Why is diversification important in your investments? How to find and vet great operators and partners? Patrick Grimes, CEO of Invest on Mainstreet, shares his advice after being in the business for over a decade.
Why is diversification important? What are the asset classes that you picked to diversify and why have you picked them?
Multifamily is the core of our company, we have over a $500 million dollar portfolio now, and we have workforce housing currently in construction. If you look back over the data that suggests recession resilience and long term appreciating assets, you’ll see that three bedroom two bathrooms are very strong. Then 80+ units is the next strongest asset class. All existing construction where you can buy for cash flow, income generating, and you’re not hoping to build and hoping somebody will pay your premium price, that’s the foundation of most of our investors’ portfolios. But I have lost everything in real estate once. If you read my passive investor guide on my website, you’ll see that it talks about diversifying, it talks about how the middle class has 7-8% of their portfolio in alternative assets. The high income earners are at 25%. Then the ultra wealthy is at 50%. If you want to invest like the high income earners, the ultra wealthy, you’ve to get out of those 401k’s in the stock market, or IRAs in the stock market, or peel some of that off into a self directed variant which allows you to invest. Maybe your financial planner has you in the more stock markets or you’re day trading.
You have to think about what are assets that are non correlated to the stock market. Like real estate, it’s on a different market swing. It does not trend up and down with the stock market or energy. The government subsidizes housing, energy and food. Energy is also a completely different asset class. It doesn’t rise and fall with the stock market. Right now I think we’re really pushing those two. This quarter, we’re actually launching an affordable housing, single family, three bedroom, two bath diversified portfolio that allows for government guaranteed rents and rental increases, and a high cash flowing asset in a year that it’s going to be very hard to get cash flow, because with interest rates going up, cash flow is going down. And valuations are waning in real estate. But if you invest in more stabilized assets that are subsidized by the government, you can have a very strong cash flow.
Similarly, if you avoid interest rates all together and get into a debt free fund, where you’re doing oil and gas drilling right now, like in our diversified energy funds, and you’re not just in one well where you could miss it, you’re actually in a lot of wells in various regions, just like in a large multifamily building, there’s lots of units and if one burns down or has a flood, you’re fine. In our case in the diversified funds, if one weld doesn’t hit, you’re fine. It washes out in economics. And we split between half oil and half gas. If you look at the political nature right now of those two macro economic political conditions with Russia misbehaving, and Europe pulling out of natural gas, squeezing the Western supply of natural gas, and OPEC threatening to dial back production by 2 million barrels a day, getting oil back up to 120. You’ve got all these tailwinds. And you see a future bright in natural gas, and oil cash flow going up, valuations going up in natural gas and oil. It’s because it’s non correlated, diversified from real estate, non correlated to diversify from the stock market. We have other assets that we’re bringing on this year, but with the intent of helping our investors invest like the wealthy, in assets where, maybe they’re not the lowest risk assets, but you’ll have a lower risk portfolio in any market by diversifying into these specific vehicles.
What is your process for deciding who you partner up with for these different asset classes?
Having been somebody that lost at all, having lost at all doesn’t mean you’re not a good partner. In fact, I just spoke on a stage in Chicago in front of hundreds of people in economics. The question was How to do deals today, and would you do deals in today’s economic environment? – everyone said yes for sure. But we were all talking towards how we saw the demand shift in 2009 and 2010. And how we saw the economic models breakdown and the financial systems. We were speaking from a lens of experience of being raked over the coals, and seeing how things fall apart. You’re looking at people that made it out, and people that continue, but with better education and knowledge. I think that is part of what I look for in partners, is somebody that has been a little bit like me, and had some really rough times, but came out fighting, and now speaks from a level of understanding and made it through the failure, they didn’t just go crawling back to whatever their job was, but fought their way out and now are moving forward.
There are a lot of things to look at. But the general items are: are their investments recession resilient? Are they structured in a way like our real estate deal is, does it have six months of reserves so that if a financial disaster or natural disaster storm hits the property, you can ride it out? Are they fixed interest rates? Or are you at risk of losing all your cash flow, or maybe the building, which I know of several dozen now that are in threat of that this year. They didn’t either get interest rate caps, or fixed interest rate. But most importantly, they didn’t put enough down, so that their breakeven occupancy, which is the amount of occupancy they can have of not paid rents to pay their bills. They didn’t put enough down to get that down below where they, in the past recessions have dropped in terms of vacancies. And what happens when their interest rate rises to their cap and they find themselves underneath. If you haven’t been through a downturn and haven’t seen all this happen, it’s hard to even understand the questions and to appreciate the value, because you’re looking at Patrick’s deal only as a 16-17% IRR. I can get you 18, 19, 20%, but you might lose it all, because this deal is going to preserve my capital. And it’s about being that tortoise instead of the hare.
That’s really what I was when I first started, I was trying to double my money every year. And now I’m looking for that long term legacy wealth. And diversifying with the energy space. We’re looking at operators that have been doing business for 20 years. I joined the board of an energy company that’s been in business for 20 years, that’s a lot of years in a very volatile and risky space. Actually, the founders have been doing this for 30 years and he is the third generation. He has seen things fall, he has seen things rise, he has had deals go great. He has had deals go bad. And he has continued to improve and build diversification and protection from some of that downside. They’re the only guys I know that are actually building a diversified fund the way that they are, with leases inside the fund so you have some tangible asset, dozens of wells inside the fund, you have scale like you do in a multifamily and an exit so you can get in and get out. And that mindset is what I’m looking for, that humbled person from the past, with lessons learned, and an articulated storyline of here’s how we are better than we were then.
It’s definitely very important to know what to look for when evaluating an operator, the estimated numbers are very easy to change and a wise investor must know what to look for.