Reassessing Real Estate Risk

In the late 1990s, everyone wanted to be a daytrader. Today, everyone wants to be a landlord.

And why not? With interest rates at all-time lows, seemingly just about anyone can get an affordable mortgage, buy an apartment building, collect some rent and/or sell the building for a profit.

Clearly, real estate is en vogue. And with the availability of new products, like interest-only mortgages, many people are able to stretch into properties they could otherwise never afford. So folks who know nothing about managing properties are investing tons of money in the sector in hopes of riding the wave and flipping the buildings before the roofs start leaking.

That is, until the interest rate on that adjustable-rate or interest-only loan goes through the roof and you can't find a buyer for that building. That would be reminiscent of those pesky margin calls from five years ago, and the accompanying pain felt by holders of myriad "can't miss" tech stocks.

Indeed, if you've got multiple properties under management, own real estate investment trusts and/or homebuilding stocks, you might be overexposed to the sector. In turn, you may be exposed to some serious interest rate risk, especially if you also factor in your fixed-income holdings and other rate-sensitive stocks.

The good news is, things could hardly be better for real estate and related investments. New-home sales hit record levels in April and existing-homes sales were stronger than expected; mortgage rates have fallen again, along with 10-year Treasury yields (which move in opposition to price, meaning your bond holdings are up, too); homebuilding stocks remain ascendant (the Philadelphia Homebuilding Index is up over 20% year to date) and even financial stocks have been perking up lately.

But if things could hardly get better, they quite conceivably could worsen. Recent weakness in furniture stocks such as Ethan Allen (ETH Quote) and mortgage lenders such as Doral Financial (DRL Quote) may be temporary blips or they may be a harbinger of a rough patch in the sector.

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