What is the ideal asset allocation?

3 Replies

If you had a pot of money you have to invest that you needed to live off of for decades, how would you invest it? "Conventional wisdom", modern portfolio theory, and the typical asset allocation of high net worth individuals shows a balance between real estate, publicly traded stocks, private equity, and cash/fixed income.

How risky would it be to invest 100% in real estate? Could a prudent investor go all in on this asset class, assuming the investments were blended across the risk/return spectrum (i.e. some low LTV or debt free, some 1st lien loans, some higher LTV, etc)

I'm asking purely regarding a passive investing style, assuming no directly held real estate but rather only a syndication model as a LP. I'm also assuming one would still keep adequate cash on hand to cover emergencies and recessions where income may go down. 

Having equity, cash reserves, and money in other investments feels like the best course of action. Given the position of the market it would be terrible to invest 100% in real estate. If the market starts to drop in a recession (big scary word!) I assume all asset classes go down. In my opinion even if you balance across high/low LTV, SFR/ MULTI, passive/active RE investments doesn't mean you can escape untouched.

As someone with little experience I'm treading carefully over deals. I can't afford to overpay or make a big mistake.

Warren Buffett explains that diversification is a tool used by Wall Street sales people to sell products. He does not believe in diversification in the tradition sense. He feels you should put all your eggs in one basket and then watch the basket. To use your skills and intelligence to create more value than you would receive from a diversified portfolio. The logic of diversification is to reduce the risks by reducing the returns.

If you do not have the time to focus on the basket and create value through your focused attention, Warren suggests you use an index fund. All in and focus or completely out and let the index produce the returns without any effort and tiny overheads.

Stated another way, Warren thinks you can create 'alpha' which is the premium you receive because of your skills and judgment. Something that takes time to build. If you can not add value, why even try to compete? In that case, go with the index.

@Jason Powell

I am definitely in the camp of modern portfolio theory outside of my real estate investment. I do 50 / 50. 50% in the public markets. 50% in real estate. However, I used leverage on the real estate side, and I don't trade on margin in the public markets. My primary interest in real estate is the tax advantages, and also the fact that the market is still less 'efficient' than typical equity and bond markets. 

You'll get every possible opinion regarding allocation on this forum. The important thing is to choose a mix that gives you the right return / risk mix. The less sophisticated comments tend to focus on either return maximization or risk aversion, only. Both should be part of your analysis. Keeping the two in balance will allow you to sleep more soundly.

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