Investments

How to Invest in Real Estate for Retirement

March 9, 2020

How to Invest in Real Estate for Retirement with Dr. Randy Anderson

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How to Invest in Real Estate for Retirement Show Notes

Did you ever think to invest in real estate, but decided that the hassle of being a landlord or dealing with a property management company wasn’t for you, especially after you retire?

If so, it might be surprising to learn it’s much easier to invest in great real estate without owning an apartment building, a house, a condo, or an office building than ever before. Recently, the financial industry has created real estate products available to investors looking to diversify their portfolio without running the risks of property ownership, and they can be a powerful tool to use as you create your retirement plan.

Joining me today is Dr. Randy Anderson. He holds a Ph.D. in economics and has focused his career on real estate investing. Together, we discuss the nuances and challenges of the real estate industry, the opportunities investors have to purchase high-quality real estate right now, and how to avoid complicating your taxes as you do it.

In this podcast interview, you’ll learn:

  • What caused the housing bubble to burst in 2008 – and how to avoid falling victim to similar traps as a real estate investor in 2020.
  • Why purchasing real estate as an investment is very different from buying a home.
  • Why you should consider investing in the REIT sector – and the potential factors to consider as you get closer to retirement.
  • The potential benefits and drawbacks of buying and running rental properties – and why this isn’t always the best source of passive income.
  • How private real estate behaves differently than REITs in a drawdown.
  • Why the key factors that influence spending haven’t changed in generations – and how to think about this as you make investments.
  • Why patience is crucial to successful real estate investing – and why forcing a sale at the wrong time is a major way to get hurt.
  • How to own real estate as part of an IRA without creating tax headaches.

Inspiring Quote

    • When I think about investing in real estate, I don’t think about my house at all.” – Dr. Randy Anderson
    • Fundamentally, nothing’s really changed in the ideal of what people are looking for in terms of life and how people spend money throughout that lifecycle.” – Dr. Randy Anderson

Interview Transcript

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[INTRODUCTION]

[00:00:07] Dean Barber: Welcome to The Guided Retirement Show. I’m Dean Barber, your host and also founder and CEO of Barbara Financial Group. On today’s podcast, Dr. Randy Anderson is joining me. Have you ever thought about owning real estate? And maybe you do own some rental properties today. Maybe you’re a sophisticated real estate investor already. Dr. Randy Anderson is going to break down investing in real estate in a bigger way than I think most of you have ever thought of.

There are major endowment funds from major universities and state pension funds that invest in real estate but they typically do it in what is called private real estate. This is real estate that doesn’t trade publically or it’s real estate that you may not be able to have access to on your own. Dr. Randy Anderson is going to talk to us not only about how economic conditions affect the overall real estate market but how diversifying through some investments in real estate can help bring down the overall risk in your investing. I hope you enjoy Dr. Randy Anderson here on The Guided Retirement Show.

[INTERVIEW]

[00:01:20] Dean Barber: All right, Randy. I’d love to just start with some basics on the economy, interest rates, and things like that. I know your specialty is real estate, but with a Ph.D. in Economics, a lot of times what we talk about in the financial world really flies over the head of a lot of people out there. So, can you kind of break down economic expansions and contractions for us just a little bit to start with?

[00:01:50] Dr. Randy Anderson: Sure. Well, obviously, an economic expansion means the economy is growing and the rate of GDP which is gross domestic product was basically it’s all the stuff that we buy. It’s all the stuff that we consume is increasing. And early on, it usually increases at an increasing rate. It gradually starts to increase at a flat rate, and it gradually starts to increase at a slower rate. Eventually, when it starts to contract, it moves in the other direction. When I think of GDP, whether it’s going up or down, I like to sort of simplify it into what the buckets are like where is this economic growth coming from?

It can come from several places. The most important place that it comes from is the consumer and the consumer makes up about 70% of the economy. So, when the consumer has good jobs, good stability in their jobs, they have good confidence in the economy, they’ll spend more money that creates growth. You have businesses that invest in their business, they invest in products that help the economy grow. You really have the government that also spends money to support infrastructure in all the other supports that the government provides.

Then you have the difference between how much the economy exports versus imports. Those are really the buckets and if those things are growing, the economy is generally growing and if those things start to slip, that’s where you start to move into the softer side of the markets.

[00:03:05] Dean Barber: So, if things start to slip, what causes that? Is it because we’ve got, say, full employment, people aren’t making any more money, there aren’t any more jobs? Job creation starts to slow. What causes that slip, generally? If 70% is consumer spending, I’ve got to imagine that much of the beginning of a contraction would come from the consumer. So, what causes them to slow down?

[00:03:33] Dr. Randy Anderson: Well, it can be a lot of things and different things can trigger it and different things have triggered different economic slowdowns over different time periods. I mean, one thing you said is when it’s full employment, it’s just harder for the economy to grow. You know, when you have a bunch of people sort of sitting on the sidelines and they don’t have a job and all of a sudden, they get a job, they maybe move out of their parents’ house or maybe they move into a new apartment.

