Spencer is the CEO of Madison Investing, a real estate investment club that focuses on cashflowing assets in high-performing markets.
As an investor, the stock market often becomes the default choice for investment. I was once among those investors, and I spent 13 years in Silicon Valley tech companies and maximizing my annual 401(k) contributions. However, I have learned that relying solely on the stock market or correlated assets can expose your portfolio to risks. Hence, I believe investors should consider constructing a diversified portfolio that extends beyond the stock market.
In 2018, my investment journey underwent a transformation when I ventured into real estate syndications encompassing various asset classes. From my perspective as the CEO of a real estate investment club, in today’s economic landscape, characterized by a pandemic and interest rate hikes, the ability of an investor’s portfolio to withstand a recession is more important than ever.
Understanding Diversification
Diversification involves spreading capital across multiple asset classes to increase the likelihood of achieving long-term investment goals. This approach offers investors a way to spread their risk in an effort to reduce the impact of market fluctuations on their overall portfolio. Additionally, diversifying your investments can help provide recession resiliency and act as a hedge against inflation.
Traditional investments such as stocks don’t always offer an adequate hedge against inflation because stock values are correlated to market performance. Examples of alternative assets that can help offer downside protection from inflation and are less correlated to the stock market include:
• Real estate: In my experience, real estate investments have the potential to offer cash flow, appreciation and tax benefits.
• Commodities: A commodity such as precious metals has the ability to retain value during economic downturns and market volatility, while also demonstrating low correlation with other asset classes. Another example of a commodity is art and collectibles, which also have the potential to offer a long-term return on investment and have little, if any, correlation to the stock market.
Tips For Effectively Diversifying Your Portfolio
1. Determine your investment goals.
Are you looking to generate income, grow your portfolio or both? Determining your goals will inform your investment strategy and help you determine the right mix of assets for your portfolio.
To ascertain my investment goals, I devised a comprehensive five-part framework to guide my decision-making process. Central to this framework is identifying my investment objectives. Currently, I aim for a blend of monthly cash flow and long-term appreciation. But for investors focused solely on retirement and maintaining their wealth, a long-term appreciation play might not fit their strategy. When evaluating real estate syndications as an alternative to conventional investment strategies, one of the initial inquiries I pose to prospective investors is, “What is your intended purpose for the funds?”
2. Evaluate your risk tolerance.
Consider your age, income and investment goals when making this determination.
Having established the purpose of your investment funds, let’s now employ my five-part framework for vetting a sponsor to make judicious decisions that effectively mitigate risk. The first step entails identifying the syndication or fund manager, known as a general partner or sponsor. To gain insight into their capabilities, consider the following criteria:
• What’s their track record?
• Who constitutes their team, and what’s their approach?
• Does management communicate in a transparent and timely way?
• What are the operating values of the team?
• Do they prioritize the quality of life of tenants or regard them as statistics while neglecting the impact on the communities they serve?
3. Explore different asset classes.
Investing in assets that aren’t correlated with the stock market can help spread your risk. Wondering how to choose asset classes that align with your investment strategy? My advice is to conduct thorough research. Familiarize yourself with options that correspond with your short- and long-term goals.
For example, when I started rethinking my investment strategy, I gravitated toward hard assets like real estate. I began with local single-family rental properties, then properties across the country and eventually invested in larger properties such as multifamily apartments and self-storage facilities. This progression has proven effective for me personally.
4. Allocate your assets.
This means balancing your portfolio to achieve your investment goals while minimizing risk. For instance, some investors might decide to transition their 401(k) account into a more adaptable option that enables more flexibility and allocation choices for retirement funds.
5. Maintain your portfolio.
Regularly reassess your portfolio to maintain the optimal mix of assets and ensure alignment with your evolving goals.
I’ve learned that it’s key to regularly revisit my short- and long-term goals. As a husband and father, my goals naturally evolve over time. When embarking on my journey, I fixated on rental properties within my local market, which, given the high purchase prices and overall returns, proved to be an unfavorable choice for me personally. I then ventured out of state, seeking a more fruitful outcome. While these investments generated cash flow, it became clear I wouldn’t achieve my goals within my time frame. Hence, I adjusted my strategy again.
Diversification has the potential to help you build a strong investment portfolio. Consider your goals, risk tolerance and asset allocation to effectively diversify. By following these steps, you could better protect your investments, navigate market volatility and achieve your financial goals.
The information provided here is not investment, tax, or financial advice. You should consult with a licensed professional for advice concerning your specific situation.
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