When investing long term, what is your end game? What’s the bottom line reality you wish to generate when all is said and done? Ask 100 people that question and, in my experience you’ll hear retirement as the answer at least 97 times. Let’s define retirement here as concentrated on income. Captain Obvious for sure, but it needed to be said.
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What are the Issues to be Addressed Along the Way?
Let’s first address the issue of cash flow vs capital growth. Which one is better? OK, that was a trick question. That’s akin to, ‘Which is better, a fastball or an off speed pitch?’ I dunno, who’s up? What inning is it? What’d you throw him last time up? What are the game circumstances? Are ya havin’ a good day on the mound? All that to illustrate that circumstances and timing have everything to do with whether or not cash flow or capital growth is the way to make things happen.
If you’re relatively far from retiring, cash flow ain’t your problem. Since you’re makin’ enough to pay the down payment and closing costs, you’re flush with cash flow. You need capital growth. It’s about timing, and the time you want maximum cash flow is in retirement, NOT now. All cash flow is is a yield on a pile of gold. The one with the most and biggest piles of gold wins. The yields are pretty much the same out there. But when X% is applied to a few million bucks the yield is considerably more in dollars than the dollars generated by less than half that. As you can see, this isn’t much more than simple arithmetic.
Taking Advantage of the Market.
The market dictates what you do, when you do it, how you do it, and just about everything else. I’ve violated that rule three times. I’ve lost three properties, the last in the early 80s. Do the math. Like Dad was fond of sayin’ to me, “Son, I love ya, and Lord knows you’re smarter than the average bear. But sometimes you are a sloooooow learner.” Ouch. Three times I forced the market to ‘my will’. Three times the market laughed at it crushed my spirit. I wasn’t that smart, nobody’s that smart. Take what the market gives you and say thanks on the way out. Violate this principle at your own risk. The only way you’ll escape will be via random luck.
Lower Price, Higher Cap Rate? OR . . . High Quality Location?
The unbridled confidence and enthusiasm of investors 10-30 years from retirement almost always turns to ‘woe is me’ regret and unintended consequences when location quality is compromised. I’ve seen pretty much every iteration, heard every excuse. There are folks in or nearing retirement in San Diego, for instance, who wish they’d paid more for the long term benefits of superior location. Instead, they face relatively high tenant turnover, lower net operating income(s) due to higher operating expenses, and the virus that kills slowly but surely, rampant functional obsolescence. I’ll put it in plainer English.
You’ll likely end up with what the dog left behind in the park. Welcome to the retirement you tried in vain to avoid.
When superior retirement cash flows are reviewed in retrospect, we learn it’s mostly about strategy.
What most think is a real estate investment strategy, is merely adherence to a broadly based concept. For example, buy and hold. Or, buy low, sell high, and always avoid paying taxes. There are a bunch of ’em. But the real strategies involve the fundamental understanding of all the ‘whys’ attached to their end game. Why invest in this rather than that market? Why buy now and not next year? Why use prudent leverage, or not, in particular scenarios? Why, why, why? Of course understanding multiple strategies is crucial. However, it’s the ability and experience to know what strategies apply to what scenarios, when to pull the trigger . . . or not.
But what really separates the wheat from the chaff is the capacity to combine strategies in order to produce superior results, often with better velocity.
Do the complete analysis while understanding any limitations you may have as an analyst.
So many times I’ve been surprised, big time, by the results of a truly objective and comprehensive analysis of a particular market or property. Same with choosing various loan options. Here’s a bet responsible for more free drinks and onion rings than I can remember. It’s a simple lesson about analysis and interest rates.
Cindy and Tim each buy the same duplex type properties, next door to each other. They’re practically clones of each other. They both get loans for $200,000 with fixed rates, 30 years, no balloon payment. The lone difference was that Cindy’s loan was for 5%, while Tim paid for a lower rate, 4%. They both added $2,000 a month to the loan payment. Which one paid off first?
Neither one. Both end up paid off in 77 months. Go figure. Do the analysis to the bitter end. Let the chips fall where they may. We may not like the answer, but it is what it is, regardless of our biased presumptions.
Forget Murphy, let’s talk about O’Toole
Back in the 1970s I brought my crystal ball to the shop for repairs. Still there. Regardless of what we’d like others to believe, we really can’t predict the wild cards in our economic/financial future. Yet, we all read/see/hear folks tellin’ us with unbridled confidence about the bull or bear market ahead of us. I’ll use myself as an example. I thought I was being pretty smart to abandon my hometown market of San Diego back in 2003. But let me tell you a couple secrets about that.
First, I didn’t leave cuz I smelled a huge bubble burst. I left cuz I couldn’t look intelligent investors in the eye and tell them the duplex they liked was actually worth 20+ times the annual gross scheduled income. (Not kiddin’ about that, as you can’t make up somethin’ that stoopid.) I was merely looking for a market(s) making more investment sense.
Second, and I’ve admitted this countless times, if we’re honest, I shoulda left that market at least a year or two earlier. I was too close to it. Lesson learned. A priceless lesson at that.
Murphy set us up by allowing almost four decades of a predictable script. Impressive appreciation followed by a rest, followed by more appreciation. Worked that way from 1975 ’til it didn’t.
O’Toole was the smart one. His reply to Murphy’s Law? “Murphy was an optimist.” In other words, man plans, God laughs. We can’t know the future to the extent we’d like.
Back to your end game.
As long as we understand our lack of control over national/regional/local economics, and the fact we can only control what we control, our end games become at least somewhat easier to attain. Add to that knowledge the understanding of available strategies and solid analysis, and the odds favoring your ultimate success increase significantly.
I know, it all seems so Captain Obvious. If that was true though, there’d be a whole lot more successful long term real estate investors. The fundamentals are invaluable — ignore them at your peril.
Photo: Waldo Jaquith