They got to buy more clothes. They do things that create a lot of economic growth. You know, we sit in a situation like we are today, where everybody’s at full employment, you might move from a job to a better job but that really only increases your savings rate and doesn’t really cause that economic growth. So, one thing that makes the economy harder to continue to grow forever is that you just get to a point where there’s less gas in the tank and the gas in the tank is really that consumer. And unless that consumer can make enough more money or increase productivity, it becomes very, very hard.

Now, other things can happen as well. You could see asset bubbles occur and when those asset bubbles break, you can have a wealth effect. So, you go back to the global financial crisis, a lot of people had their money tied up in their house, and maybe they took out a second mortgage in order to spend more money to keep that consumption going. Well, all of a sudden, the house prices fell, and that wealth that they thought they had, maybe you thought you had 100, 200, 300 $500,000 of wealth in your house, but all of a sudden, the house value depreciated.

You didn’t feel wealthy anymore. You became more worried about your job and those effects lean again, going back to that big consumer, that consumer spending less money being less confident, and therefore causing that trickledown effect, the slower growth in the marketplace. It can be the stock market the same thing like an asset bubble. You can feel your 401(k) is building up. You feel that you’re more secure in your retirement, you feel that you can spend a few more dollars maybe on a vacation, in clothes or a trip, but all of a sudden you get a 20%, 25% correction and that wealth effect goes away, and again, it goes back to that big bucket at the consumer where the consumer just doesn’t feel as well and has a hard time feeling the economy.

[00:05:35] Dean Barber: That makes a lot of sense. And so, let’s relate this back to the global financial crisis where I think people did over lever themselves. They borrowed money against their home. They wanted to spend more. You almost couldn’t go a day without hearing multiple ads on the radio, “If you got a home and you’ve got home equity, come see us because we’ll loan you up to 110% of the value of your home,” and so people got in and they spent this money. They thought it was free. They thought that their house price was going to go up in value enough to just pay that thing off and all of a sudden, man, it got ugly. And so, house is down 10% or 15% of value, and it’s wiping out wealth that you never had.

[00:06:19] Dr. Randy Anderson: Yeah. Well, it’s funny, when things don’t make sense, there’s a reason they generally don’t make sense. And going back to the global financial crisis, you had people that were spending 9, 10 times their income on housing, and that was not anywhere near the norm. It’s more like two-and-a-half, three times is more of a typical multiple. So, people because they were doing things like no income verification loans, hey, you got a pulse, you’re willing to sign a document.

And people believe that it was riskless, in a way because if home prices always go up, if all of a sudden you have a problem and you can’t make the mortgage so what? You can put on the market and sell it but the problem is the music always stops. There has to be an economic reality between what you’re buying and the ability for people to pay. So, if you have a house, well, what’s the value of that house? Well, it might be the value that you rented out. Well, if you don’t have a lot of job growth or strong income growth, who’s going to be able to pay for that growing and growing cost of the mortgage?

If there are just more houses and apartments than there are households, then all of a sudden, you get back to just a basic principle. Anytime there’s more supply and demand, the prices can’t really sustain themselves. And so, really, if you think back on a global financial crisis, all those things were happening all the way back in 2005. But, like a lot of bubbles, they persist a little bit longer. Why? Well, the government didn’t really want the market to fall apart so they kept putting more stimulus in there and loans got even more aggressive and let’s refinance again.

And what it led to was a situation where housing prices were probably already 20% and 25% over what they should have been based on people’s income based on the strength of the economy. But it was able to persist for almost two more years with artificially low-interest rates and just the continued demand thinking that you know what, this is going to be temporary if it does slow down, and I really have almost this riskless arbitrage because, of course, housing goes up all the time, even though that broke the principles of supply and demand.

[00:08:19] Dean Barber: So, let’s talk a little bit more about that, that fell apart and if people hadn’t borrowed money, in other words, if they’d pay cash for their house, we wouldn’t have had the same issue. So, you had loans that were being made, as you said that were no income verification. You got a pulse. You can fog a mirror. We’ll give you a loan and we’ll loan you a lot of money. And so, and you had the interest-only loans where people were buying a house, and it was an interest-only payment, balloon in seven years, but if you didn’t have the debt on this real estate at that time, it would have been a totally different story, right?

[00:08:54] Dr. Randy Anderson: Well, that’s right. I mean, for one, real estate’s always been a heavily levered asset so people will control a lot of assets with a little bit of equity. That’s great when things are going up. You get the benefit of leverage. If you are paying something down and you got a 3% interest rate on it, and things are going up at 5%, that works really well. The problem is when it goes in the opposite direction. That benefit that you get also gets magnified to the downside. So, people that had low levels of mortgages or no mortgage on their homes, they were able to weather the storm.

Now, you might not have been able to sell your home, but if your home was paid for, you can still live. You didn’t have to ruin your credit, didn’t have to sell off other assets, and you had to just wait a while until you got out of the problem. If you had a low enough mortgage on your house, you can even sell it in the depressed market and take the cash off the table if you need immediately, say you lost your job. So, it’s a really important lesson when it comes to any kind of financial asset, maybe real estate in general because people tend to really overlap in real estate.

