Why all the hate on 8 - percent that is.

Ryan Fagan

Real Estate Broker · Westampton, NJ · Member since 2014 · 57 posts · 31 votes

11y

The perceived risk to earn 8% in a real estate deal makes the 8% unattractive. There is also an opportunity cost, 8% may be good in your local market but there are markets that you can earn well over 8% with a similar risk profile.

Just my one or two cents.

3 Reply

Jeff S.

Specialist · Portland, OR · Member since 2010 · 3k+ posts · 1k+ votes

11y

I am getting 5% on a house and that is my best deal. Better than most stocks, CD's and bonds. Not to mention that will increase over time. Try that with a bond.

Jeff Rabinowitz

Investor/Landlord · Farmington Hills, MI · Member since 2011 · 1k+ posts · 1k+ votes

11y

Originally posted by @Mitchell Jaworski:

To sum up my hopefully humorous rant; when I find rental properties that will return 8% I'm good to go. Plus, we are not even factoring in the possibility of appreciation, that's just a possible cherry on top of the sundae that is an 8% return! :-)

There is also a possibility of a price decline. Real estate prices do not move in only one direction.

Account Closed

Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes

11y

Mitchell,

Everything comes down to risk and reward. In a flat to declining market, you might as well invest in notes and make better than 8% without the tenant and toilet headache. In an appreciating market like ours, I will take it off your hand so fast that it makes your head spin. In fact, I will take it off your hand if you can give me 6% cash-on-cash return.

Real estate is local. Ditching an 8% return blanket statement doesn't fit all IMO.

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Joel OwensBusiness Member

Moderator

Real Estate Broker · Canton, GA · Member since 2010 · 15k+ posts · 11k+ votes

11y

This varies by asset class and loan size.

Since I do commercial real estate the view is a bit different in scope. We can typically get 15 to 20% coc annual returns with 25% down with a 10 year term loan and a 30 year amort. fixed in the 4's for rate. This does not include annual rent increases, upward trend of rents per sq ft for retail currently, any cap rate compression, or additional space lease up from current occupancy status when we buy.

Unlike owning houses you get scale with more professional management companies. The loans we get are non-recourse. This is great to have because if the market ever shifts and you need to renegotiate the loan you have leverage to do so as the lenders only recourse is to take the property. They would much rather do a workout then have a big loss in a declining market.

With local banks you are getting full recourse against you so they are less likely to budge when a property has problems.

Non-recourse becomes a big deal for high net worth and ultra high net worth individuals. For instance if you put 2 million down and buy one property and get back 1 million over 5 years and the property tanks if they do not renegotiate you might stand to lose 1 million. If you are worth 30 million and your other investments are doing great etc. then it's not that bad to hand the property back.

Conversely if you went full recourse with a local and regional bank and the property becomes a dog over time you have a bunch of risk exposure with the personal guarantee dumping countless money into a possibly upside down property.

My clients tend to buy millions to tens of millions in sales price so structure and how you look at things changes with increasing wealth levels and protecting what you have overall.

I also find clients with say 1 million want to be more conservative because now they have broken free from working for the man etc. and never want to go back to that. Someone at 5 million or 10 million might mix up their risk levels differently by percentages with high risk making up only a few percent of the overall picture.

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Ned CareyPro Member

Moderator

Investor · Baltimore, MD · Member since 2008 · 17k+ posts · 13k+ votes

11y

@Mitchell Jaworski

Well for me it would go into higher rate real estate deals. I wouldn't take an 8% deal simply because I can do better. I don't get particularly interested in anything less than an 18% return.

8% is a tremendous return for most people. As @Jennifer Lee said many would be all over that. If 8% works for you and you find the risk acceptable there is NOTHING wrong with 8% return.

Charles Worth

Investor · New York City, NY · Member since 2015 · 808 posts · 417 votes

11y

@Mitchell Jaworski I think it has to do with a number of things

1) Real estate is a leveraged investment for many so its not really comparable. An 8% cash return for a cash investment in real estate is not great but its not horrible considering with leverage you are at the returns you saw people looking for. Leverage in the stock market is not nearly as easy, the terms are not as good etc.

