Is your portfolio real estate heavy?

A friend of mine came to me asking if there were good investment opportunities in real estate. I was wondering why real estate, as he already had 2 houses. One he was staying in and another on rent. He used to save money and he had enough to make down payment, he would invest in real estate under development project and then keep paying off the loan. Now he is 53 and he want to purchase another flat. On probing he said real estate gives good returns and the rentals would give him regular income. While it is true that there will be appreciation, but when he needs the money liquidity would be an issue. Selling a property is time consuming. Another issue is market prices of real estate are opaque. When you actually try to sell, you will get a much lower value than you actually believe your property is worth and if you really want the money urgently, you would have to give further discount and also with a lot of running about. .

The other issue would be even for a small value you would need to get rid of the whole property as property is indivisible. We always look at the rental income, but we usually tend to discount the expenses which we have to bear on the property on a regular basis viz. property taxes, repairs, painting, maintenance bills, etc.  There could also be times when the property will be vacant. Now what happens is people who talk of investing in property always talk in absolute value terms, if you acutally look at the returns it would be around 3% of the current value. So in such a situation any other investment would have given better returns. But then they will not understand as they are emotionally attached to real estate. So I told this friend that not more than 50% of his portfolio should be in real estate. He said I’ll get back to you and I am still waiting.

Contingency Funds

In today’s world anything can happen and if you have cash in hand you do not have to worry, but if you keep too much in cash there could be a loss of earning. Therefore it is very important to have contingency funds to meet unexpected expenses. These days there is no guarantee of a job and people get laid-off overnight leading to months of unemployment or there could be an accident or major illness. In all these circumstances contingency funds come hand. How much money should be kept aside for such contingencies is a big question. Though you would have planned for your major goals, it is very important that you plan for your contingencies as well. You might have credit cards to meet some major expenses, but in case of loss of job or accident or major illness, how would you repay these expenses?

Hence a financial plan should include a plan for contingencies, this includes a health and accident insurance plan. Now health and accident could take care of a part of the contingency, what would happen if you lose your job. You still have to fend for yourself and your family till you get a new job. Some people might say keep 3 months expenses while others might say 6 months, all this depends on the type of job you hold and how long you would take to find another job. If you have Hugh EMI’s or Insurance premiums needed to be paid I would suggest that you keep aside 6 months expenses including EMI’s and premiums. Now that you have decided how much you need to keep aside as contingency funds the next question would be where should I keep it?

Remember that these are contingency funds and you should be able to access them when you need them. The nor mal suggestion would be to keep one month’s expenses in a saving bank account, another months expense in a liquid fund and the balance in short term debt fund. This way when you need the funds you will be able to access them fast and you would also earn some income out of it. The best part would be that this would automatically grow over a period of time. My suggestion is that you review you contingency requirements every quarter and if you find that the amount required is increased, check if the increased funds are available, if not keep additional money aside.