You know, there are really two reasons people get in trouble with real estate, whether it’s a house or commercial real estate. One is they buy everything all at the same time. So, you can find the best real estate buyer in the world. You picked the best house and the best neighborhood, but you bought it in 2006. That didn’t work out well for most people. Now, come along today, you’re okay again but how do you get from that really bad point in time when you bought the home to make it to the other side. That had to do with not being over-levered. If you’re not over-levered, you have a chance to sell it still get rid of that risk.

Maybe you lost money, but you didn’t wreck your finances or it was such a low level of payment, no mortgage or a small mortgage, even with a lesser job or smaller bonus, you’re able to maintain it because eventually, prices will go up. Prices will go up as the cost of goods and services go up as inflation kicks back in as we get to the other side of the economic cycle but you have to be able to get there. And the easiest way not to get there is having too much leverage on things that go wrong.

[00:10:54] Dean Barber: All right. So, let’s talk about real estate as an investment and I think a lot of people think of their home as an investment in real estate. It’s an asset. Well, I know that I’ve owned a home now for over 30 years. And, yeah, maybe it’s appreciated in value over time but you got to put a lot of money into that thing. And I look at a home as a place to live and I look at that totally differently than looking at real estate as an investment.

If you’re going to invest in real estate, you want that real estate to provide income for you. You want that real estate to provide opportunity for you over the long term and it’s not necessarily a place where you’re going to live. So, can you talk a little bit about the concept of investment real estate versus just a place to live?

[00:11:39] Dr. Randy Anderson: You know, absolutely. So, when I think about investing in real estate, I don’t think about my house at all. That’s not even part of the equation. Other things go into that part of the equation. It doesn’t mean that your house can’t turn out to be a decent financial reward for you. But when I think about investing, I think about the main ways that investor can get the most return for a given level of risk and generally speaking, it has to have a diversified portfolio of things that make up sort of the asset market, one of those things.

Well, one is just stocks as we know, so everybody’s got some stocks in their portfolio and that can be done with individual stocks or mutual funds or ETFs or whatever way you want to express that. The second sort of biggest asset class that people hold are bonds. So, corporations need money and the governments need money and you can get a bond investment. Those will not have a lot of upside. They’re fairly stable and can provide some income. Well, the third biggest asset class really is commercial real estate, investable real estate, real estate that can generate income.

And I’m a recovering academic so I spent a long time over 10 years editing the Journal of Real Estate Portfolio Management. All the studies, the first set of studies, you know, it didn’t even go back that far. Listen, I can get more return for the risk I’m taking if I don’t just have stocks and bonds, if I actually investing in real estate, and the real estate they’re talking about is not your house. They’re talking about investing in a diversified portfolio of office building, industrial property, multifamily apartment complexes. Because those are hard assets, they don’t move in the same way the stock market moves.

They don’t move in the same way the bond market moves. Generally speaking, most of these investment properties have the majority of their returns coming from income to help kind of stabilize out those returns. So, when I think about trying to invest in real estate, I’m not thinking about my house. I’m thinking about my house and about other things like utility. I’m thinking about how long I’m going to be in that particular location or about school districts.

[00:13:38] Dr. Randy Anderson: Hopefully, yes, it becomes a good investment. I can make some money but when I’m thinking about my portfolio, I’m thinking about the large asset classes out there and how to have a great return to protect my retirement, protect the kids, futures, whether it’s school or weddings, or whatever it is that your goal is.

[00:13:54] Dean Barber: Right. See, and I think that what happened back in the financial crisis was people were speculating, right? They were buying and they would move up a house, they move up another house, they go out and get a more expensive house and they’re seeing how fast this is appreciating and they’re feeling wealthier because this real estate is increasing in value over time and they made the mistake of thinking, “Well, this is part of my retirement. This is an investment,” when really, it shouldn’t be looked at that way. It should be looked at as a place to live.

So, let’s talk about this whole concept of the commercial real estate investment because I think the average person doesn’t really understand that there are ways that they can actually diversify their portfolio into commercial real estate, and ways that you all have that doesn’t really require you to tie up your money or to go out and have to talk to a banker and get a bunch of loans and all that. So, can you talk a little bit about how the financial industry has put together diversified portfolios of real estate and things that maybe people should watch out for and opportunities that they should seek out?

[00:14:59] Dr. Randy Anderson: Yeah. Listen, I think this is the greatest question. I mean, one of the reasons that you saw portfolios back 10, 20 years ago only being stocks and bonds is individuals didn’t have a way to actually invest in real estate. I mean, how is the average person even a much above average person, a person with quite a bit of net worth? How do you go out and buy an office building or an apartment building?

How do you even know what a good one is if that’s not the occupation that you engage in? You’re a very smart doctor, lawyer, whatever, but it’s a specialty in picking those assets. So, back in the old days, you had to be ultra-wealthy, maybe you buy a couple of buildings or you found some partnerships that you could club deals with but was really, really hard for individuals to invest in real estate. Today, there are multiple ways for individuals at various income levels to actually get good quality commercial real estate. What are those ways? Well, one of the ways that developed was the publicly-traded meat sector so you can go out and buy real estate investment trust.

