How to Build a Real Estate Portfolio

Rather than simply listening to others discuss their real estate portfolios, you can create one of your own. Technology makes real estate investing more accessible than ever. Follow these steps to build a real estate portfolio and start building wealth for yourself.

Life Bridge Capital is a leading real estate syndication company. We offer our investment partners the opportunity to leverage shares of multifamily rental properties into a passive monthly income. Learn More

Why Build a Real Estate Portfolio?

A real estate portfolio is the term for the collection of real estate investments held to meet a financial goal. The portfolio is both a plan that acts as a roadmap for the investor to meet their financial goals as well as a résumé that marks where the investor has been.

Real estate has long been a popular investment vehicle. Throughout human history, the ownership of land has conveyed status and wealth. Now, it provides the freedom from the daily grind of corporate work through passive income and opportunities to reduce tax liability.

Perhaps most importantly, real estate traditionally provides a secure way to hold wealth that hedges against inflation. Cash under a mattress will not have the same value in 20 to 30 years as it does today, but the appreciation of real estate can counter what would otherwise be a loss.

With historically low interest rates, real estate is a more important, and popular, investment option than ever. Previous generations could rely on savings accounts and certificates of deposits to put their money to work for them, but today’s rates are not much better than that of the mattress.

Turning a single investment into a real estate portfolio can certainly sound daunting, but it is no longer the purview of only the ultra-wealthy. Instead, it can also be an accessible and smart way to grow moderate levels of wealth.

Identify Investment Goals to Select Assets

As with any financial undertaking, the first step to creating a real estate portfolio is to identify the purpose and the scope. Just as you would not start buying inventory before creating a business plan for a store, it’s important to create a plan for your portfolio based on your goals and limitations.

Remember, real estate portfolios are not one-size-fits all. When choosing assets for a portfolio, be sure that they further the goals and fit into the constraints discussed below:

Time Commitment & Type of Return

The length of time that the portfolio is expected to appreciate or produce income will significantly impact the types of investments. Even if the portfolio is not intended for retirement, a young person’s collection of assets will likely look very different from that of someone who is focused on creating a legacy of generational wealth.

Investors will need to weigh the importance of investment liquidity in their stage of life to find assets that best align with their needs and goals. Real Estate Investment Trusts (REITs) can be a good fit for those who want to keep their money quickly available whereas long-term investors may prefer to focus on the purchase of new properties or multi-year syndication projects. Similarly, an investor aiming for ongoing passive income or immediate, short-term gains will want different assets than those whose primary intent is to experience long-term asset appreciation.

When weighing the pros and cons of investment types, investors also need to consider their preferred level of involvement. Real estate portfolios may rely more heavily on hands-off assets like real estate syndications or REITs or the significant investment of human capital from the owner as with self-managed rental properties

Risk Tolerance Versus Reward

Real estate portfolios can and should reflect the owner’s appetite for risk compared against possible returns, and some investors will choose conservative assets.

We often think of real estate portfolios as an avenue of creating life-changing amounts of wealth, and that remains a possibility for those with the appetite for risk. Just as often, however, real estate portfolios are intended for wealth maintenance due to the inflation protection and tax benefits that come with real estate.

Grow the Portfolio by Adding Assets

After determining the goals and limitations of the portfolio, it is time to start adding assets. It only takes one asset to start the portfolio, and that one asset can fund future growth. There are three common methods for expanding a real estate portfolio:

Slow & Steady with the Snowball Method

The snowball method is a classic wealth-increasing method. Start with one income-producing property, then save that income to purchase and run a second property. Save revenues from those two properties to finance a third, and so on. When using this method, growth is slow in the beginning as only the income is used to fund additional assets.

The snowball method gives investors time to gain experience and work out growing pains in the early stages of the portfolio growth. It also helps investors limit their personal exposure, by relying on the initial investment income to fund future projects.

Grow Quickly with the BRRRR Strategy

Investors who want to rapidly build a portfolio rely on the BRRRR Strategy. That stands for Buy, Rehab, Rent, Refinance, and Repeat.

Real estate portfolios that rely on this premise focus on below-market value properties that can be quickly returned to rentable condition. Then, the income and value of that property is used to finance a second property, and so on.

The primary difference between the BRRRR and snowball methods is that BRRRR relies on the leveraging of the property value, not just the income, to finance additional assets. Leveraging the value, which should be increased by the improvements, gives the investor all of their cash back.

Substitute Properties with a 1031 Exchange

A 1031 exchange refers to the section of the tax code that allows investors to upgrade or replace sold investment properties with a like property without experiencing a tax liability from the sale of the first property. Property transactions under section 1031 can be used to complement the other two methods in this section, or they can be used as an independent investment method.

Essentially, an investor can continuously upgrade investment properties without paying taxes on the increased value realized at each transaction. Portfolios relying on this method will be focused on the increased value and income of each property rather than growing the number of properties.

The 1031 exchange is an excellent, accessible tool for people who see themselves only as hobby investors. Even a modest second home, like a small lake cabin or ski condo, can become the basis of a real estate portfolio. As the property’s value increases, it can be sold and replaced with a more valuable home.

Diversify Your Portfolio

As you grow the portfolio, keep an eye on diversification. We need to look no further than the last 18 months to be reminded that areas of the economy respond in different manners and at different times, even within the realm of real estate. Few could have predicted that office space would become superfluous in many parts of the country while residential real estate demand would drastically outpace supply.

Portfolio diversification allows investors to hedge their bets to better preserve long-term value of the portfolio and protect against risk.

Diversification Methods

When considering how to diversify your portfolio, analyze your portfolio from three perspectives: the market(s) invested in, the asset classes, and the investment strategy.

Market Location: When adding assets to a real estate portfolio, be aware of the benefits and risks of investing too heavily in a specific geographical market. Of course, being an expert with an ear to the ground in a certain area is important, but focusing only on that one market does bring an element of risk.
Asset Classes: Bring diversity to the portfolio by exploring retail properties in addition to office space or mixed-use buildings along with multifamily housing.
Investment Strategies: Real estate portfolios are much more than just a series of purchased properties. Consider including REITs, ETFs, real estate syndications, and crowdfunding in a diverse portfolio.

Evaluate the Portfolio’s Success

Make time to consistently monitor the progress of your portfolio’s assets and make adjustments as needed. If time is in short supply, hire an investment auditor to tackle this instead. To check in on the health of a portfolio, calculate asset appreciation, the net cash flow, the cash-on-cash return, and the economic vacancy rate:

Asset appreciation reflects the increase of value that will not be realized until the property is sold. Conservative portfolios may emphasize asset appreciation over revenue as a low-risk investment method.
Net cash flow reflects the income after expenses are subtracted.
The cash-on-cash return uses the net cash flow to gauge property performance by dividing it by the amount of the initial investment.
Economic vacancy rate to compare occupancy levels to other properties in the same market and determine whether to adjust rent. An occupancy rate higher than the rest of the market indicates rent is too low and could be raised for greater profit.

Final Thoughts

Building a real estate portfolio can be as simple as a collection of REITs or as sophisticated as a chain of rental properties across asset classes. Whether an investor’s goal is to become a real estate mogul, or simply to plan for retirement, building a real estate portfolio is a key step in the process.