TG, I will start my reply with words from Warren Buffett in his latest shareholder letter: “The investment world has gone from underpricing risk to overpricing it. … Approval, though, is not the goal of investing. In fact, approval is often counter-productive because it sedates the brain and makes it less receptive to new facts or a re-examination of conclusions formed earlier. Beware the investment activity that produces applause; the great moves are usually greeted by yawns.”
That all said, I don’t understand why you don’t stick with your original mid 2010 timeframe and are eager to invest in a rental property. I’m in the same boat as you (i.e. bought last Dec and look to average down in the future), but I’m definitely not interested in buying a rental property right now.
For primary residence, I intentionally pulled the trigger earlier because I heard that inventory at the price bottom is usually terrible. The house that we bought met our top 5 criteria, and 8 out of 10 top 10 criteria. So I don’t mind over-paying it a little bit as affordability is not an issue for me. (So far, it is working out OK. I have not found a single house that satisfy our top 5 criteria 2 months after a purchase. Inventory is not looking good here in Temecula) But for investment, you really want to squeeze the last potential profit, so why not wait until the bottom is formed?
Also, I don’t agree the number in your post and I think you are clearly under-price the maintenance and management costs given it is a 20 years old house. Using my method, I think it yields 6% real return or 10% before inflation return. Yet, you omitted the costs to put the unit into habitable condition, so it could be lower. In this economy time, you could potentially just loan the money to the best companies in US at 10% (take GE as an example) and it is arguably much less headache. My personal opinion is that “real estate investment” is the wrong term. It should be called “real estate business”. So on the minus side, the real estate is definitely less attractive than the index funds given it is a business that you have to manage (unlike the maintenance free index funds). It is only attractive because it produces a more steady income streams than the stock market, but if you are only in your early 40s, you shouldn’t value steady income stream that much (I am in my early 30s, so I put even less weight on that).
The other thing to consider is liquidity in your own financial plan. I favor a financial plan that has modest near-term and middle-term financial obligations over one has excessive near-term obligations even though it promises higher potential return. After all, it is better to be safe than sorry. In my primary residence purchase, I could potentially lower my mortgage to 1x income or comfortably afford 15 years mortgage, but I choose the 30 years mortgage at a higher mortgage balance to lower my near-term obligations and increase my liquidity. That leaves the room for future rental property purchase, but still I don’t think I have enough liquidity to support a rental property right now (assume the case the property failed to rent out at all, and one need enough emergency cash to carry both properties (PITI + maintenance) for 1 year). You may have more cash reserve than I do, but you should definitely pay attention to your cash flow given that you just forked out a large amount of cash in the last few months on the primary residence.