These are basically just companies and the companies have managers and they go out and buy institutional properties, someone buy office, some buy industrial, some buy health care. And you can just buy like you buy a share, buy IBM stock. Now, they work a little bit differently than stocks because the vast majority of the return has to by statute actually come from income distributions that come out but it gives you exposure to real estate. You can diversify your individual stocks, your mutual funds, your ETFs. Now, those are good.

I’m a very big proponent of real estate investment trust, but the real estate investment trust world is pretty small. It’s like the size of three Facebooks and because of that, and because it actually is just an equity, you get a lot of the volatility or the movement, that daily movement that you get in the stock market, real estate, investment trust. Over a long period of time, if your investment rises 10, 20 years, you’re going to get the same kind of return you would get holding real estate directly within the stock market, but you’re going to get a lot of volatility in the meantime. So, if you’re getting closer to retirement, you’re worried about drawdowns, there’s some potential factors that you at least need to consider when you’re investing in that too.

[00:17:04] Dean Barber: Yeah. So, I was going to say a lot of those they trade just like a stock, right? So, if you want to, I mean, you can buy an ETF format or a mutual fund format so you can get some diversification in those or you can go out and buy the publicly-traded REITs on their own but, yeah, you’re right. You do get the stock movement so you don’t really get the protection there. So, there’s a private side of the real estate that you’re not getting all that movement. It’s not traded on a daily basis. It’s not liquid every day. And then that has some advantages. Can you talk about that?

[00:17:34] Dr. Randy Anderson: Well, sure does. I mean, just because somebody tweets something or one data point comes out the economy, it doesn’t mean that the value of your building changes. I mean, the value of a real estate building is based on the magnitude and stability to cash flow. That thing isn’t changing tick-by-tick-by-tick, therefore, if you own real estate privately, your values are going to only change when the economy changes which affects how much income that particular building can generate, the stability of the income that that building can generate.

So, they just don’t move like a publicly-traded vehicle, which really can dampen the volatility of the portfolio. Again, in the old days, if you had to try to buy building-by-building, it’s really tough to do but today, there are pooled vehicles available, where you can invest in a broad base of private real estate where you can buy the office, industrial, retail, and multifamily, and get institutional quality real estate but you can do it for a small dollar amount. And there’s a couple of ways that you can do that.

One is through real estate investment trust that are non-traded. So, you go out and you buy a share if you will of a defined set of assets. Maybe they’re still buying assets. It’s not fully defined, but you buy a pool. Maybe it’s an industrial REIT, for example. Not publicly traded, you buy it, you put your money in there and the income that those industrial properties are kicking off or paying dividends to you and at some point down the road, maybe they’ll sell those properties and return your capital.

Maybe those side the list among the exchange and you can decide whether you want to keep them on the exchange or not. That’s one way. More recently, the idea of a more security, it almost looks like a mutual fund or an interval fund, where individuals can invest in the exact same private real estate investment vehicles like pension funds and institutions, endowments you invest in.

[00:19:30] Dr. Randy Anderson: So, for example, to kind of back it up, you take any one of the big states, CalSTRS, Texas Teachers. When they want private real estate, they’ll go to a big company. They’ll go to a company like Prudential. They’ll go to a company like AEW or one of the big household names, CBRE and see these companies put together pools of $10 billion, $15 billion, $20 billion on real estate.

Now, it used to be that that $10 billion, $15 billion, $20 billion real estate was only available for someone like a Texas Teachers to invest in or somebody like a CalPERS to invest in or a Sovereign Wealth Fund. Even a rich individual could invest in them. But through this advent of interval funds, there’s a way where the people can get together and invest in the interval fund and the interval fund itself, the fund itself can become the institution. It can become the Texas Teachers, if you will, and therefore take those dollars from mom and pop and invest in at $10 billion, $15 billion, $20 billion real estate pool.

So, now all of a sudden, maybe for $2,000, $3,000, $5,000, $10,000 you now are invested in the best real estate, in the best markets diversified by office industrial retail, diversified across the United States or even potentially globally and you’re sitting right alongside some of the best institutional investors. They didn’t exist before long. That solves the problem of, “Hey, I got to try to go buy a rental house and somebody broke the lights and I got all my eggs in one basket.” It solves the problem of, “I got all my eggs in a liquid basket that’s growing tick-by-tick,” I get that slower, less volatile movement and access to really good type of real estate that people want to [inaudible – 21:14].

[00:21:14] Dean Barber: Yeah. The idea of buying rental properties and running those is alluring. You can get some good tax benefits along the way. If you get the right tenants at the right times, you can make some decent money doing that.

The struggle that I’ve seen happen over the years is people will own that real estate. They’ll get into their retirement years and you know what, they’re still working because they have to keep managing the properties unless they’re willing to part with some of the cash flow to hire a property manager but they still have to keep track of everything that’s going on. So, what you’re talking about is a much more passive approach to try to get a similar result of going out and buying the real estate direct.

[00:21:56] Dr. Randy Anderson: Well, that’s right. And I guess I would even take the analogy one step further. I agree with you completely. One, I mean, it’s terribly labor-intensive, but it’s also putting all of your eggs in one basket. So, you would never go, “Well, the biggest part of my portfolio is say stocks.” You would never go, “Well, 100% of my stocks are going to be IBM or 100% of my stocks are going to be in Facebook.”

