Retirement Strategies an Alternative approach. Will you have enough money for retirement? Can real estate be a viable investment option for retirement? The short answer is yes. As retirement strategies go, this is an alternative approach. Before we get into it, lets talk about the standard investment approach in retirement.
Typically the two investment vehicles for retirement are stocks and bonds. The current recommended strategy is to adjust the allocation based on your age. This is to reduce the exposure to risk. The growth comes from equities, but adds risk to the portfolio mix while bonds provide income but little growth.
To calculate the your allocation of stock to bond mix in your portfolio many financial planners are now recommending for the purposes of calculation take 120 minus your age. For example if you are 45, you should be 75% stock and 25% bond. This is not a hard rule it will depend on many variables. The point here is as we age we become heavily invested in bonds for income. We still need stocks to gain appreciation for more on this allocation model see the following CNN article.
As of Jan 28th 2015 the 10-year bond yield is 1.73%, the 20-year bond yield is 2.05% and the 30-year yield is 2.29%. The current inflation rate is about 0.8%. So if you had a million dollars in bonds, the income that would throw off is between 17,300 and 22,900 dollar per year. Not much to live on right? For more information on bond yields.
The bull market has been running for 6+ years now and there is high volatility in the market, and uncertainty of how much longer the bull market will run. Are you comfortable with all of your money in the market, if you are close or in retirement?
Is there another solution? Sure, lets take a look a historical appreciation rates for real estate. Before will look as some average returns on real estate over time, we have to keep in mind these are national figures and rates of return will vary from region to region.
The following number are taken from a long-term housing article from michaelbluejay.com According to the U.S. census new homes increased by 5.4% between 1963-2008 [U.S. Census, PDF]. The National Association of Realtors say that the price of existing homes increased by 5.4% between 1968 and 2009. Case-Schiller Index stated home prices increased by 3.4% between 1987 and 2009 [Wikipedia]. For additional information on long term housing appreciation see this article.
Ok, lets take the conservative Case-Schiller Index number of 3.4%. For the million fully invested in real estate, you would get a growth rate of 34,000 per year, nowhere near long term average return from the stock market, and income after expenses of about 6000 to 7000 dollars a month.
But lets say you want to maximize the appreciation, lets put the turbo charger on (Ieverage). With a 20% investment in real estate your 1 million can control 5 million worth of property, now your return be comes 34,000 x 5 or 170,000 per year, or 17% without the wild ride of the stock market.
So, back to the allocation model. We will make a few substitutions for stocks and bonds the appreciation of the property will replace your equity position and the cash flow of the property replaces the bond or income allocation. Using the original formula we can use leverage to get the appropriate allocation to throw off enough income and yet have the growth we need to make the portfolio last us for the rest of our lives if done correctly.