By Porter Stansberry – Stansberry Research
Porter: One of the Best, Lowest-Risk Ways to Quickly Grow Your Wealth.
Ben: What was your best trade ever – personal or published – and what important lesson did you take away from it?
Porter: I invested with a private real estate group in Miami called Pensam.
We bought several multiunit apartment buildings (500 units or so in each one) in 2011. We rehabbed the buildings, raised the rents, and then – after they had been rented – refinanced the buildings.
My total return was right around 100% over four years… and I’m still earning 16% a year or so in yield.
It was the best trade I’ve ever made. I was able to put a significant amount of capital into it because it was a very safe deal with high-quality operators. It has generated safe, consistent returns… and will continue to do so for decades.
Ben: Why Pensam? How did you determine it had great, trustworthy operators?
Porter: Pensam had a great track record of success and, fortunately, a close personal friend of mine does all of the due diligence on the deals when it acquires properties. He’s Pensam’s outside counsel (its lawyer). Through this connection, I had tremendous insight into the quality of its operation.
Private investment deals like this one can be very dangerous if you don’t know the people involved well and if you don’t know their track record. On the other hand, if you work hard to build a good personal network, private-equity opportunities can be vastly better investments than public-equity deals.
Real estate deals, in particular, can be unbelievably rewarding, thanks to the smart application of leverage. In this case, these deals were all equity financed initially, through the property acquisition and rehab. Then, once the apartment building was transformed into a successful, higher-end, leading-market property with an excellent rental-income track record, we were able to take out 75% of our initial capital without losing any equity in the property. In short, through these deals, we were able to vastly increase our yield on invested capital, thanks to leverage. It’s not possible to do the same in public equity.
Buying apartments at the right time in the cycle is absolutely one of the best, low-risk ways to acquire tremendous amounts of wealth in a reasonably short period of time.
Ben: Why apartment buildings in that specific location? Are they in Miami? How did you value the buildings (cap rate, past prices, something else)?
Porter: The units I acquired with Pensam were not in Miami. They were carefully selected, mid-tier markets with very stable employment and growing populations… like Texas.
I have done deals with other operators to acquire units in South Florida.
My strategy in South Florida was a lot different, though, than Pensam’s national strategy.
Pensam buys older buildings in the best neighborhoods in growing cities. These are fairly expensive properties that can be improved to become prime buildings, with excellent amenities and relatively high rents. This strategy yields tenants who can easily afford the rent and makes it easy to market the building… Anyone in the market for an apartment would want to live in these buildings.
That strategy doesn’t work as well in Florida because, generally, those kinds of buildings just don’t get cheap enough to make the numbers work – not even when they need a lot of rehab.
In South Florida, I’m part of a private investment group led by Justin Ford. In this market, I prefer to buy much smaller apartment buildings, properties that are much too small for the “big boys” like Pensam to mess around with. These are generally four- to 12-unit buildings, what I call “mom and pop” apartment buildings. A lot of these properties came into the market between 2009 and 2011 because Fannie Mae and Freddie Mac completely exited the market to finance these kind of apartment buildings… and the mom-and-pop owners couldn’t get the capital to roll over their mortgages.
We only buy properties at the beaches… not oceanfront, but a few blocks from the water. These are typically the lowest-rent properties on the barrier islands. These apartments are easy to rent because they’re the cheapest place to live where you can still walk to the beach and have a high quality of life. We market to year-round residents, folks like school teachers, who have steady income… but aren’t rich. Knowing the local market and the local bankers was critical to getting these buildings. That’s why having a local operator like Justin is critical.
In these deals, I provided capital to acquire the buildings and have earned a preferred return, plus an equity interest in the property, based on the time it takes to return 80% of my capital. This is known as “convertible preferred financing,” and it will generally pay a little bit better than corporate-bond yields. I’ve earned something like 12%-14% annually on these deals, based on the initial capital I’ve committed. Obviously, that yield will grow over time as rents increase.
Ben: Do you say it was “safe” based on the operators and value, or also because of your personal knowledge and experience in real estate? Any other factors?
Porter: In my view, the only thing that determines the safety of any investment is, ultimately, price.
Yes, there are lots of standard due-diligence issues that have to be checked. Titles, liens, etc. And yes, of course it’s important to buy in good markets, where populations are growing and employment is stable.
But those things are merely necessary. They’re not sufficient for a safe investment. Only a low price can guarantee the safe return of your capital.
Here’s a great example. I bought one of the very few waterfront (Collins Canal) homes in Miami Beach with direct access to the beach via a semi-private footpath bridge. There are only two of these footpath bridges and only about a dozen houses have access to them.
There are no other private homes in Miami Beach where you can easily walk to the beach and have a boat behind your house.
These are unique properties, and their prices have soared since the crisis. I bought one of these houses in February 2011. I paid around $400 per square foot, which I believe was the lowest price per square foot for a waterfront property in Miami Beach during the crisis. That was about 60% less than peak prices reached on these properties in 2005-2006.
Although I did extensive due diligence on the property, I was defrauded. As we rehabbed the property, we discovered serious structural damage. It had been concealed by using steel jacks hidden inside the walls. You can’t live in a building sitting on jacks in a hurricane zone. As an honest person, I would never attempt to hide such damage from another buyer, as someone had done to me.
If I had bought this house at “normal” prices, I probably would have lost millions of dollars on the deal. Instead, despite having to tear down the house and the guest house on the property, I was able to sell for a profit of more than $1 million in just four years. Yes, I had hoped to make five times that amount of profit on this trophy property… but because I had been so cautious about what I paid to acquire the property, what could have easily been a catastrophe turned into an OK return.
No matter how skillful you are as a real estate investor or how talented you are at improving properties or marketing them… there is no substitute for a low entry price. If possible, always negotiate a lower price. If you can’t get the price you want, walk away.
I had been shopping for this particular property (canalfront, footpath location) since 2007. It took me four years to find what I thought was the right deal… and I botched it. But I didn’t lose any money.
Ben: Around what percentage of your investable wealth did you invest? Is that the largest investment you’ve made?
Porter: I never buy anything I can’t easily afford to lose, whether it’s a car, a watch, or an apartment building. I know a lot of people who are burdened by their personal property or investments. They spend their lives worrying about what they might lose, instead of simply enjoying what they have. Here’s a hint: You won’t take any of it with you, so why worry?
And if you are worried, you’re making a big mistake. Generally speaking, I won’t put more than 10% of my liquid capital into any single investment – whether it’s a stock or an apartment building. But of course, there are exceptions. Unlike most real estate investors, I don’t use any debt to acquire properties. That sometimes requires a big capital outlay… But in those circumstances, I’m certain about what I’m buying and what it’s worth.
Ben: Finally, the takeaway… When you have tremendous conviction, you have to go for the jugular? Invest in what you know, with people you trust? Keep a big slug of cash ready for the fat pitch?
Porter: Having a lot of available cash is the absolute key to getting great real estate deals. Being able to tell a distressed owner, “Call me when you need the money, I’ll be waiting,” is a terrific position. But to do so, you have to keep a lot of cash at the ready. Most people can’t do that. I don’t know why. I love it when people give me a hard time about how little I’m earning on the cash I have. They tease me, “Hey, what are you earning on your cash?”
And I always say, “I’m not earning anything. Yet.”
I’m not sure they get it.