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Discover the distinction between appreciating and depreciating assets, focusing on the unique dynamics of real estate appreciation. Explore the US Real Estate Value Trends from 1950-2023 and unravel the risks involved, including unrealized losses. Learn the importance of long-term investment strategies and why real estate is designed for the patient investor seeking steady growth over time. Navigate the nuanced world of real estate with confidence.

Welcome to the next lesson.
Loss And Value.

Many of you may have heard the term appreciation in the past. And no, I’m not talking about appreciation like you appreciate a fen for doing you a favor. I’m talking about appreciation when it comes to assets. You may have even heard the term appreciating asset or depreciating asset. An appreciating asset is one that should, in theory, gain value over time as compared to a depreciating asset, which is thought to lose value over time.

Real estate, thankfully, is considered an appreciating asset. Given a big enough time horizon, real estate values tend to go up. I say given a big enough time horizon because if we made a graph of average real estate values in the US we can see that there are dips in value. So if someone pointed to the years between 2007 and 2009, where we had the global financial crisis, they could say that real estate was a depreciating asset and that it actually lost value over time. But as mentioned before, we should be thinking about real estate investing as a long, slow, and steady burn.

Thus, if we zoom out and look at the graph from 1990 to 2015, we can easily see that the values have increased between those years. Now, I’m sure some of you out there are thinking, well, Michael, no doubt, the values increase over time. That’s because of inflation. Everything gets more expensive with time. And I would say that you’re absolutely right. Goods and services do get more expensive with time, but the important factor to look at is what rate are they changing. This is being recorded in 2023. And over the last several years, the U S has seen record inflation, which means the cost of goods and services have been increasing at a very rapid clip. However, we should note that real estate has also appreciated at unprecedented levels. So let’s for a minute disregard the last few years as we were in the middle of a global pandemic. So when we compare the rate of typical real estate appreciation to the rate of typical inflation, we see that the real estate appreciation often outpaces inflation. This means that the value of real estate is growing faster than the increase in cost of goods and services. Now let that sink in for a minute.

Don’t worry if the concept isn’t making sense, we’re going to get more into appreciation in a later lesson and why it’s so amazing. But like all good things, there’s also the flip side of the coin.

So one of the risks associated with real estate that we must confront is that it does have the ability to lose value, just like we saw during the great financial crisis of 07-08. So we need to be aware of this, come to terms with it, quantify it, and be comfortable with that risk. All of which you’ll learn how to do throughout the academy. That being said, the nice thing about value is that transacting, buying, selling, or refinancing. So if I purchased a rental property for 200K and all of a sudden the value dropped to 150K. As long as I’m not trying to sell that property or refinance, nothing really changes for me. Let’s assume it’s a rental. I’m still collecting rent at the same rate. I’m still paying my expenses at the same rate. And so I don’t really care about value per se during this point in time.

What this is called is an unrealized loss. The loss is unrealized because I haven’t done anything with the property. So who’s to say that the value in three years doesn’t bounce back to 230K. Anyone familiar with stock market investing is probably familiar with unrealized gains and losses. If you have $100,000 in stock portfolio and the value drops to 80K, but you don’t do anything with it, you haven’t realized that loss. So again, the value can bounce back. Again, this is really to showcase why real estate investing should be thought about as a long game. If I needed the property again, this $200,000 property, if I needed it to be worth 250K in one year’s time for purchasing it, I have to think long and hard about whether or not making that purchase was a sound investment decision because there may be nothing I can do to change the value of the property. In a prior lesson, we said we’re going to talk about the things you can do to affect the value of a property to make change to increase value, and there are absolutely things we can do, but there’s also a market limit. There might just be a total cap, no matter how nice the property is, no matter how upgraded it is, no matter how good of a location it is, the market might cap the value of that X value. And so again, thinking about long term, if I need it to be worth something in a short amount of time, I really want to be thinking long and hard about making that decision. And if that’s the right choice for me.

So again, all this to say, it’s important to understand that values can go up and down over time. So let’s get comfortable with that fact. And in future lessons, we’ll get into the details about how to hedge your bets so that you can feel comfortable and secure in making your investment decisions.

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