More than a decade into a bull market, we are often asked how we feel about investing today versus staying on the sidelines and waiting for “real” opportunities to arise. In this post, we uncover a few common misconceptions around the “right” time to invest, whether in stocks or real estate. Most interestingly, the data suggests that regardless of asset type, it rarely pays to wait.
Is it possible to time the market?
It’s tempting to look back on any stock chart and convince yourself that with the right perspective, you might be able to “call” the next turn in the market. Of course, hindsight is 20/20. But sophisticated investors and advisors generally recognize the exceptional difficulty (or luck) associated with market timing. As a result, the more common recommendation is a “dollar cost average” approach to investing: put money into the market on a regular basis to achieve long-term returns in line with overall market performance. For those who do decide to “wait for a dip,” numerous studies have shown that the opportunity cost of sitting on the sidelines typically far outweighs any ability to buy stocks cheaper down the road.
A few more recent studies take this idea one step further: what if I have a lump sum of money to invest today? Should I invest it gradually over, say, a year? Or should I put all into the market right away? While it may seem counterintuitive, historically it has almost always made sense to invest that amount immediately. A well-known Vanguard study published in 2012 illustrates that, going all the way back to 1926, a lump-sum investment in stocks or bonds would have outperformed 12-month dollar cost averaging roughly 65% of the time. On average, an investor who put $1mm work immediately would have ended up with $55k more after ten years than by using a dollar cost average approach.
Is real estate different?
But what about real estate investing? We frequently hear the claim that real estate cycles are easier to predict. Which means investors often see less risk in waiting for the market to turn and for bargains to arise. Not surprisingly, history suggests otherwise.
First, private real estate has historically experienced less frequent “down years” than the stock market. Somewhat related, as the chart below illustrates, US real estate over the past 20 years has proven resilient across any five year period, across market cycles and inclusive of the financial crisis from 2008-2013. These dynamics suggest that while successfully “timing” the real estate market is challenging, there can be a real opportunity cost to waiting.
Source: NCREIF. The 5 year rolling return represents returns of an index - it is not possible to invest in an index, and the index presented represents investments that have material differences from investments offered by Cadre, including differences related to vehicle structure, investment objectives and restrictions, risks, fluctuation of principal, safety guarantees or insurance, fees and expenses, liquidity and tax treatment.
But what about today specifically?
Of course, if we saw clear warning signs that pointed to an imminent downturn, we might be tempted to raise a red flag and suggest investors wait. Within the commercial real estate market, we identify three factors that have historically caused periods of underperformance:
- Too much debt
- Too much supply
As a real estate manager, we’re not in the business of predicting the timing or severity of the next recession. But we do believe we are able to take a view on real estate debt and supply. In both cases, we see little cause for broad concern.
Debt: Commercial mortgage debt has historically grown slightly faster than nominal GDP. Since the financial crisis, the US has seen a multi-year deleveraging, followed by a few years of credit growth roughly in line with the long-term average (see chart below). Anecdotally, lending standards, especially for new construction, remain significantly tighter than pre-crisis.
Source: Federal Reserve Bank of St. Louis
Supply: We identify certain pockets of oversupply across the country (for example high-end residential in New York City), but do not see an acute risk of broad-based oversupply in the system. The chart below illustrates this relative dearth of new commercial real estate construction in recent years.
Supply of Commercial Real Estate
Source: Legg Mason: Rising Development Costs - A Silver Lining for Commercial Real Estate?
Given these dynamics, we favor an approach that treats real estate as a permanent allocation within an investor’s portfolio alongside equities, fixed income, and other alternatives. We welcome you to review our other posts where we address questions around the sizing and composition of this allocation.
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This post was updated in February 2020.
Based on number of negative return years for NCREIF-ODCE index and S&P 500 since ODCE index inception (Dec 1997). ↩︎
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