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A cautionary story on real estate investment and FI.

Sat, 19 Sep 2015 00:06:37 -0700

There’s a huge amount of enthusiasm for real estate investment in this subreddit, and for totally understandable reasons. For the most part we want FU money as quickly as possible, and, with current equity valuations and bond yields, the returns one could get on leveraged rental properties are incredibly attractive. I’m very guilty of spending a lot time reading about RE investing and running numbers. I live in a city in a growing metropolitan area with a very robust economy, with no evidence of a property bubble, and I’m now at a point where I could afford the down-payment on a sizable apartment building or complex.

So, as a sort of counterpoint to the story from the guy in Kentucky with a couple dozen rental apartments, I wanted to share a brief story that explains why I will never invest in real estate.

TLDR so you can skip a story with too many numbers - As we all know, undiversified assets have real risks.

When my Grandfather was born in Detroit in the 1910s, the population of Detroit was ~500,000, and the region ~750,000. The Great Depression when he was in his teens left him with an unfortunate weariness of stocks, but the growth of Detroit was pretty remarkable. By 1930 ~1.6 million people lived in Detroit, with 2,382,195 in the region (up 62% in just a decade). This growth continued through the 1930s, and was still in full force when he returned to Detroit after 6+ years in the army in 1946. He and my grandmother became real estate brokers, and they invested everything in Detroit real estate. For a while this looked like a great idea. By 1950 Detroit population was ~1.85 million, with 3,344,793 in the region. In the 1950s and 60s the population of the city proper declined slowly, but the region as a whole continued a healthy expansion with 4,736,008 in the region by 1970.

He retired in his late 60s in the 1970s, and figured that he was in pretty good shape. Of course things didn’t turn that well. The bottom really fell out on Detroit in the 70s (-20% population), and things managed to only get worse in subsequent decades. -15% population in the 80s, -10% in the 90s, then things have really accelerated downwards in the last 15 years, but well before then 100% of my grandparents’ investments in Detroit were worthless. They were entirely dependent on my Dad and his siblings for the last 15 years of their life. When he died in Detroit 5-6 years ago in his late 90s, the population there was about equal to what it was when he was born.

Now obviously this isn’t the entire story, for starters he had a massive MI in his 60s, and I doubt he was planning on living ~30 years in retirement (although we are…), but there are several points from this to consider above and beyond the risks of tying your fate to the fortune of one city or region.

  1. It’s very difficult to differentiate a cyclical decline from an absolute decline before it’s too late. This mainly applies to investor’s enthusiasm for “buying the dip” on failing companies, falling for value traps etc..., but consider that my gut reaction when telling this story is to think there’s no way that I would have held onto Detroit property through the 70s and 80s. In reality, I probably would have seen a local decline in values as a buying opportunity. After all, with 6 decades of experience with a dynamic, diverse and resilient city means more than a couple years of decline in manufacturing.

  2. The longer time scales make it harder to appreciate, but cities and regions, just like companies, have life cycles. I don’t really know how best to apply this idea. I’m not suggesting that London or Manhattan real estate might some day be worthless, but maybe Detroit could be a cautionary tale for the bulls in Silicon Valley?

  3. The retirements we’re hoping for will last a long time, a lot can change in that time, and any miscalculations on our part could have serious implications for children. My grandparents had a military pension as well as SS/Medicare, and the cost of 24 hour care for the last couple years for their life was huge. It didn’t bother my Dad, but I know for a fact that his older brother is still working as a lawyer today approaching the age of 70 because he hadn’t planned for those 15 years of growing extra costs.

As a final note, I’m really not trying to talk anyone out of real estate or suggesting that it’s not a perfectly valid path to retirement. There are dozens of arguments in favor of real estate that I ignored. I just want to stir the pot, start a discussion, and share a story.

submitted by AldolBorodin to financialindependence
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