For an individual that says, “Listen, I want my real estate exposure to be in that one apartment complex or that one office building,” you then have basically said, “My third-largest asset class I’m investing, I put all my eggs in one basket, I as a non-professional doing something else, I’m not going to be in charge of running that like trying to run Facebook.” It just doesn’t make a lot of practical sense. It doesn’t give it diversification. There’s a lot more risk involved as well as just simply it’s just so management intensive, that it doesn’t make sense. And having professional management select the assets, manage the assets for a minimal fee, generally speaking, those benefits way out see the cost that that management would charge.

[00:22:58] Dean Barber: Okay. Let’s take a quick break. This is The Guided Retirement Show. I’m Dean Barber. We’ll be right back.

[ANNOUNCEMENT]

[00:23:04] Female: Is thinking about your retirement intimidating? Okay. Let’s get real. The thought of not having to go to work five days a week, traveling, spending time with your grandchildren, basically, doing what you want to do on a daily basis, well, that’s not scary. However, paying for that retirement lifestyle, well, that can be a little more daunting. The reality is retirement doesn’t have to be scary. And a good place to start is by listening to America’s Wealth Management Show with our host by Dean Barber, that’s the guy you’re listening to on this podcast, and Bud Kasper.

With over 65 years in the financial industry, Dean and Bud discuss how to live your one best financial life. And unlike some other radio shows, they don’t talk about investments or the latest get rich financial products. It’s strictly retirement education. Now, there’s a couple of ways to listen. You can download America’s Wealth Management show on your favorite podcast app or if you like to listen or stream your radio shows in real-time, simply go to AmericasWealthManagementShow.com and find out where and when you can listen to this week’s show. That’s AmericasWealthManagementShow.com.

[00:24:21] Dr. Randy Anderson: One of the reasons you saw portfolios back 10, 20 years ago only being stocks and bonds is individuals didn’t have a way to actually invest in real estate. I mean, how is the average person even a much above average person, a person with quite a bit of net worth, how do you go out and buy an office for them? How do you go out and buy an apartment?

[INTERVIEW]

[00:24:52] Dean Barber: Welcome back. I’m Dean Barber, CEO Barber Financial Group and this is The Guided Retirement Show. Alright, so let’s talk about, Randy, the idea of the private real estate, like you would find in an endowment fund or a teacher’s pension or something like that, and how does that react in an adverse economic condition versus the publicly-traded REITs where maybe you get a similar result over the long period of time, but you mentioned a word earlier called drawdown, which means simply if the asset value starts to fall, how far does it drop before it stops falling and then turns around and starts going back up? Does the private real estate that you’re talking about act differently than the publicly-traded REITs?

[00:25:43] Dr. Randy Anderson: Well, it does a lot. I mean, so the first thing is that the public market will respond first and it will draw down more than any further. It’s sort of like I always think about rubber bands and things correct. Nothing ever kind of gets right to equilibrium and then fix it. It always overcorrects from one way to the other. So, when all of a sudden people become concerned about real estate, you can trade it real fast in the public markets, and say the value was 100 and their true value say is 80. It’s not just going to go to 80 in stock. It’s going to go down much further than 80. So, you’re going to get this idea of hurting.

You’re going to get this idea of selling. You’re going to get all this behavioral finance, where people just want out of it driving the price way down below in equilibrium value. On the private market, the value is just the value. It trades it with the underlying fundamental value adds. I think the best way to sort of think about drawdowns is, is to sort of think about all the years in which private real estate data exists.

So, really private real estate data didn’t start coming to year what? 1978. It was an organization that came together and put together private data for these exact kind of institutional real estate funds. If you go back to 1978 and you look just at private real estate, I think one of the most compelling statistics is that there’s only been four down periods in that over 40-year time period. Before, that’s very, very few. And two of those down periods were during a global financial crisis, which was a real estate lead. So, you sort of get away from the global financial crisis, and the other two periods were barely down at all.

So, really, the only main drawdown you had was the one year that was the worst year and the global financial crisis and you were down 15%, 16%, 17% in high quality commercial real estate. Now, that’s not great. We don’t want to be down at all but that’s not down 40%, 50%, 60 and you bounce back up real quickly. And the funny thing is, because it wasn’t over-levered, these funds didn’t go under. They weren’t sending them the keys back to the bank and going, “I’m out of the deal,” or walking away from houses like you saw.

[00:27:44] Dr. Randy Anderson: The funds survived. They grew and they went way back up over their value because they weren’t over-levered. They had the right properties and the right markets, and the income returns still stayed in place. So, while the appreciation, the value if you had it solved, it was less. They were high-quality properties and high-quality markets. People still needed to work.

People still needed to live. They still needed to shop. And because of those things, they were still tentative largely and the occupancy rate fell, you know, stayed pretty good on high-quality institutional properties. So, if you stay in really good properties and really good markets and don’t over-lever, you’re going to draw down with so much less than you would get on the public side. And you get a nice recovery when the economy turns back around.

