Most people think that long term stock market investments of ten years or more present less risk because they believe losses and gains will even out over time. Research conducted at the University of California-Irvine that tracked markets in 30 countries as far back as 1926 found a longer time horizon does not diminish downside risk. On the other hand, the study found that diversification is clearly a proven strategy to reduce risk.
Risk is Your Enemy
If you’re like most people who are investing for your retirement, risk is not your friend. A recent survey for Wells Fargo by Gallup found that nearly two-thirds of investors say having a guarantee that their initial investment is secure- even if it means the growth potential is low- is more important to them than having high growth potential that carries some risk of losing their initial investment.
If you feel the same as the majority in the Gallup Survey, why are you continuing to pour your hard earned savings into an IRA or 401K that consists solely of stocks and mutual funds that you know little about and that rises and falls in response to forces far beyond your control? When you see the Dow or S&P plummet on the evening news, do you realize it’s your hard earned savings that just evaporated into thin air?
There’s no question that many people have done very well in stocks. It probably makes sense for you to keep a portion of your savings invested in the stock market—a portion that you should be prepared to lose. On the other hand, if you are too heavily invested in stocks, follow the advice every expert agrees upon: diversify. Don’t put all your savings in a single basket, especially one that can fluctuate as quickly as a major stock exchange. Diversify to reduce your risk!
One way to do that is to invest in an entirely different kind of asset; one that’s been around since the beginning of time and that will always be in demand. Today, millions of investors are diversifying their retirement nest eggs to include a rental home that will bring them a steady income even when the stock market has a bad year.
Real Estate You Say?
No investment is risk free, not even real estate. Some years are better than others, and once in a great while home values go down, as they did in 2007-2008.
Which made those two of the best years in the history of real estate investing.
Here’s why. Some five million homeowners lost their homes to foreclosure, creating some of the best deals investors have ever seen. The average foreclosure sold for a third less than the home was worth, and many went for less than that.
All those foreclosures created a huge demand for rental properties and rents soared. Investors did well on rental income as well as the appreciation that their former foreclosures enjoyed, once the housing markets started to heal
Unlike stocks and other forms of investment, real estate rentals generate two sources of revenue: the appreciation of the home over time and the rental income. Even those housing markets that suffered badly in 2007 are coming back to life today and reaching or exceeding the values at that time. Investors who bought foreclosures, rehabbed them and rented them out three to seven years ago have seen the value of their initial investments double or triple and, at the same time, received a healthy rent check in the mail every month.
Should rental demand sag, appreciation continues. In the event home values go down as they did seven years ago, demand for rentals often rises. The best scenario occurs when the local economy is strong, creating demand simultaneously for both rental homes and homes to buy. Today that’s happening in hot real estate markets like Austin TX, San Jose CA, and Denver CO. Single family rentals have built-in diversification, reducing the impact of economic downturns on your retirement portfolio.
Changing Times: Risk and Opportunity
In the past two years home prices have risen and foreclosures have dried up in many markets. The new environment presents challenges and opportunities for real estate investors, but the combination of rental income and appreciation serves them well. Rising home prices have made the acquisition of rental properties more expensive, but a stronger housing market helps rental properties appreciate. It also makes it more expensive for first-time homebuyers to buy a home. Instead, many are using single family rentals as “stepping stones” to homeownership, creating a new class of tenants for investors. As a result, rents have been rising along with home prices.