2) As you know supposedly the higher the risk the higher the return. In real estate there is a lot more risk unless you are buying A+ brand new properties with rents that are really stable. Unlike stocks, there are tons of things that can burn you on real estate, in my opinion a lot more than a stock.

3) Liquidity - Real estate is illiquid with high transaction costs and as such would require a premium because you can't really turn around and sell without a loss because of the transaction costs and even if you want to sell it might take 2 months or longer to sell.

4) Time- real estate takes a lot more time to manage than investing in the stock market.

Mitchell Jaworski

OP

Rental Property Investor · Boynton Beach, FL · Member since 2014 · 273 posts · 197 votes

11y

Love the discussion BPers, many good and informative points!

Thinking I should have said "Where can one get an 8% return OUTSIDE of real estate?" As that was the discussion being aimed for. RE vs. Non-RE investments both have their pros and cons, but in the current environment it seems that 8% is harder to find outside of RE than within it. That's my opinion though.

@Ned Carey @Account Closed - Now I see why you work at All World Realty - that was an all world post! The big #s are definitely different perspective, but the 1 million example I really like. Personally my risk profile would come down as a 5% return would become sufficient to cover the monthly nut so I never have to work for the man again.

Good stuff guys - I just learned even more about real estate while trying to compare it to non-real estate ;-)

Steve Olafson

Scottsdale, AZ · Member since 2014 · 659 posts · 536 votes

11y

I shoot for 100% or more. I will participate in the cashflow game of 8-20% on occasion. The real money is in the ability to take an apartment complex or retail center and figure out a way to add value. Chunks of cash...

Kathryn M.

Investor · Bay Area, CA · Member since 2014 · 63 posts · 77 votes

11y

IMHO:

(1) The reasoned "hate" comes from very, very smart, successful, active investors who wisely use leverage to buy or buy/build value and thus exceed 8% cash on cash. Kinda like asking Warren Buffet if he woulda been happy with S&P 500 returns for his life's investment work (whereas he finds that perfectly acceptable for his wife after his death).

(2) The unfounded "hate" might come from those who don't count properly and take 1-5 years net as their compound annual growth rate over the next 30 years... kinda like quoting REIT returned >30% last year, small cap > 35% the year before... and expect > 15 % CAGR going forward.

Unfortunately I am not in category (1) so will be very happy with 8% unleveraged total return CAGR. I hope to do a bit better, but diversification of inflation and interest rate risk combined with bondlike income is sufficient for my risk profile.

BTW I also "hope" my stock portfolio will do better than 8%... 1928-2014 S&P returns did; 2005 -2014 didn't. http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/histretSP.html and a random sampling of 30 year expected returns look worse from this point (even including small cap, REIT, emerging)

In summary, return is about work, skill and risk. So I believe you can certainly find higher than 8% short term in many investments/businesses (notes an obvious one for BP), but depending on your skills, and risk mitigation, other options may well be riskier than real estate and/or require more active participation than stocks.

Personally, index stocks and real estate are my low risk buckets... startup businesses fall in my much, much smaller 100% loss OK bucket.

Jesse T.

Herndon, VA · Member since 2014 · 1k+ posts · 324 votes

11y

I think where deals with 8% returns generally get criticized is when the deal involves active management and that is a reasonable ceiling on the return.

Getting cash flow of 1500/month on a paid off 225K property is an "8%" deal. For most it would be a very good one. The cash returns(and risks) can very easily be increased on it using leverage. There also is the possibility of appreciation increasing returns.

Putting a down payment(25%) on a 225K property and getting 375/month cash flow is 8% on your cash. For a lot of people it would come down to how confident they are in the numbers and how much hassle it would be.

A 3rd "8% deal" that most would criticize would be a 225K property that is break-even with a 25% down payment. A 2% appreciation rate will give you an 8% return on paper. Even if you get the assumed return, the first year is a wash due to transaction costs.

