A PROSPECTIVE client e-mailed financial planner Thomas Grzymala last month, seeking his advice on building a portfolio of primarily real estate investments.
Although Grzymala, president of Alexandria Financial Associates Ltd. in Alexandria, Va., likes some real estate in portfolios, he warns against putting too much money in it.
"Building a real estate portfolio might seem right for the time now, but for the long term, anything more than three months, the world changes," Grzymala said. "Real estate runs in cycles just as the economy itself runs in cycles."
After being burned by the stock market, many investors are turning to real estate - in all forms. Planners say they see clients turning from stocks and leaning toward bigger houses, vacation homes, lake lots and apartment buildings.
"Just something where they feel it's tangible ownership. 'I've got something here I can kick, touch and see no matter what happens to the market,'" said Pat Beaird, president of BHCO Capital Management in Dallas.
Others are putting money into real estate investment trusts, or REITs, which own properties and often pay healthy dividends.
Real estate mutual funds, which generally invest most of their money in REITs, have also seen a rush of incoming cash. Last year, $3.36 billion flowed into these funds, up from$48 million the year before, according to AMG Data Services.
Investors like these funds for the dividend income and diversification, because real estate tends not to move in tandem with the stock market, said Barry Vinocur, editor of the newsletter Realty Stock Review. Some investors are just chasing performance, he said.
Standard & Poor's 500 index lost ground in the past three years, but real estate mutual funds posted an average annual total return of 12.9 percent, according to Morningstar Inc.
This pursuit of past performance is what concerns some financial planners. They say that's the same mistake investors made in the late 1990s, when they overdosed on high-flying technology stocks.
"They think what recently happened is what will happen in the future, slanting their portfolio to that," said Mark Stadtlander, president of the Foster Group in West Des Moines, Iowa.
Stadtlander, for example, talked a farmer out of liquidating his stock portfolio and using the money to buy more farmland, which has been rising in value. "That's all your eggs in one basket," he said. "Real estate is not a liquid asset, especially farmland."
Not that financial planners are opposed to real estate. Indeed, many recommend that investors include real estate in their portfolio, not counting their home. Some suggest investors should limit their real estate holdings to no more than 10 percent of their portfolio.
For those strictly looking at real estate as an investment, experts generally advise against tying up money in an illiquid property, especially if the money will be needed within 10 years.
"In stocks and bonds, if there are more sellers than buyers, it's easy to pull the trigger and get your money," said Barry Glassman, a financial planner in McLean, Va. "In real estate, it's not so easy. If there are more sellers than buyers at the time you need your money, you might take quite a haircut."
Grzymala said he has a friend who is still holding land in Virginia that he bought a decade ago on speculation that Walt Disney Co. would build a theme park nearby. Disney bagged the park after stiff opposition. "In the meantime, he has his money tied up," Grzymala said.
More liquid investment options for average investors are REITs and real estate mutual funds, experts said.
One reason to like REITs is the dividend. REITs are required to pay out 90 percent of taxable income in dividends. The average annual yield now is 7.6 percent.
REITs can specialize in apartments, retail malls, office buildings and other properties in a single region or across the country. To be well-diversified, investors likely would need about a dozen REITs, Vinocur said.
A far easier way to invest in real estate is through a mutual fund, which typically invests in about 50 REITs, said Dan McNeela, an analyst with Morningstar. Only one fund may be necessary, he added. There are 177 publicly traded REITs, and McNeela said the small number makes it easy for fund holdings to overlap.
Shop for a real estate fund the way you would choose any other fund, McNeela advised. For instance, consider expenses that eat away at returns. The annual expense ratios of real esate funds tracked by Morningstar range from 0.28 percent of assets to 3.18 percent. "Anything at 1.5 percent or lower would be acceptable," McNeela said.
Also, look for a diversified fund, and compare its performance with its peers over the past five years, which would include both weak and strong real estate markets, he said.
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