these assets "for your retirement," then the PRT® could be for you. You can protect much of the wealth you have worked so hard to build so that it will be there for you in retirement. Under California State Statute CCP 704.115, a PRT® exempts all retirement assets from creditors, including bankruptcies and lawsuits. What happens in recessions is substantially more lawsuits and shark looking for deep pockets. Cash, stocks, business profits, savings, bonds, gold, real estate, notes, even corporate stock and private business interests can all be placed safely into your PRT® for your retirement planning, and receive the secondary exemption protection. PRT® has no funding limit as long as the assets meet the retirement requirements, and no age limit for deductions, so no 59.5 age. I think you have to both diversify and protect.