Real Estate Investing 101: Importance of Portfolio Diversification


Created on Tuesday, September 19, 2017
Updated on Monday, February 26, 2018
by Land Century

Real estate is like any other investment - you need to diversify your portfolio. If you have a portfolio filled with only one type of real estate, you're putting yourself at a major risk. The goal is to have a healthy dose of diversification so that your portfolio can withstand major market fluctuations along the way.

A good example of this is owning homes only in Florida.

While the industry might be booming, what happens when it's no longer booming? You don't want to sell, but if you need money, you'll sell at a loss in some cases. Instead, a diversified portfolio will allow you to either continue to make money during hard times or sell assets that are still high valued.

How to Diversify Your Portfolio

You're probably wondering how you can possibly diversify your portfolio, and the answer isn't simple. Everyone has their own financial needs, and there's no exact breakdown for people to follow.

Everyone's risks and needs differ, but you first need to know the different investment options open to you.

Home Ownership. You can own a home, whether or not you rent it out is up to you. The idea is that the home's value will appreciate, allowing you to sell it in the future. You'll need to pay insurance, mortgage premiums and also pay for maintenance as it pops up. This is a costly way to invest if you don't live in the home, but it can also provide a large return at the end of ownership, too.

Rental Properties. A great option to make income while investing is to rent properties out. You can do this in several ways, but the easiest is to let someone else worry about collecting payments and setting up maintenance and repair schedules. There are costs involved with rentals, but if the rental property pays for itself, you'll have an investment that's not costing you a dime while also accruing value.

Income Generation. A rental property is essentially an income-generating property, but we're talking about something slightly different here. Instead of renting the property, you can work it. This is a great option for land owners because you can choose to do a lot of things: rent the land to hunters or farmers, harvest timber on the land, or even farm the land yourself. This may provide small income levels, but you'll still be able to make a return on your investment and at least pay for your upkeep and property taxes.

Land. When you choose to invest in land, you're purchasing an asset that will continue to grow in value. The idea is that we can't make any more land, so it makes sense to invest in land, especially in areas where construction is expected to pick up. If you own land, you'll also have the rights to the minerals (in most cases) and you'll also be able to work the land if you choose.

Flips. A lot of people are getting back into flipping homes, and this is a massive money generator in itself. The idea is to buy a home, fix it up and sell it for a profit. This is a massive undertaking, and there's a lot that goes into the process, but it works. You'll need to either contract someone to do the work for you, or learn the ins and outs of the process yourself.

As you can see, these are the main investments in real estate that you can add to your portfolio. If you want to choose a route that is more aligned with stocks and the market, you can also add REITs into the mix.

This type of investment allows you to invest in real estate that is owned under the REIT and receive income from the investment.

For example, these REIT portfolios may include apartment complexes and shopping malls. You'll need to do your own due diligence on which REIT to pick, but it's a great way to invest in your future, even if you don't have a lot of money available at the moment.

Possible Diversification Options

You have a lot of possible diversification options at your disposal. As you can see, there are a few major ways that you can start to invest in real estate. Which method is best? None of them.  There's no one-size-fits-all approach that works best for everyone.

You need to diversify your portfolio by allocating your resources properly.

A lot of investors will recommend choosing a 25% allocation for each financial vehicle. This means that you would maintain a portfolio, for example, with:

  • - 25% land

  • - 25% rental properties

  • - 25% homes

  • - 25% income generation

Or, if you want to flip homes, this can obviously be added into the mix. Then, you also need to consider costs and how much you have to invest in your real estate portfolio. You can invest $1,000 easily in land, and this wouldn't be a bad option.

A lot of people will invest in small increments, but this also eliminates a lot of the high-end gains that you'll experience with flips or owning a home for the long-term.

So, what can you do in this case? You either:

  • - Save your money and buy on the cheap

  • - Buy land or another cheap real estate option

If you choose to buy land, you might get lucky and be able to flip it in the future. The idea is to use your initial investment to fuel future investments. Some people have started with just a small piece of land and have been able to build their portfolio to include several different options.

Your diversification is only going to be as good as your cash flow. If you don't have the capital to invest, you'll need to invest in land and start saving for rentals or income-generating properties. The right portfolio will provide: long-term security along with short-term income generation.

If you're a retiree who can't wait for a home's value to skyrocket, you may not want to invest in some real estate options, some rentals and some income-generating options which provide an income now.
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