Does the Warren Buffet method work in Real Estate?

Question

Warren Buffett when asked about his time horizon for investments. He answered with "Our favorite stock holding period is forever.”

That got me wondering about real estate as I know folks in the boomer generation that have never sold a building and have done amazingly well just maintaining and renting out their assets over 50+ years. Their rents to equity in the buildings are not the best, but they have low to zero debt, and don't have to worry about the rental payments to cover their debt loads and have equity lines available when opportunities become available. Their investments have become truly passive.

I am a lot younger in my investment career and empire building, but have properties purchased in 2009  that are in that scope. Purchase for 60Kish and now valued at 225-250K with rents around 1,250 monthly. They are paid off in full with equity lines available if needed. Wondering if the adage of buy and hold forever works the same for real estate as it does for equity investments. As it seems like once the depreciation schedules have run their course it would make sense to 1031 out to re start that depreciation clock, or would it be better to take the advice of Warren and keep the asset forever.

Bill F. · Answer

Not to go terribly off topic, but Warren Buffet's style of investing is called Value Investing, pioneered by Ben Graham in the 1930's. He is not it's sole practitioner by any stretch of the intimation .

@Drew Yee That's not the entire quote:

“When we own portions of outstanding businesses with outstanding managements, our favorite holding period is forever.”

So now the question is:

Is that house still an outstanding investment with outstanding management (you)? If its isn't, what will you invest in that yields you a higher returns for a comparable about of effort and risk? If you can't find anything, stay with the invest you have. Sub optimal yield is better than a capital loss.

If you want to learn more about value investing, start with The Intelligent Investor by Ben Graham. That will let you know if you have the temperament and abilities to be a value investor. It also gives you other alternatives if you don't fit the mold.

@Alexander Felice funny running into you again!

I'll agree that Buffet could not use the same tools and methods he used to get started in the 1950's today with nearly the level of success. However, many value investors much younger than Buffet continue to use value investing principles to regularly outperform the market.

Alexander Felice · Answer

Warren Buffet lived through an economy we won't have. So yes his method works, but if he started now and did the same thing he wouldn't make as much money.

Let me explain better. The method will work, but the degree to which you see success is different because the markets and rules for each medium are different.

if you buy good deals and hold them forever, you'll be rich, no doubt, but that's an oversimplification of strategy. It dismisses the complexity and financial changes in business and their environments, this is what you've noticed on your unit, correctly.

The quote said, our favorite holding period is forever, ok but that's not what they do in practice. In practice they sell stocks all the time, and you should too. @Caleb Heimsoth is right, if Buffett had stock that had been profitable but is not underperforming, like your property is, he would sell, and you should too.

you've made a lot on that house, but now the return on equity is lousy. Good problem to have. Sell it and buy another underpriced asset to repeat the process.

btw congrats, you have a good problem on your hand ;)

Bill F. · Answer

@Drew Yee sounds like you have answered your own question then. I think Mr. Buffet has a quote for your situation.

“When forced to choose, I will not trade even a night’s sleep for the chance of extra profits.”

You have your equity lines ready for when an opportunity presents itself so it looks like you are all set.

“You do things when the opportunities come along. I’ve had periods  in my life when I’ve had a bundle of ideas come along, and I’ve had long  dry spells. If I get an idea next week, I’ll do something. If not, I  won’t do a damn thing.”

Drew Y. · Answer

@Bill F. I totally agree with you Bill , and yes I have read the Intelligent investor, Security Analysis and a number of other financial and tools and resources. I am a value investor at heart, hence the perceived thought of keeping these properties and continuing to re-investing the "rents"/dividends into other properties. Hence the time horizon of forever. Not sure if  I should sell my "Coca Colas" for some "Tesla and Nivida"

To answer your question:

The business is performing, the units are self managed (hopefully awesome ) , and the alternatives are risker and frankly less appealing. I basically make take check the properties once annually to make sure the tenants and house is in good standing.

My concern is that my opportunity cost of deploying the equity in the buildings might not out weighing the low returns on equity I am receiving. But if I deploy to assets to a large complex or out of state and more units my "head ache" cost would increase.

