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How and why you need to diversify your real estate portfolio

How And Why You Need To Diversify Your Real Estate Portfolio
by Guest Author, posted in Investment Strategy

The following is a guest post by the team at Goodegg Investments, which helps busy parents invest passively in real estate syndications (group investments) so they can build passive income and create true wealth for their families.

Whether or not you have money invested in the stock market, you’re likely well aware of the roller coaster ride of stock market investing, particularly over the last several months. Money that seemed to be growing steadily just a few months ago can suddenly be wiped out overnight, disappearing into thin air.

Real estate investing, on the other hand, tends to be a much steadier investment and is backed by a physical asset, making it much more difficult for your investment to disappear into thin air.

However, despite the benefits and often lower risks that real estate investing can provide, not all real estate investments are created equal. In order to mitigate the risk of your portfolio overall and to ensure ongoing and steady growth, you need to diversify your real estate portfolio across different asset classes, asset types, geographical markets, and more.

The Importance Of Diversifying Your Real Estate Portfolio

We don’t know what will happen in the future, or when, but based on historical data, we know that corrections and recession happen in cycles, so if we’re not in one now, one will be coming up. And likewise, if we’re currently in a recession, a recovery will be coming up soon. Thus, it’s important to do everything possible to hedge your bets and prepare to weather those storms and invest for long-term growth.

One of the most powerful strategies you can use to maximize the long-term growth of your portfolio is diversification. You can even diversify within real estate itself, without venturing on to other investments like stocks, cryptocurrency, etc. Through investing in a variety of different real estate assets, you can lower your overall risk and increase your chances of higher long-term returns.

Let’s talk about the top 5 ways to diversify your real estate portfolio, so you can protect your investments.

#1 – Diversifying By Asset Type

The variety of different asset types is one of the things that makes real estate investing such a unique investment. You can choose to invest in everything from single family homes, to small multifamily properties, to large apartment complexes. You can invest in retail, industrial, office space, self storage, and more.

There’s value to be added and money to be made in all asset types. By investing in different types of assets, you can hedge against broader macro changes to the economy, like the shift we’re currently seeing in the retail space with the growth of ecommerce or the move away from physical office spaces in favor of remote work.

#2 – Diversifying By Geographical Location

Real estate is hyperlocal, meaning that while one city might be booming, a neighboring town might be experiencing a slowdown. By diversifying across different geographies, you can take advantage of the ups and downs of various markets and hedge your bets against a major correction in any one market.

If all your real estate holdings were within one market, and that market were to hit a slowdown, your overall portfolio would be in jeopardy. However, if you had one investment in Dallas, another in Orlando, another in Charlotte, and so on, the impact to your overall portfolio would be much less pronounced.

When diversifying across different geographies, look for markets with high job growth, population growth, and job diversity. This will ensure that the market you’re investing in is on the path for strong growth in the coming years.

#3 – Diversifying By Asset Class

When diversifying across asset classes, it’s important to understand a bit of human behavior during booms and busts. Let’s use apartments as an example. In good times, people tend to rent bigger and more luxurious apartments in nicer areas. In tough times, they might need to downsize, find a more moderately priced apartment, or move across town.

There are asset classes that fare well in good times, and asset classes that fare well in bad times. Because real estate is cyclical, and because no one knows when the next recession will hit, it’s important to diversify across asset classes, to ensure your portfolio is profitable in all parts of the market cycle.

#4 – Diversifying By Strategy And Hold Time

Another great way to diversify your portfolio is to change up your investment strategy and hold time. While one rental property you pursue might be a buy-and-hold, another might be better suited for the BRRRR strategy (buy, rehab, rent, refinance, repeat). Diversifying by investment strategy, even within a single geographical market, could be a good way to hedge against a downturn.

As for hold time, perhaps you have a shorter horizon on certain properties and might anticipate selling in a year or two due to market conditions or your investment strategy for those properties. For other properties, maybe you have a longer horizon and anticipate holding those for many years or even passing those down to the next generation.

#5 – Diversifying By Active Vs. Passive Investing

Finally, introducing a mix of active rental properties and passive real estate syndications (group investments) can be a great way to diversify your portfolio.

Whereas rental investments tend to be smaller residential properties, passive syndication investments tend to be larger commercial properties like apartment buildings.

Further, with your own rental properties, you manage the asset and business plan yourself, whereas with a syndication, you leverage the experience and track record of professional syndicators, which can sometimes introduce new strategies and new markets to your portfolio.

Next Steps For Diversifying Your Portfolio

As history has shown us, the real estate market is cyclical. What goes up must come down, and what comes crashing down will sooner or later climb back up. The key is not to try to time the market but to spread your investments out into different asset types, geographical markets, asset classes, and investment strategies in order to minimize your risk and maximize your potential for steady long-term growth.

Start today, by taking some time to evaluate your existing investments, whether in real estate or otherwise. Take note of the risks and benefits of each investment, then evaluate your portfolio as a whole for potential pitfalls, as well as long-term growth.

If all of your investments are in a single asset class or market, choose one strategy to diversify your portfolio. It won’t be easy to step outside your comfort zone and try a new type of investment, but in the long-term, diversification will strengthen your overall growth.

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