Author Topic: Cutting 4+ years off road to ER?  (Read 3706 times)

nexus

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Cutting 4+ years off road to ER?
« on: July 27, 2017, 04:52:22 PM »
Re-posting here since this may be more appropriate here vs in "Ask a Mustachian." Any and all thoughts welcomed!

The question is inspired by MMM's post back in August 2011. I've been re-reading the blog from the start and this one spiked my curiosity. I've taken no action, just curious to see what folks think based on my hypothetical example.
http://www.mrmoneymustache.com/2011/08/15/become-a-lazy-landlord-with-reits/

What is wrong with this idea?
Does it come down to risk tolerance?

As it stands, networthify says I can retire in 12.1 years with my current portfolio & savings rate.

In summary MMM mentions $350k in SNH would yield about $24k in dividends each year. My target/goal FI number is about $625k in VTSAX. Switching focus from SNH to VTSAX would cut my time down from 12.1 years to 7-8 years to FI.

Currently able to dump $5k in 401k annually. Next year will get employer match so $10K into a 401k each year plus ~$24k into a taxable account annually. I'd just keep the 401k as old people money or start the conversion ladder after retirement, so it's kind of irrelevant to this I suppose...

My thoughts are to keep my current holdings ($50k in VTSAX right now), but moving forward start purchasing 75% to 100% SNH (or similar REIT) and 0-25% VTSAX each month. Once I hit about $20k in dividends from SNH, or ~$250k in SNH shares I'd have a few options... (250,000/19.35)=12,920 shares... @ 1.56 dividend =$20,155.039. Obviously the share price will go up/down, but these are rough figures.

At that time I'd have a NW around $475k and could...
a. Throttle back to PT work & semi-retirement
b. Continue to work FT and go back to:
   $24k into VTSAX annually
   plus $20k dividends from SNH into VTSAX , (so total of $44k into VTSAX, not factoring in any raises) [edited]
   Plus 10k/year in 401k
Until I hit $625k in 2-3 more years anyway, although this 625k will generate more passive income than 100% in VTSAX...right?

My math says... (using today's share price of $19.35) [yesterday's price]
> It would take 7-8 years to get $250k in SNH starting at $0 (11k this year, then dividends plus 24k for subsequent years).
> Current holdings of VTSAX would grow via automatic dividend reinvestments to just under $70k by 2026. 50k*1.02 for rest of this year, then 1.04 for following years(too conservative?).
> I will have added $70-$80k into my 401k, plus appreciation.
Net worth would be around $450k-475k instead of $625k
Is the big issue here IF SNH continues to exist and pay dividends forever?

Many thanks. My face awaits punches.
« Last Edit: July 27, 2017, 04:55:23 PM by nexus »

VoteCthulu

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Re: Cutting 4+ years off road to ER?
« Reply #1 on: July 27, 2017, 05:12:33 PM »
The number one problem with this plan is lack of diversification. Just like any stock, putting all your eggs in this set of 320 properties managed by one company is very risky.

Second, you must pay income taxes on all the dividends every year (assuming this isn't in an advantaged account). This means you can't defer taking gains until after you retire, and you can't pay the reduced capital gains rates.

If this was a 5-10% play in an IRA I'd say go ahead and have fun, but as a wealth building strategy in a taxable account with 25%+ of your stache, I say bad idea.

jjcamembert

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Re: Cutting 4+ years off road to ER?
« Reply #2 on: July 27, 2017, 06:12:00 PM »
In general there's no free lunch in the markets. More reward requires more risk. So SNH could stay the same as it is now, and not lower in price or reduce its dividend, but who knows? Also, for me personally, dividends don't matter much: it's not free money. I'd rather have owned FANG stocks over the last several years even without dividends, because they've invested in themselves and have grown the business.
VTSAX isn't risk-free either, it could crash the day you reach your FI goal, but that's why you're presuming an 8% average return instead of 1%.

Just a quick glance at SNH says it has underperformed against healthcare REITs in general. Not that that means anything, just something to consider.

Monkey Uncle

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Re: Cutting 4+ years off road to ER?
« Reply #3 on: July 28, 2017, 04:53:16 AM »
Yes, substituting a REIT index in for SNH would be much safer, but also would likely offer a lower yield (I haven't compared the yields, but you should).  Even then, that's a huge chunk of your net worth to have in one industry.  If you really want to go the yield route, it would be much safer to diversify that part of your portfolio among REITs, utilities, a DGI-type fund, a junk bond fund, and maybe some CEFs, MLPs, BDCs, and preferred stocks, if you're willing to do the necessary fundamental analysis on that last group.

runewell

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Re: Cutting 4+ years off road to ER?
« Reply #4 on: July 28, 2017, 07:14:56 AM »
Second, you must pay income taxes on all the dividends every year (assuming this isn't in an advantaged account). This means you can't defer taking gains until after you retire, and you can't pay the reduced capital gains rates.

