A story about Portfolio (liquid) Assets vs Real Estate (illiquid) Assets

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Taking care of retail investors' money in different capacities since the 1980's, gives me a bit of perspective about financial cycles and smart asset allocation, especially when things get way out of whack. I remember with almost digital clarity the following scene.

It was autumn of 1990, Saddam Hussein and his Iraqi forces had just invaded Kuwait and the stockmarket was dropping dramatically. I was in a taxi cab going to my office at brokerage firm McNeil Mantha here in Montreal, and the driver was lecturing me on the indestructible solid asset class called real estate. It was the usual rant about stocks being only for gamblers and that real estate basically "only went up". It was clear that I had chosen the wrong career, and was focused on the wrong asset class: double whammy. It was a time when many of us young brokers huddled together around a single computer in the office that could print up stock charts, while we received earnings reports spitting out through a teletype machine ("A Dow Jones machine"). Back then, it seemed that the decade that lay before me was a dark void of geopolitical uncertainty, Wall Street insider trading scandals, and a time to take shelter in 11% 1-year Canada t-bills and inflation-hedging real estate. The economic super power of Japan and its industrial policy-driven Keiretsu conglomerate machine was going to swallow up tired old USA Inc.

It's amazing what can happen in just 12 months. By the end of 1991, the great leverage loving real estate magnates Robert Campeau (Campeau Corp.), and the Reichman brothers (Olympia and York) had blewn up or were about to; and together they helped detonate a global real estate and leverage unwinding that signalled the end of the "indestructibility" of the asset class. It brought down with it an end to the binge of a financial engineering drug at the time called the LBO - the leveraged buyout.  The stockmarket took off in the spring of 1991 as Saddam Hussein had been badly spanked by coalition forces back to Iraq, and America's self esteem rose again from the phoenix. Interest rates came cascading down triggering a huge double barreled bull charge into financial assets; especially Canadian bonds, and US stocks. Japanese corporate and banking scandals would ignite a secular deflationary spiral as their central bank decision makers remained firmly in denial. Our Canadian dollar went from close to $0.90 down to the $0.70's in just a few years.

Looking back, it was the 2nd best opportunity in a generation to buy great stocks, the first being in 1982. I bought my first condo in 1999 when I had saved up enough money from being a stockbroker and I paid about the same price that the guy had bought the downtown condo for over 8 years earlier. Montreal's real estate market in the 1990's was especially punishing because we experienced a near death experience for the Canadian federation in October of 1995 with the Quebec referendum on sovereignty association. If you owned real estate back then, you were almost totally stuck - "valeurs immobilieres"- in an economy and political jurisdiction that was on very shaky ground. 

So what is the lesson? The lesson is to look at your total asset situation - real estate and portfolio - and ask yourself where you are dramatically overweight and exposed and how you can rebalance. It's no mystery that most Canadians have been living in an almost unprecedented uptrend in housing prices driven on the latest financial drug called abnormally low mortgage rates. But as one of my favourite Bay Street gurus, Ned Goodman, once declared in a speech in the mid 2000's (it was about an income trust product he was promoting): Your house is the most leveraged, illiquid and undiversified asset that you own. I never forgot that. Furthermore, your house doesn't generate any income and needs constant repairs, upgrades, and taxes. But you have to live somewhere. Which makes it all the more urgent to start accumulating and rebalancing into those forgotten resilient stocks that spread your exposure all around the planet and give you a growing income stream no matter what age of investor you may be. It's about spreading the bets! Concentrated bets can be dangerous.

Besides, if you are starting to feel the seismic pressures of another crisis of national unity in Canada driven by a dramatic shift in regional wealth, clashing economic priorities, and a tenuous equalization framework, it's time to activate more portfolio diversification to counterbalance that heavy weight of real estate exposure. 

Great companies in "tired old USA inc", may be a good place to start.