What Kind of Investor Should You Become?

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Quite often, I’m asked to meet with folks who want to learn more about investing in notes or more about the note business in general. Although what I do today pertains primarily to the note business, many of the questions and concerns that are brought to me are very similar to those raised when investing in the residential or commercial real estate business.

Personally, I feel that there are two ways to approach the newbie investor.

The first approach, which I am not a very big fan of, is to silently yell, “Yippee, here’s a live one! I wonder how much cash he/she has and how I’m going to get my hands on it.” I’ve seen many people, who raise capital, take this type of approach, basically sending the message, “You need me, and I know more than you. So trust me, I’ll make you a lot of money.” In other words, let me give you a fish.

The second approach, of which I am a bigger fan, is to give the investor the opportunity to learn how to invest, whether it’s in real estate, notes, or anything else for that matter. Basically, let me teach you how to fish. And with this newly obtained information, the investor can then decide (and take responsibility for) his/her best investment decisions.

With this approach, I typically interview the investor to see what type of investor they are.

Are You a Passive or Active Investor?

Whether someone is a passive or active investor is determined by a few variables, and I use the interview questions in order to make the distinction.

Time and Availability

In my specialty of delinquent mortgages, the pattern of questions may stem from various potential options they may have. For example, I ask new investors how much time they have to devote to the business. Do they work full time at their current endeavor?  If the investor wants to be active, they might buy nonperforming notes and work them out themselves. Of course, this would mean that they have the time to do so and are inclined to do so. If they’re at a day job where they can make phone calls it might be doable, but if not, this could be really tough. If the investor wants to be more passive, they may use a servicer, such as FCI. They also may be more inclined to buy performing notes, as this requires less work on their part.

Capital: Accredited or Unaccredited

Another variable would be capital—how much do they have to deploy? Are they accredited (high net worth) or non-accredited? Often, accredited investors have a few more options available to them than non-accredited investors. For example, they have the option to passively invest in a note fund and collect “mailbox money,” as opposed to buying actual notes. Since they usually have more capital to deploy, they may also decide to buy nonperforming loans and hire a servicer to work them out on their behalf. Or, they may decide to do what I do and just buy re-performing loans, whether it’s in their own LLC or retirement account(s)—traditional IRA, Roth IRA, 401K, HSE, SEP, etc.

The unaccredited note investor may have fewer options, but he/she can still get involved.  Of course they can invest in nonperforming and performing loans, but another twist is that they can broker loans or joint venture with a few other investors. My one friend, who initially didn’t have much capital, just mastered the collections side of the business, and now he partners with folks who have the capital to put up.

Levels of Commitment and Risk Tolerance

Commitment level to the business is also a big factor. How many of us know someone who says they want to do real estate or note investing, but they just never do it. I think some of this stems, also, from one’s level of risk tolerance. Although, personally, I invest in many types of notes and mortgages, my company’s specialty has been second mortgages for the last several years. People often tell me that they think it’s very risky, to which I respond, “Really, I think investing in first mortgages is more risky.” Then they ask me why, and I say, “Because they have a higher price point, less upside potential, and all of your risk is in one basket (or fewer baskets).” To make my point even clearer, recently, I invested in a third mortgage. And yes, it sounds nuts, but it was for a buddy’s short term, commercial deal that had a boatload of both equity and cash flow. It’s all relative and greatly depends on one’s ability to mitigate risk.

Investment Goals and Business Model

I also ask new investors what their investment goals are or what their business model is, but it could be as casual as asking, “What can note investing do for you?” This often helps me, as well as the investors, develop an understanding of what they’re looking for. Everyone’s priorities are different. For example, someone who’s been investing in residential or commercial real estate may be tired of properties and tenants. This person may be less interested in dealing with a homeowner and more interested in investing in a fund. For a new investor, understanding your goals is crucial, whether you’re working to build short-term wealth, long-term wealth, retirement money, or legacy. For example, I have different investment goals for the different ways that I invest. I invest in a note company, I invest in a fund that does notes, and I invest in notes myself. I invest regular and IRA money in these three things.

I hope this article is, at least, a step in the right direction for new investors, who are trying to understand their own investing style and goals. I encourage you to learn as much as you can, in order to make the best investment decisions for you. After all, what’s best for one investor is not always what’s best for another. Are you respected, and are you allowed the responsibility to manage your own investments?

Also, I encourage those who advise potential investors to treat them as you would’ve wanted to be treated when you were starting out. Let’s not just throw them a fish.
Photo Credit: Todd Lappin

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.