Investors can gain exposure to real estate by purchasing securities in the public markets such as stocks, bonds, exchange-traded funds, or similar vehicles. One way to do this is by buying Real Estate Investment Trusts, or REITs.
One way to diversify in real estate is to own property. In this article, we’ll take a look at privately held real estate as a way to diversify against some of the market forces that are in play when investing in dividend stocks. Then we’ll dive into how real estate can be an effective diversification tool for investors.
Why own real estate?
First, let’s tackle why one would want to own privately held real estate. In short, this asset class is any real property that isn’t traded on a public exchange of some type. This could be a person’s primary residence, or a residential or commercial investment property. Exposure to this asset class generally takes a lot of capital, given that coming up with down payments for residences is generally on the order of tens of thousands of dollars. Of course, owning a home is a worthwhile investment for many because it allows people to build wealth while giving them a place to live.
Meanwhile, for commercial properties, the price of entry could be in the hundreds of thousands of dollars. However, owning this asset class has certain benefits to the holder. First, and most obviously, is that it provides income to the holder of the asset. Buying an investment property means the holder expects some sort of financial return in the form of rent payments, and secondarily, asset price appreciation. Over time, real estate has proven to be a long-term winner in terms of asset price appreciation.
Hedge against volatility
One benefit is that privately held real estate doesn’t experience daily price swings like those of publicly traded securities. This is referred to as volatility. While privately-held asset prices do move up or down over time, these swings aren’t visible to the holder of the asset, and only matter when/if it is time to sell. This has certain benefits from the asset holder’s perspective of knowing their property is a store of value, and not seeing daily, sometimes erratic price movements of their assets.
Apart from this lack of volatility in the asset price itself, rent payments are generally received on a monthly basis, meaning that the holder of the real estate receives regular income from their holdings, minus operating and/or financing costs of the asset itself. In this way, holding real estate is a great way to not only generate long-term wealth with asset price appreciation, but regular income as well via rent payments received. Real estate investing is quite similar to dividend investing in this way because the goals of both are the same: Regular income and long-term asset price appreciation.
Benefits of dividend investing
That said, dividend investing has certain benefits as well. Dividend investing, as mentioned, also offers the ability to see asset price appreciation and regular income, the same as real estate investing. This means that holders of dividend stocks and real estate can see similar benefits in terms of compounding wealth over time.
However, while dividend investing can prove to be a rollercoaster during turbulent stock market periods, it also offers a very important liquidity component.
Liquidity is the ability to effectively price and buy or sell an asset, and while real estate has many benefits, liquidity is not one of them. Privately held real estate isn’t priced on an exchange the way a stock is, which means that when an investor wants to buy or sell real estate, it is a very long process. This lengthy process can easily take months, and cost hefty commissions for attorneys, brokers, real estate agents, etc. These implicit and explicit costs are both harmful to returns for the investor, while dividend stocks don’t have any of those issues.
Dividend stocks can generate income and long-term asset price appreciation with the ability to buy and sell any day the stock market is open, with real-time asset pricing. Depending upon one’s goals, this may be important.
Dividend stocks can also be bought with minimal initial capital given that many brokerages offer the ability to invest with as little as $1. That means that investors that don’t have access to tens or hundreds of thousands of dollars of initial capital can begin their investment journey much sooner than those waiting to buy a property.
How they work together
Given that the goals of dividend investing and real estate investing are largely the same – long-term price appreciation and income – it makes sense that they would attract similar types of investors. Both asset classes offer certain benefits over the other. Dividend investing offers liquidity and low initial capital requirements, while real estate offers much lower volatility. Therefore, they can work together harmoniously.
Real estate and dividend investing can offer holders the benefits of both, which together, can mean higher portfolio liquidity and lower overall volatility when assets are split between the two classes. In addition, the two asset classes are priced in very different ways, so real estate may benefit from conditions where dividend stocks may not, and vice versa. This diversifying component can add to the lack of volatility from real estate investing and increased liquidity from owning stocks to create a very favorable overall portfolio mix.
While investors have many choices in generating income from their capital, we see a mix of dividend investing and real estate investing as quite favorable. The benefits and costs of each asset class can be balanced with an allocation to both, providing important benefits to the asset holder.
Dividend stocks offer long-term capital appreciation and current income, with the prospect of income growth as dividend payments rise. Real estate offers the same potential benefits, but without the volatility of daily asset pricing. Real estate investing and dividend investing, therefore, are two different ways to achieve the same goals.
We see them as complementary – not exclusive.