Brandon Hall

CPA · Raleigh, NC · Member since 2013 · 1k+ posts · 2k+ votes

11y

Mitchell Jaworski Charles Worth touched on the main reason I personally want to see higher returns in his comment about liquidity. Real estate is illiquid relative to other investment vehicles and therefore inherently more risky. I need to be compensated for the increased risk, so I demand a higher return.

Account Closed

Investor · Singapore · Member since 2013 · 1k+ posts · 3k+ votes

11y

In this prolonged artificially low interest rate environment imposed by the Fed, people have forgotten what risk means while chasing yield. Let me tell you why 8% is not a good return for rental income in non high appreciation markets.

1. No liquidity. This money is tied up and the only way to get out fast is to take a big loss

2. Risk of vacancy. You still pay the mortgage. If you are a all cash buyer, its not so bad but you still pay taxes, insurance etc..so a vacant house is a liability. Not true for bonds!

3. Time and Effort. Owning rentals is far from "passive income". Even with a good PM. Its still far more time consuming than bonds.

Given all the above and considering there are easier ways to generate 8%, most investors will scoff at a 8% net yield on a rental property. The exception is high appreciation areas where you take a bit of a gamble on the upside.

Chris Martin

Investor · Willow Spring, NC · Member since 2009 · 5k+ posts · 3k+ votes

11y

I look at it this way. If you have a property where you believe in the "2% rule of thumb" for rent and the "50% rule of thumb" for 'expenses', then you are looking at a 12% return. Many say they can't find 2% deals, so if it's 1.25%, you are at 8%.

The above doesn't consider the (non-cash) expense of depreciation which can possibly defer an owner's current tax liability down to 0. That's gotta be worth something. Throw in the comments on leverage, etc., made above and that 8% looks a little better than some other 8% investment alternatives. My 2 cents.

Andrey Y.

Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes

11y

Originally posted by @Mitchell Jaworski:

Hello fellow BPers. I've noticed alot of posts where people don't consider an 8% return to be worth a deal or feel it is taking on too much risk for an 8% return. Whether it's investing in a turnkey property or a rental - I've seen these comments.

I'm sure there are also those who are all for an 8% return (me included). However, let's put this into perspective compared to other investments.

(Granted, maybe my perspective is different. I began my career as a financial advisor and then day traded for many years.)

If you decide to pass on an 8% return in real estate, then where does one go to get that same return?

Mainly, this is a discussion point, but I'll throw in my 1/2 cent.........

First we can look at the stock market. Ok, you buy a bunch of index funds and hold on as the market returns roughly 8% historically.

That is assuming you retire and cash out at the correct time. All the folks that hit retirement in 2001 and 2007, did they end up with 8% on their money? I mean, atleast with real estate you can hold that property and rent it out for some cash flow (assuming you ran #s and bought correctly) as opposed to selling during a crash.

But wait you say - I'm not selling my stocks either because I only invest in dividend paying stocks. Ok, well let's see what stocks give us an 8% dividend yield.

Throw out all of the blue chip and consumer staples (safe stocks) as they are nowhere close. There are always the oil MLPs (I own some) however, that's a heck of alot more speculative. Most dividends have been cut by 50% or suspended outright due to the recent decline in oil. Bye bye my 8+% until the oil company reinstates (which is alot longer than a property will be vacant, believe me)

So, where else can one get 8% nowadays. Well, there are some high yield bonds that can get you close to that. Though the average rate on U.S. high yield is currently hovering just over 6%.

Maybe buy some bonds from Greece?

To sum up my hopefully humorous rant; when I find rental properties that will return 8% I'm good to go. Plus, we are not even factoring in the possibility of appreciation, that's just a possible cherry on top of the sundae that is an 8% return! :-)

One of my buddies told me he had a good friend, who bought Netflix stock when it was 76 cents ($10k), then sold when it was around $1300, made $10MM and quit his anesthesiology practice. How much do you buy this story? (serious question)

Steven Cheung

New Hyde Park, NY · Member since 2015 · 6 posts · 1 vote

11y

Hi Mitchell,

Without repeating what others have said here - getting 8% elsewhere is not difficult - and chances are, it's less work / more passive, and less risk - but takes alot more time / requires patience.