Dave Foster · Answer

@Drew Yee, No model works for everyone - no matter how good it works for one person in one situation that does not carry over to every person in every situation.

It does sound like you've got some assets that are under producing as a return on asset.  You're still killing it as a cash on cash return.  So to stay or expand either way is going to depend on your risk tolerance and the movement of the market.

One thing 1031 wise that struck a chord was your statement about resetting the depreciation clock with a 1031.  It doesn't work quite that way.  In a 1031 exchange your basis in the old property is carried forward so if you buy for just as much as you sell you will not get any more depreciation.  However  you can buy additional depreciable basis by purchasing more than you sell.  The amount of your purchase that is greater than your net sale becomes additional depreciation.

Still a great plan to do that to get additional depreciation.

Michael Randle · Answer

This is really subjective. Your strategy should go with what your goal is. You mentioned empire building. That leads me to believe you want 'more', but why? Have you ever sat down and done a budget of, 'I need X amount a month to be set'? How close to that amount are you?

Does buy and hold forever work in real estate? Sometimes. Buy and hold in Detroit, Pittsburgh, Baltimore  from the 1970's forward probably was a bad idea. Buy and hold in Pasadena Beach, or Miami Beach from the 1970's has paid off huge. If you can guess right you can clean house, if you guess wrong you have to hustle to unload bad assets.

Has Warren Buffet been accurate all the time? No. Has he made mistakes and missed opportunities? Yes. Does Warren Buffet have the best ROI in the last 5 years? No. Yet we still (rightfully) associate Warren Buffet with successful investing. It is because he practices a very structured, disciplined, long term, low/no debt investing. What is generally equated in the real estate terms as 'old man real estate'.

If you want to take the risk you are still young and using leverage will boost you up to that next level with all the equity you have. And mathematically that is best. But before you do, ask yourself why you are doing it. And see if maybe another strategy will get you to your goals.

/2c

Dennis Tierney · Answer

Drew:  You mentioned you want to increase your "empire" and selling and doing a 1031 is certainly a way to do that but a less stressful way would be to use your line of credit to purchase additional property and thereby increase the "velocity" of your money. Your current equity build up is lessening your return on equity and using it for new purchases makes good sense as long as you don't overdo the leverage, which you seem unlikely to do.

Daniel Akerman · Answer

Don't discount out of state or long distance real estate investing. Done correctly, it's really not that different from investing locally. @David Greene is a great resource for learning about how to do this, and his book is available here on Bigger Pockets.

I'm in NYC and originally from SF. I know how challenging it can be to find good returns in those areas. If you have assets with significant equity, and you use that equity to purchase in areas further afield with much higher return rates, it could be huge for you. What is necessary is good research on the front end, and a good team to delegate the day-to-day to. It can be done and IS done by many people every day, without any significant increase in "headache factor." Consider it.

Daniel Akerman · Answer

@Drew Yee The short answer is YES.

However, the quote you provided doesn't really describe Warren Buffett's approach. It only describes his holding term.

Warren Buffett's approach is more accurately stated by saying he is a value-based investor. In other words, he looks at the underlying fundamental value of the asset, independent of external factors and market directions, and weighs that against the price to purchase the asset. If the price is far enough below the underlying value, there is "margin" or "equity" there. That means, the minute he buys, he's already made money because he knows he can sell at a higher price.

This is PRECISELY what a good real estate investor does. They look for properties that are underpriced enough against the underlying value that they can be re-sold (perhaps after some improvements) at a higher price, for a profit, once all expenses are accounted for. A good investor makes their money when they BUY. A purchaser, whether in securities or real estate, who is looking only at future appreciation, is not truly an investor -- they are a speculator.

Questions of 1031 exchanges and so forth are, I think, a little besides the point. So are questions of return on equity. The fundamental guiding principle, which guides the initial purchase and all subsequent purchases is what has made Warren Buffett so successful and what you can use in real estate as a basic foundation to your analyses and purchasing strategy. Whether you hold it forever or use other strategies to have higher return on equity is almost besides the point, because you have to make the smart purchase to begin with, and that is what Warren Buffett has done so well.

Does the Warren Buffet method work in Real Estate?

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