Relationship between Home, Net Worth, and REITs
Source: P215, ETF for Dummies, 2nd Ed (2011) by Russell Wild:
Your residence, your portfolio
If you bought your home for, say, 0,000 some
26 years ago, and that home is now worth .3
million, I say “Congratulations!” (Yeah, even
though it may have been worth .8 million
in 2005.) But don’t let that bounty affect your
portfolio decisions very much. After all, you’ll
always need a place to live. Sell the house
today, and you’ll presumably need to buy
another (made of a similarly overpriced bundle
of tiles and plywood).
Of course, someday you may downsize, and
at that time you will be able to allot part of the
value of your home to your portfolio. For that
reason, and that reason alone, you may want to
consider that the value of domestic real estate
and the value of commercial real estate, while
two different animals, are related. If your home
represents a big chunk of your net worth, and
especially if you are approaching a stage in life
when you may consider downsizing, you may
want to invest less in REITs than would, say,
a renter of similar means. Or you may forget
about U.S. REITs altogether.
Would someone please explain and enlarge on the last paragraph?
Why would one "want to invest less in REITs than would, say,
a renter of similar means [or] ... forget
about U.S. REITs altogether"?
(1)1 Comments
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The answer is given in the question, but let me give you an example.
You wish to invest in indexed stocks and bonds, with a little bit in real-estate. So, 10% REIT, 40% bonds, 25% US Stocks, and 25% worldwide stocks. That's just an example, I'm not specifically recommending that allocation. You have 0,000 total in these investments.
But. Your house is too large. It's time to sell it and downsize. You plan to do so sometime in the next five years or so. You expect to sell your house for 0,000 and purchase a smaller replacement valued at roughly 0,000.
Now do you see the problem? You don't only have 10%, ,000, in real-estate investments. You've actually got 5,000 in real-estate investments. Instead of accounting for 10% of your total portfolio, if you consider downsizing your house, you actually have 32.5% of your investment in real-estate. Sure, only 10% (well, actually, 7.5%) of your investment is in REIT, but as your quote points out, domestic and commercial real-estate is related, and you are perhaps over-invested in real-estate when you take this into account.
Now, maybe you are happy with almost a third of your portfolio in real-estate. The quote is just pointing out that this is something you should consider. When you are considering downsizing your house, you are considering treating a part of its value as part of your portfolio, rather than just treating your house as a place to live.
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