[00:28:22] Dean Barber: Well, I think the other important thing to point out is on the private real estate, if you invest in real estate for income, and we go through an economic recession, and let’s say maybe the assets or the real estate is appraising at a lower value, your income may not be going down much. In fact, your income may stay the same. And so, if that’s your investment purpose, you really don’t have a reason to turn around and say, “Gosh, get me out of this thing,” right?

[00:28:48] Dr. Randy Anderson: Well, that’s really what the institutions do. When they make an allocation in real estate, they’re not making it tactical, “I’m coming in today and I’m out tomorrow.” What you’re saying is, “Hey, I’m buying good quality stuff over a long period of time. The trend line is going to be up. I’m going to get strong income. I’m generally going to grow at the rate of inflation,” so you’re going to get a nice five-ish kind of income return typically on real estate, you’ll get 2%, 3% of appreciation over time about every year. So, what if one year is bad?

What if one year it marks down? What if it’s down 2%, 3%, 4%? Well, you’re still getting the income. The value is still there in the buildings. As you get the other side, as we started the conversation with economic attraction expansion, the contractions are always followed with the expansions. As long as you don’t have to get rid of the property, you don’t have to worry about refinancing and you have don’t enough capital to keep it working, those values are going to go back up. In the meantime, you can collect your check, you can kind of live to fight another day, and go, “You know what, it’s almost like buying high-quality bonds.” So, you buy a single bond. It’s mark-to-market in a day. It’s bad if you’re not selling the bonds.

So what? As long as the stock in funds is going to make it back up in value. In real estate, chances are you’re going to get a nice distribution and chances are you’re going to end up with a value not just back to par but above par.

[00:29:58] Dean Barber: Exactly right. Alright. So, let’s switch this from real estate. Those still tie into real estate a little bit but you talked earlier about how 70% of our gross domestic product, which is all the money spent in the United States is based on consumer spending. And you talked about how you got full employment and typically if you’ve got full employment, it’s very difficult for the economy to grow. I want to change to demographic trends.

And I have this theory that when people get married and have babies, that they automatically spend more money and the more kids you have, the more money you spend, and we’ve got this massive millennial generation that in mass has not yet started to get married and have babies.

So, are we in a scenario potentially, where you could have this massive population begin to get married and have babies and buy houses where we don’t necessarily have to have strong job creation or more people creating jobs that just these people are going to have to spend money on the babies when they have them because they’re going to need to buy a house and all the things that go in the house and the strollers and the diapers and all of this? Is there anything to my theory there, Randy?

[00:31:12] Dr. Randy Anderson: What I like most about your theory is it gets away from what people like to talk about is random paradigm shifts. They talk about those under extreme economic conditions and rarely do you actually have a paradigm shift. So, you speak about this millennial generation and you read articles back consulting shops. So, millennials don’t want cars. They’re never going to buy cars. They didn’t buy cars.

They don’t have any money. The economy was in a bad spot. They have a lot in student loans. Today, they have the same amount of cars that the last couple of generations have had. We said, “Listen, they don’t really want to have big houses. They want to have houses that are small and green and energy-efficient.” Well, that’s not true either. Now, we’re back to building the houses that are just as big as they weren’t before. So, what you’re really talking about in my mind and why I would agree with your theory is that fundamentally, structurally, nothing’s really changed in the ideal of what people are looking for in terms of life and how people sort of spend money throughout that lifecycle.

And through your life cycle’s savings and investments and spending, really nothing structurally has changed in that market. So, I would tell you that there’s certainly different tastes and preferences, people wanting to be closer, there are different kinds of cars, different kinds of fashion, but the basics of, “Hey, I’m going to get married. I’ve got to buy a house. I want that house in a particular school district. I need a different kind of car. You know, I’m moving up in my job, I need a better suit.” All these things that create spending, which has a multiplier effect, those things haven’t changed, and they’re very positive to the economy.

And so, we’re going to get some of that benefit. Now, some of that is marginally offset globally by just simply the overall percentage of people in the working population is slowing so it’s slowing in the US. It’s slowing in Europe. It’s slowing in Asia. So, if all that’s true and I think that’ll help offset it because the nature of the age of the population within that working group is really the age where they get the biggest bump in spending and that’ll offset some of the risks that people show when they do show that larger demographic is less growth in that working population.

[00:33:18] Dean Barber: So, the millennials could actually wind up being our saviors then. Is that what I’m hearing?

[00:33:22] Dr. Randy Anderson: That’s funny. There’s been so much said to the negative but I’ve got some faith that the millennials will create some good jobs, some good companies, and create some economic growth as we go.

[00:33:37] Dean Barber: Well, it’s interesting because I’ve created five millennials myself and three of those are now out of college and on their own and doing well. And, in fact, the oldest is married and buying a house and now they’re talking about having a baby and buying new cars, and so doing all the things that we did when we were younger, and it’s I think that trend continues and I look at their friends and what they’re doing and it’s a very similar thing.

And so, yeah, the millennials have gotten a bad rap in a lot of ways and some of it maybe is deserved but I do think that they’re, like you said, they’re going to be normal people. They’re going to raise families and they’re going to do the things that we’ve all done and that’s going to spur on the economy.