Qualified dividends are tax-free for those with income falling within the 10% and 15% brackets to the extent qualified dividend income remains within those brackets.

maizeman

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Re: Cutting 4+ years off road to ER?
« Reply #5 on: July 28, 2017, 07:27:13 AM »
Generally investments in REITs are bets on commercial mortgage interest rates staying low. If interest rates go up a lot "IF SNH continues to exist and pay dividends forever?" starts to become a more open question.

For this reason an concentrated bet in just REITs, or just one specific REIT, is a bit too risky for my blood. YMMV.

Qualified dividends are tax-free for those with income falling within the 10% and 15% brackets to the extent qualified dividend income remains within those brackets.

SNH is a REIT, so it doesn't issue qualified dividends. It issues distributions which are taxed as regular income.

FIPurpose

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Re: Cutting 4+ years off road to ER?
« Reply #6 on: July 28, 2017, 07:34:55 AM »
What should really worry you about investing in SMH I that they do not raise their dividend hardly at all. In the past four and a half years, they've raised the dividend by about 2.6%. That's total over 5 years. It isn't rising with inflation. In order to make it a viable retirement vehicle, you'll need to set aside a percentage of the yield for reinvestment every year because the dividends are not keeping up with inflation. So really your usable yield off the stock will usually be around 5-6% not 8-9%.

Inflation will kill this idea. It's a good stock as part of a larger portfolio, but I wouldnt own it solely or even as 50%.

PapaBear

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Re: Cutting 4+ years off road to ER?
« Reply #7 on: July 28, 2017, 07:51:58 AM »
Your plan is flawed in a few very important areas:
- You assume that you can replace the 4% rules with SNH distributions - In my opinion, that is flawed. The 4% rule is based on the average 10%/year total return in the stock market or a stock/bond mix respectively and assumes that the assets will on average grow at a higher rate than the 4% that are extracted. REITs need to distribute 90% of their income, thus there is not that much (organic) growth to be expected for SNH.
- You fall in the trap of mental accounting. Dividends and ticker price increases are not two separate things but both elements of your total yield. You can always sell parts of your investment. Try to compare the total return (incl. reinvested dividends) of SNH and the S&P 500 for the last 10/20/30 years, maybe that will give you a different picture than looking at dividend yield only.
- As others have already posted, there is always the issue with the lack of diversification. In exaggerated terms: You would not bet your retirement on one penny stock or emerging markets company, right? So why SNH - that is still stock picking, even if it is a way more established and trustworthy industry.

« Last Edit: July 28, 2017, 07:55:22 AM by PapaBear »

Ocinfo

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Re: Cutting 4+ years off road to ER?
« Reply #8 on: July 28, 2017, 09:15:28 AM »
I have held fairly significant REITs  for several years (around 20% allocation) but recently reduced the allocation down to about 5% of my portfolio. I just don't have confidence in the commercial real estate market, which is what most of the REITs hold.


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nexus

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Re: Cutting 4+ years off road to ER?
« Reply #9 on: July 28, 2017, 11:08:10 AM »
Thanks everyone for your input thus far! I really, really appreciate the guidance and advice. Knowing myself, I won't put in the time and effort required to research more viable REIT options so I'm axing the idea of trying to shortcut things. Passive investing is the way I want to go, and index funds are the path of least resistance.

I'll continue on road to VTSAX in my taxable account, eventually picking up some bonds as I get closer to ER. My 401k has a NASDAQ 100 index fund, S&P 500 Index, and International Index fund so I feel like I've got some diversification there (plus those were the three with the lowest fees that I could choose from).

I might allocate 5-10% of fun investing money into a REIT at some point, but like you guys already mentioned -- by paying out 90% of its earnings they can't really grow organically.

Feel free to keep the comments coming, but mission accomplished: I'm not buying any shares of SNH now, nor will they ever become a substantial part of my portfolio! :)

jrbrokerr

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Re: Cutting 4+ years off road to ER?
« Reply #10 on: July 28, 2017, 02:43:46 PM »
Go on but instead of one stock, pick a basket of REITs, like REML or MORL..., these are leveraged instruments seeking only income... BUT and a big BUT here, only use it with fun money, never more than 5% of your total portfolio, this instruments pay 20% annually, they are volatile but if you are there for the income and long term and with fun money also, so go ahead and just do it

Personally I have 5% of my portfolio in MORL for like 2 years, I have received on average like 18% annually and I am up like 15% on capital appreciation. NOT BAD at all, but I will never put more than 5%-10% on it.

