In this episode of the Actively Passive Investing Show, Travis Watts explains the concept of dollar-cost averaging and how this strategy typically applied to stock market investments can also be used with private placements.
Cost-Dollar Averaging Definition
Travis demonstrates cost-dollar averaging using stocks as an example: Say you buy $1K worth of stocks at $10 per share. Then, that stock price rises to $12 per share, and you put in another $1K. The stock then falls to $9 per share, and you put in another $1K. You get a cumulative average price of approximately $10.33 of that stock over time.
Steps Travis Uses to Dollar-Cost Average in Multifamily Syndications
- Set up a bank account exclusively for your investments. This can be opened under your individual name, the name of a trust, or the name of your LLC.
- Fund the bank account through capital from a liquidity event or begin funding the account with active income — for example, from W-2 or 1099 income. The goal is to build the account up to a minimum investment amount.
- Use the money in your account to make a passive income investment into a private placement — ideally something that distributes on a monthly basis.
How It Works
After making your investment, you should begin receiving the monthly distributions in your bank account that you set up for investments in step 1. Say you invested $50K in a deal that produces a 10% annualized return. At the end of the year, you will have $5K in annual distributions sitting in your bank account. To make a second investment, you now only need to use $45K of your own money because you already have $5K in your account from the first investment.
“You’re always buying at different price points with different market metrics to factor in,” Travis explains. “So you really are dollar-cost averaging with your private placements over time.” The goal is to reach a point where you can fully fund a new investment every year just by using your passive income from all your other investments inside the account.
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Travis Watts: Best Ever listeners, welcome back to another episode of The Actively Passive Investing Show. I am your host, Travis Watts, filming another episode on a walk around the neighborhood. Sometimes these ideas just come to me and it's better to record them here on the fly even though the audio may suffer a little bit. Hopefully you can hear me and see me alright if you're tuning in on audio. Appreciate you tuning in on video, enjoy the walk. Today what we're talking about is how to dollar-cost average with your investments in real estate private placements, or syndications. A lot of investors are familiar with the term dollar-cost average when it comes to the stock market, but you may not be aware that you can actually do this same strategy with private placements. That's what we're talking about here today.
I'll give you just a broad definition if you're not familiar with dollar-cost averaging. We'll use the stock example first. You buy, let's say, $1,000 worth of a stock at $10 per share, then maybe that stock price goes up to $12 per share, you put another $1,000 in, then we'll say that stock falls to $9 per share, and you put another $1,000 in. You're getting basically a cumulative average price of that stock over time. It might be, I don't know, $10.50 per share in that example, something like that.
Warren Buffett has a great quote, he says, "If you want to focus on your investments 7-8 hours per week, then do it. But if you don't, then dollar-cost average." That's a great quote. I love that. Let's talk about private placements and real estate syndications; we talked about that a ton on the show. They're illiquid investments. You put your money in and it's tied up for years on end. It's not publicly-traded, hence the name private placement.
So you can't just put 50k into a deal, and then if you have $1,000 laying around a couple of months later, you can't always put that into the deal. The deal might be closed and moved on. There are some structures that might allow for that, but a lot of them don't.
So I'm just going to share with you - obviously not financial advice, not telling you what to do, not saying you should do this at all; just for educational purposes. I'm going to share with you what I do to the dollar-cost average in these multifamily syndications that I invest in primarily.
Number one, I set up a bank account. That bank account can be in your individual name, it can be in the name of a trust, it can be in the name of your LLC, or [unintelligible 00:04:35.12] That's a whole other conversation. You just decide how you want to structure things. But you need a bank account exclusively for your investments. The second thing is you're going to need to fund that bank account; either through the capital that you have from whatever liquidity event. You sold your house, you sold a business, you got some money in the bank - you need to shift that over to the bank account. Or, begin funding the account with active income. Maybe you have a job, or W-2 income, a 1099 income... Either way, you need to build this thing up to a minimum investment amount for a private placement.
For example purposes, I'm just going to use - we'll say $50,000. You've got to start with $50,000, all earned active income, assuming. Then step number three is you need to make an investment into a private placement. But let me point something out that's very important. It needs to be a passive income investment, something that ideally distributes on a monthly basis. Not quarterly, not annually, not a new development deal that doesn't have any cash flow; something that distributes on a monthly basis, ideally. I'll share with you why in just a couple of minutes
Break: [00:05:54] - [00:07:41]
Travis Watts: Now what happens? Usually, these distributions that get made to you on a monthly basis - they come in through ACH, electronic transfer, right back to the bank account that you have set up for these investments. It makes it pretty streamlined, very hands-off, very systematic. Let's say that this deal that you invested in produces a 10% annualized return, just for simple math purposes. If I put 50,000 in, I invested in some deal, 10% a year... That's $5,000 in annual distributions, 10%.
The beauty is after I make that first investment with my own active income, let's say - well, I have $5,000 sitting in that bank account at the end of the year, in theory. Now when I do a second investment, say I do another $50,000, I only have to put in $45,000 of my own money, because I already have $5,000 in the account from the first investment. After I do investment number two, I have two passive income streams. Sorry, there's a mower over here. Hopefully, you guys can hear me all right. In fact, I'm going to go the other way, just to get away from the noise.
So then I have two investments producing $5,000 per year. When I go to do the third investment, I only have to put in $40,000 of my own money, because I have two investments that are pumping out $5,000 per year already. You see where I'm going with this. It's compounding, and it's dollar-cost averaging, because each time I'm making an investment - let's say I make an investment once per year - I'm buying at a different time, with different pricing in the market.
Like, multifamily housing perhaps had a slight dip during COVID, March, April, May, June July of 2020, and then had a boost in price and 2021 when inflation started to hit, and after all the stimulus, and interest rates have been going down for years, which affects the pricing, but now interest rates are going up, which affects the pricing... So you're always buying at different price points, with different market metrics to factor in. So you really are dollar-cost averaging with your private placements over time.
I suppose if we zoom out and we look at this macro-level strategy, what are we really doing here? I guess one cool thought to me is one day you might be able to fully fund a new investment every year, just by using your passive income from all of your other investments inside the account. Let's suppose that we get down the road and we have 10 of these investments pumping out $5,000 per year; that's 50,000 per year in passive income. At the end of the year, we could do a new $50,000 investment without having to put our own capital into it.
I think that's a pretty cool strategy myself, and again, not telling you what to do, educational purposes only, not financial advice, but I just think that's a really cool strategy and I just wanted to share in case you hadn't really thought about that, that you really can dollar-cost average. Have a Best Ever week. Thanks so much for tuning into the show. This was a short episode. If we haven't connected on LinkedIn, let's do it, and on social media. We will see you on another episode of The Actively Passive Investing Show.
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