Reassessing Real Estate Risk

If you do go the two-family route, be sure you can change a light bulb. If you need to hire someone every time something goes wrong with one of your properties, your profits will dwindle quickly. And you'll need to make sure you invest in different geographic areas as well. So if the economy in the Northeast tanks, your properties in the Northwest will cover your losses.

Then be careful with your leveraging. "You might balk at the idea of buying stocks on margin but won't think bad about 100% financing on a rental condo," says Spiegelman. So make sure you're not in over your head.

"Remember, you're underwater from day one by virtue of the real estate broker's commission if you have to sell the place tomorrow," Spiegelman says. So be sure you can carry the property in good times and bad.

If you're not a handyman and have no interest in getting dirty, consider relying on the pros and get your sector exposure through real estate funds or REITs. A REIT is a corporation or trust that uses the pooled capital of many investors to purchase and manage properties. In addition, REITs trade just like stocks and pay dividends.

REITs have had a great run recently. The asset class has returned 18.47% annually over the past five years, making it the best-performing category at Morningstar. (Click here for more on REITs.)

Notably, Merrill Lynch recently lowered its rating on six REITs, citing valuation issues. The downgrade came as the Morgan Stanley REIT Index, which tracks 121 real estate stocks, hit an all-time high this week. This is how research is supposed to work -- downgrades at or near peaks vs. after big declines.

The advantage of going the REIT or fund route is that you can rely on managers who know the sector well. Presumably, they will know when to switch from residential to commercial properties and know which areas of the country are up-and-coming. Even better, you don't have to play landlord and pretend you know how to fix a hot-water heater.