For example - to get 7% or so, simply do P2P lending. There's minimal work involved, and you can manage this at anytime. No phone calls from tenants. No project management to fix leaky pipes or a broken boiler.

Or, for higher returns (like many others have said), just park your money into an index fund, and you're pretty much set.

So with just those options being present - where you'd just click a few buttons and get these returns, just think - why would someone put in triple or quadruple the amount of time / effort, just to get the same total return?

--

That's the reason why 8% is usually a too low of return for the level of risk incurred.

The key to these levels of returns is simply research and patience.

Brandon Hall

CPA · Raleigh, NC · Member since 2013 · 1k+ posts · 2k+ votes

11y

@Andrey Y. I don't believe that story at all. A simple Google search will show you Netflix (NFLX) never dropped below $4 per share.

Additionally, NFLX has never touched $1,300. In fact it's split adjusted all time high is $980.

If you invested $10k at the IPO, you'd have about $1.1MM in NFLX stock right now, and it's close to its all time high.

No way the guy made $10MM. It's easy to check these facts even if you know little about the market.

Andrey Y.

Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes

11y

Originally posted by @Brandon Hall:

@Andrey Y. I don't believe that story at all. A simple Google search will show you Netflix (NFLX) never dropped below $4 per share.

Additionally, NFLX has never touched $1,300. In fact it's split adjusted all time high is $980.

If you invested $10k at the IPO, you'd have about $1.1MM in NFLX stock right now, and it's close to its all time high.

No way the guy made $10MM. It's easy to check these facts even if you know little about the market.

Really? I could have sworn I saw the chart where it was less than $1/share. It was close to the beginning but not right at inception if memory serves me right. It may have been priceline. Anyway.. I think I will set aside $5-10k a year to mess around in the stock market.. kind of like a Vegas trip ;)

Mike D'ArrigoPro Member

Turn key provider · San Jose, CA · Member since 2010 · 4k+ posts · 3k+ votes

11y

Originally posted by @Jeff Rabinowitz:

Originally posted by @Mitchell Jaworski:

To sum up my hopefully humorous rant; when I find rental properties that will return 8% I'm good to go. Plus, we are not even factoring in the possibility of appreciation, that's just a possible cherry on top of the sundae that is an 8% return! :-)

There is also a possibility of a price decline. Real estate prices do not move in only one direction.

Of course there is a possibility of a decline just like there is with any investment including stocks. To Mitchell's point however, real estate continues to produce an income stream regardless of what the asset price is doing. That wasn't the case in 2008 when people were fully invested in stocks and wanted to retire.

Mitchell Jaworski

OP

Rental Property Investor · Boynton Beach, FL · Member since 2014 · 273 posts · 197 votes

11y

Enjoying the informative posts by BPers.

@Mike D'Arrigo - could not have said it myself! If the value of a property goes down, there is still the 8% return on cash flow alone (assuming one bought correctly). If my Facebook stock goes down, I'm holding it getting nothing until it goes back up.

@Steven Cheung - I use the P2P, it's a nice passive investment, getting about 7.1%. You are correct, hands off for the most part, no headaches. Also, no chance of appreciation (outside of re-investing interest payments for compounding higher returns I suppose, but then you don't get to use that money)

I think the bottom line is - where are you going to get an investment that gives you an 8% return on just cashflow (call it dividends) alone. Plus, has the ability to appreciate. I guess that's what makes it worth the additional risk for me.

Certainly a topic that can be debated forever though.

Mike D'ArrigoPro Member

Turn key provider · San Jose, CA · Member since 2010 · 4k+ posts · 3k+ votes

11y

I believe in a diversified portfolio so this shouldn't be a debate between stocks and real estate, but there are a number of factors that come in to play which give buy and hold real estate a superior return. So far we've talked only about the 8% return on the net operating income. That doesn't take into consideration that real estate can be leveraged boosting that 8% to 20%+ COC return. I haven't found a bank yet that will give a 30 year loan with 20% down for stocks. Then there is equity capture through mortgage pay down courtesy of your tenant. On top of that you have depreciation for tax purposes which offsets a good part of your rental income. All of a sudden, that 8% looks real good.