[00:34:19] Dr. Randy Anderson: Yeah. I mean, I’ve got kids that are just slightly younger than that age group but I got a son that’s a sophomore in college and a daughter that’s a sophomore going on to junior college, and the things that she wants going to college and the job that she wants, and the house that they want, a life they’re looking for, it’s no different than the things that I was thinking about here.

Now, I’m an old guy in my 50s and I don’t see them looking for a lot of things that are all that different really. I mean, maybe the styles, maybe the things around the edges, but they want the house. They want their families, the vacations, the success, and they want the family dynamic that I think generations all look for, so I don’t think a lot has changed there and I think we’ll see some there.

[00:35:03] Dean Barber: So, I like the way that you put the whole rubber band example, you know, things expand to a point and then when they contract, they come back too far. And so, when we look at expansions and we look at contractions in the economy, I always tell people, “Those are not things to be feared. They’re things to be understood,” because in both expansions and contractions, there’s opportunity in both cycles if you know what to look for. So, in a contraction cycle, what would you look for that would be an opportunity?

[00:35:38] Dr. Randy Anderson: Well, I mean, it’s fantastic, because I think about this a lot. I was doing a lot of presentations around 2008. And people like, “Well, what do I do?” What I said was, I actually did a research paper on this and I said, “You know, you don’t have to be perfect. You don’t have to find the exact bottom but when all of a sudden real estate’s trading below replacement costs, which basically means you can’t build new products.

Going back to that basic supply and demand, if real estate’s trading below what it costs to rebuild it, you’re not going to see new supply. As demand grows, as your economy is picking back up, the existing properties are going to get more and more and more valuable, it’s going to be a long time before you can have more supply. I always look at what’s asymmetric. You get in a situation where real estate’s below what it cost to build, you know what, maybe you’re a year too early, maybe you’re six months too early. Maybe you’re two years too early, but you’re buying with asymmetric risk to the upside.

You can do this even in the publicly-traded REIT market. There are times in the publicly-traded REIT market because of whatever, whether it’s sentiment, whether it’s something the Feds said but their values on the public side, if you ended up with the values of all the properties, and say they’re worth 100, you might build a buy for 80. That’s a great opportunity. That’s a rubber band and snapped too far in the other direction.

Or it might be the other direction where people just get too excited about real estate and the real estate’s only worth 100, the public market says it’s worth 120. That’s the time when you want to get rid of some of that public exposure. When the rubber band snaps too far, the beautiful thing is you get asymmetric opportunities to make money. And that’s where you get your alpha. That’s where you get your which is better, basically, a good risk-adjusted return or outperformance because the deck in a way is stacked in your favor.

[00:37:22] Dean Barber: So, one of the things I think that people have a tendency to do I call that we live in this kind of drive-thru mentality society, right? Where we want things to be fast, we want it to be easy. We want to be cheap. And we don’t want to really have to work too hard for anything. And when you’re talking about the economy, it doesn’t move fast. It doesn’t move quick. Yeah, maybe there’s some volatile moves out there in the markets every once in a while, but people have to be patient and they have to take the long term approach. Can you talk a little bit about patients required to invest in real estate?

[00:37:57] Dr. Randy Anderson: Yeah. I think patience is very important and I think you have the global financial crisis told you that because you go to some of the most beat-up markets and if you could have been patient, you’re now back in the money and probably made a pretty decent return. The idea is in real estate and investing, in general, is be aggressive when people are fearful and always be sort of a contrarian. But in order to be a contrarian, you have to invest in a way that doesn’t force you to do things at the wrong time. So, again, it goes back to some very simple principles.

If you want some real estate, be patient, buy something that’s always in demand. Well, what does that mean? If it’s an office building, it’d be close to the jobs. Multifamily, it’d be close to the good schools. Retail, it’d be close to where the households are.  Or a grocery store, it’d be close to where the households have good income, be on the side of the road where people drive by so the milk doesn’t get cold on the way. Do the things right so you buy things that have a demand. Don’t over-leverage, so you’re forced to sell.

Having to sell something at the wrong time is a major way to get hurt in real estate. To be patient means to be cautious. It also means don’t take a bunch of risk. Don’t get caught up in the idea that if I just put out a little bit more leverage or if I just go to a little worse market and get a little higher return or if I can just do some development and I can get these 20% and 30% returns, maybe you can do that.

But over a long period of time for the average investor, it’s much better just to buy good quality, core property, click that income coupon, keep the leverage low and let that be a part of your portfolio stabilizer, you can be patient in that environment. If you’re doing development and all of a sudden, the economy goes another direction, maybe there’s no money to finish the project and you’re left with a half-built building. You know, you go out to Florida where I used to live and you see these neighborhoods with 500, 600 houses. They built four spec houses, the economy tanked, somebody bought one of those four spec houses, and they’re in this vast wasteland. Those are never coming back.

[00:39:54] Dr. Randy Anderson: So, when you do all those speculative things a little further away from the jobs, a little too much leverage, that’s when you have a problem, not just in real estate, but assets in general. Stay where there is good quality demand, see where the core is or a reason for the business. If there’s a reason for the cash flow generation, cash flow can be protected.