Do some research as always before pulling the trigger

Mighty-Dollar

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Re: Cutting 4+ years off road to ER?
« Reply #11 on: July 28, 2017, 04:17:49 PM »
What is wrong with this idea?
Does it come down to risk tolerance?
Investing is about never bearing too much or too little risk. Real estate is riskier than even small and mid cap stocks. Also riskier than commodities.
https://www.mfs.com/wps/FileServerServlet?articleId=templatedata/internet/file/data/sales_tools/mfsvp_20yrsb_fly&servletCommand=default
It's about looking at TOTAL return of not just dividends but stock price. Often these REITS lag in share value. So yeah you got a high dividend but look at your share price. It's a shell game.
Real estate is also taxed at a higher rate.
« Last Edit: July 28, 2017, 04:20:05 PM by Mighty-Dollar »

respond2u

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Re: Cutting 4+ years off road to ER?
« Reply #12 on: July 28, 2017, 08:58:18 PM »
You can use portfoliovisualizer.com to see how well MMM's gamble would have worked out if he'd bought SNH on 9/1/11.

From Sept 11 - Jun 17:
SNH, with dividends reinvested, has grown at 4.73% / year.
SPY, with dividends reinvested, has grown at 14.92% / year.

That was a high price to pay for the X% dividend income.

The past doesn't predict the future, of course, so you could get lucky, like if the pick was O on Jan 2008.






Monkey Uncle

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Re: Cutting 4+ years off road to ER?
« Reply #13 on: July 29, 2017, 04:47:47 AM »
Thanks everyone for your input thus far! I really, really appreciate the guidance and advice. Knowing myself, I won't put in the time and effort required to research more viable REIT options so I'm axing the idea of trying to shortcut things. Passive investing is the way I want to go, and index funds are the path of least resistance.

I'll continue on road to VTSAX in my taxable account, eventually picking up some bonds as I get closer to ER. My 401k has a NASDAQ 100 index fund, S&P 500 Index, and International Index fund so I feel like I've got some diversification there (plus those were the three with the lowest fees that I could choose from).

I might allocate 5-10% of fun investing money into a REIT at some point, but like you guys already mentioned -- by paying out 90% of its earnings they can't really grow organically.

Feel free to keep the comments coming, but mission accomplished: I'm not buying any shares of SNH now, nor will they ever become a substantial part of my portfolio! :)

Keep in mind that REITs now have their own sector in the S&P 500, so if you own a S&P 500 index fund, you already have a percentage of your portfolio exposed to real estate.  Not sure about VTSAX.

respond2u

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Re: Cutting 4+ years off road to ER?
« Reply #14 on: July 30, 2017, 02:05:24 PM »
Keep in mind that REITs now have their own sector in the S&P 500, so if you own a S&P 500 index fund, you already have a percentage of your portfolio exposed to real estate.  Not sure about VTSAX.

IIRC, the only change was to move REITs out of the Financial sector, so you've had them for a while (e.g., https://www.reit.com/investing/investor-resources/reit-directory/reits-sp-indexes).

VTSAX also includes REITS (and BDCs, another pass-thru company with high yield).

http://www.investopedia.com/news/reits-join-sp-500/

https://personal.vanguard.com/us/FundsAllHoldings?FundId=0585&FundIntExt=INT&tableName=Equity&tableIndex=0&sort=HOLDINGS_NAME&sortOrder=web.funds.profile.view.FundsAllHoldingsSort$SortOrder@ee2e0ab

http://www.investopedia.com/terms/r/ric.asp

ChpBstrd

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Re: Cutting 4+ years off road to ER?
« Reply #15 on: August 04, 2017, 02:54:42 PM »
I don't think the OP was contemplating putting it all in one stock, so much as s/he was contemplating an aggressive dividend portfolio.

There seems to be widespread confusion about dividends. Many retirees switch to a "dividend portfolio" to pay them an income in retirement. However, for investors in non-REIT/MLP companies, dividends involve double-taxation. First your company is taxed on earnings, and then you are taxed on the distribution of those earnings (unless in an IRA). So why not hold a "dividend portfolio" in an IRA? Because dividend companies are different than non-dividend firms. Their management admits they see no profitable ways to deploy millions of dollars. In other words, they are a set of companies without growth opportunities, which often means they are shrinking. I'd rather own growing businesses than wind-down operations. Second, they have not yet figured out that share buybacks are a more tax-effective way to distribute capital than dividends. In other words, their finance dept. is incompetent, insensitive to shareholder returns, or under some sort of not-ideal capture by people who want dividends for some reason.

Frankly, with 7-12 years till retirement, I'd be more inclined to invest in VGT than a dividend portfolio. The goal is capital appreciation and keeping taxes low during the prime earning years.

That said, I have a small play in OHI (yield ~8% and growing) in which I sell covered calls for another 2-3%/year inside an IRA. This thing swings around quite violently (inflating call premiums) and is currently near its typical lows. I entered this position when I sold a cash-secured put for like $1200 and got assigned. This is a learning investment and not a big chunk of anything though. Still, too bad I didn't buy Amazon instead....

For an example of someone who achieved FIRE with a sub-500k portfolio, I highly recommend velociraptor.cc .