Income: A Rental Property Analogy
How does our investment philosophy and methodology compare to owning a portfolio of rental properties? If we were looking for property we would want quality properties in good locations that attract financially secure tenants. We would look to acquire these properties at a "good price" which would provide an attractive level of income (yield) for the price paid and the potential for price appreciation. The rent from the property would cover the expenses (taxes, improvements and repairs) and provide income for living expenses.
Now let's imagine a scenario like 2008 and 2009 where real estate prices dropped dramatically and your property value is down from your purchase price, but your rental income continues to roll in uninterrupted. Remember, the primary objective of your property portfolio is income. Are you worried about the drop in value? Probably not - as a matter of fact, you may see the drop in real estate values as on opportunity to pick up more properties at better prices. If the income levels (rents) have remained the same, you have the opportunity to increase your yield (income) relative to the price you have to pay.
Income producing securities often provide the same opportunities as rental properties. If we have good information (research) on the cash flow metrics of a company (financial security of the renter) and understand historical prices (real estate values) relative to the dividends and income (rental income), we can make good judgments as to whether the income is priced at a discount or premium to historical prices and decide to potentially add to our holdings. We can make the contrary argument as well. If we can determine that prices are high relative to the yield (income produced) then potentially it is an opportunity to realize profits and look for better values elsewhere.
Read next tab: Income: Navigating Volatility & Preserving Capital
Disclaimer: There is no assurance that these techniques are suitable for all investors or will yield positive outcomes.