[00:40:10] Dean Barber: I think that this has been an absolutely fascinating interview, Randy, and I truly appreciate you spending time. And I want to just really let everybody know that the ability to invest in good quality commercial real estate is there today like never before. And I want to close with just a comment and I want to get your thoughts on this. Recently, I had an opportunity to take an executive course at MIT and I was out there for three days and had a chance to visit with a lot of professors and even spoke with the dean out there, and I didn’t understand.

I mean, I knew that MIT and Harvard and Yale and all these big colleges, they own a lot of real estate, but the amount of real estate that they own that’s right there and the attractiveness of those institutions that are bringing in the biotech companies and the tech companies and all the jobs and everything,
I mean, they’ve taken this idea to invest in real estate in the right place to the Nth degree where they’re owning that real estate in the area where they are, and they understand it. In fact, I think if you look at Cambridge, you’re going to find the vast majority of the real estate in Cambridge is owned by either Harvard or MIT.

So, talk about why they would do that, how it helps their endowment funds and then once again, circle back around to how the individual investor has the ability to invest alongside these same types of institutions.

[00:41:39] Dr. Randy Anderson: Yeah. I think a long time ago, a lot of the people that ran the endowments were academics themselves that sort of advised on where the good risk-adjusted returns were and how the universities could support research, how they could support students, how they can really support a lifestyle university which is not so much different than the lifestyle of a person, just magnified by a great amount.

And all the research show that real estate was this great asset class. So, for one thing, they wanted to control their own real estate. They could control their own modes of delivery but if you actually look at their allocation, even outside of the real estate, they own this particular case in Cambridge in Boston, they have a huge percentage of the money that they have in real estate outside even to those markets. They’re investing in five of these exact same private institutional funds that have diversified all across the United States.

More often than not, an institution that has all the options in the world, they can invest in these fancy hedge funds or they can invest in any kind of private equity deal you can think of. They have a tremendously large allocation to private real estate Investments because of those risk-return characteristics. And I think that’s the best endorsement of it all because they have unlimited options.

When you have billions of dollars to invest, everybody wants your money. When everybody wants your money, you can dictate terms, you can pick the assets, you can pick the markets, you can pick the managers and for individuals to sit there and say, “Listen, I can invest alongside someone with unlimited options. It’s kind of a good housekeeping seal of approval, you’re probably investing in some assets. They’re going to make sense over the long term. Again, as long as you’re patient with this institution.

[00:43:15] Dean Barber: Yep. No, I totally agree. So, fascinating talk. Alright. One last thing. I thought of something else here, which I think is interesting. So, several years ago, and I guess this all came after the dot-com bubble when people were getting fearful of putting money in the stock market. They started wanting to buy their own individual real estate. And so, this advent of, “Oh, I can take my IRA money now and I can buy real estate with that IRA.”

I’m not sure if you’re familiar with all the complex tax laws that surround that, but it can be an absolute nightmare. So, I think that what we’re talking about here today, Randy, is the fact that people can own real estate inside their IRA with some of the new programs that are out there today without having to run the risk of the complex tax laws that go with buying individual real estate with inside of your IRA. You want to address that for just a minute?

[00:44:08] Dr. Randy Anderson: Yeah. I mean, the tax laws not only are complex, but they’re ever-changing. And you also end up in a situation where you’re not diversified again. So, in these new programs that we’ve sort of been talking about today, you invest in this large pool of real estate 2,000 to 3,000 properties wide, you can do that within your IRA just like you buy a share of a mutual fund but you’re getting this exposure to private, not just all of those publicly-traded ones, say if it’s nice good solid, slow-moving private real estate.

And the easy thing is you roll around in January and you get a 1099 just like you would with any sort of simple investment that you make. You don’t have to go through your K1s. You don’t have to be non-stop working with your CPA to figure it out. You’re getting a nice 1099. You’re getting timely reporting. And it can be in many cases, these can even be depending on a particular vehicle you invest in also tax efficient. So, whatever product you’re investing in, and obviously, your clients will talk to you.

And in the lookout, even a lot of these new programs today actually have quite beneficial tax treatment. A lot of the dividends come back in very favorable ways that you can provide some of those same kinds of tax advantages that you look at one. You can do that inside or outside the IRA.

[00:45:20] Dean Barber: All right. Well, thanks again for your time, Randy. If you don’t mind, I want to keep you on my shortlist of people to interview again. This was fascinating. I know there’s a lot more we could talk about, but we’re going to wrap it up here. Thanks again for joining us on The Guided Retirement Show.

[00:45:33] Dr. Randy Anderson: It’s absolutely my pleasure. Enjoyed talking with you and definitely keep me on your shortlist. Glad to come back anytime.

[00:45:38] Dean Barber: All right, great. Talk to you later.

[CLOSING]

[00:45:40] Dean Barber: So, that was Dr. Randy Anderson and a lot of great information there about what you can do to invest in real estate, overall economic conditions. I want to make sure that you check out the show notes here on The Guided Retirement Show at GuidedRetirementShow.com/23. And also, just make sure that you’re sharing this information with all of your friends and your family. I hope you enjoyed today’s program.

[END]

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