Taking huge financial risk when one has little to loose.

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Lionheart1776
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Taking huge financial risk when one has little to loose.

Post by Lionheart1776 » Tue Oct 11, 2016 2:16 pm

I just turned twenty-one and want to go for broke. My logic is simple, I have no use for debt to fund consumption so credit score doesn't matter to me should I go bankrupt. I make about 35k take home and have about 25K in the bank with monthly expenses hovering around 900-1K. I live in one of the most expensive areas in the country but due to the FHA loans could get my hands on about 300K which is enough for me to buy a "starter home" in this area. I would live in the living room of this property and rent out all the rooms which would cover all the expenses with a small 800 a month margin of error.

So my though is, if I go for broke now I can easily just file for bankruptcy and aggressively cut my losses while only losing a year worth of savings. Assuming the housing market is flat which for the San Jose area is not likely but certainly possible my worst case scenario and downside risk is known and capped. Meanwhile, I would be every year getting significantly more equity throwing an extra 2 grand of cash flow at the mortgage and gaining control of cash flowing asset between two major colleges in an area known for raising prices.


Am I being foolish here for seeing this as a small capped downside, huge unlimited (within reason) upside EV (Expected value ) positive transaction? Also to cap risk further could I funnel half of my money into a blind trust to protect it from bankruptcy? (Probably a question for a lawyer, so please feel free to disregard)

I know that when I have ten years of savings in the bank capital preservation will be a much higher priority due to how much of my life force went into accumulating it, so I have the impression that this is the optimal time to take huge risk and "YOLO" my way to wealth in my thirties.

Please share your thoughts.

Thanks,

A usually cautious and fiscally conservative man named Bruce.

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C40
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Re: Taking huge financial risk when one has little to loose.

Post by C40 » Tue Oct 11, 2016 2:39 pm

I don't have much wisdom to share here, other than that you made a very common error in your subject line - you mean "lose", not "loose". This mix up is so common that I think it's actually changing the english language and "loose" is actually starting to mean "lose".

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stand@desk
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Re: Taking huge financial risk when one has little to loose.

Post by stand@desk » Tue Oct 11, 2016 2:56 pm

If you decide to take the risk keep this Harry Potter quote in mind: "What's coming will come, and you'll just have to meet it when it does."

The point of it is that if there is a "threat" on the horizon, real or perceived..you'll just have to face it when it rears it's head. In the meantime, you live. And we will all have these moments as we age (job loss, financial loss, health loss, deaths, failures etc) so if it is to come then just meet it when it does. That being said, you don't have to intentionally put yourself at risk unnecessarily. Good luck with your choice.

JamesR
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Re: Taking huge financial risk when one has little to loose.

Post by JamesR » Tue Oct 11, 2016 5:10 pm

This topic has come up a number of times on the forum, but I'm not sure if anyone has actually gambled early on in order to short-cut the process to ERE.

I guess fifighter.com and other people that have taken a risk with real estate investing have succeeded though.


In reality this thought experiment only applies if we're talking about a gamble that has a high minimum $ requirement, and is highly volatile - like a startup, where 10 startups might crash and burn and 1 succeeds wildly. You would probably benefit from determining if it's a +EV move or not

IlliniDave
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Re: Taking huge financial risk when one has little to loose.

Post by IlliniDave » Tue Oct 11, 2016 5:36 pm

$300K seems like an awful big loan for a $35K income. All I can say is that I wouldn't do it (buy a house that without rental income would bankrupt me). I guess I am even more cautious and even more fiscally conservative. It's a gamble. You might lose. Or you might win.

George the original one
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Re: Taking huge financial risk when one has little to loose.

Post by George the original one » Tue Oct 11, 2016 10:25 pm

I would want a quicker payoff for the gamble than real estate affords... assuming full rental of roommates, how long until you had a year's worth of mortgage payments banked?

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Dragline
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Re: Taking huge financial risk when one has little to loose.

Post by Dragline » Wed Oct 12, 2016 9:02 am

I'd be tempted to go for it at your age precisely because your expenses are low and you'd have plenty of time to recover if it doesn't work out. It definitely IS better to take bold risks when you are younger and the stakes are relatively low.

It would be a great learning experience regardless of what happens. Just make sure you do all of your homework before pulling the trigger.

I had no early interest in real estate, but it reminds me of when I borrowed some money and traded commodities in my 20s. I lost some money, but not my shirt. But what I learned from that experience was in many ways more valuable, and made me much better able to handle it when I had more.

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vezkor
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Re: Taking huge financial risk when one has little to loose.

Post by vezkor » Wed Oct 12, 2016 9:05 am

Go for it. There is no better time to take a risk with a high EV then when you're young.

What you learn from the experience will likely be more valuable than you can currently imagine.

This kind of rental project doesn't seem as risky to me as it does to you, fwiw. If there were only one major college nearby, it would be significantly more speculative. As it currently stands, as long as you're applying those rent checks to the outstanding mortgage your "outstanding risk" will decrease very quickly.

Being able to happily live like a college student is a giant advantage towards achieving ERE. Surrounding yourself with college student roommates is a great way to ensure you never feel pressure to keep up with the joneses until you're already awash in assets and excess net worth. When that time comes, this 300k house is probably already paid off and you're looking at rental property #2 now that you have the knowledge of personally running rental property #1 for years.

Have fun!

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Seppia
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Re: Taking huge financial risk when one has little to loose.

Post by Seppia » Wed Oct 12, 2016 9:44 am

It seems like a spectacularly bad idea to me, especially considering the prices for real estate in California today.
Plus, if they give $300k loans to people making $35k per year I think it's another sign of a soon to come "shit hitting the fan" moment.
I wouldn't do it.
I never understand why you would want to take shortcuts: by living frugally and being in the United States you are certain to end up with substantially more money than you need.
Give it a bit of time

ether
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Re: Taking huge financial risk when one has little to loose.

Post by ether » Wed Oct 12, 2016 10:12 am

We can't give good advice with so little information. Tell us the following:
-Interest rate
-PMI Cost (Are you doing 5% or 10% down)
-Closing Costs (I'm estimating a 7k minimum sunk cost)
-Property Tax rate
-Historic utility costs
-Age of building
-Type of construction (so you know what the most common repair issues)
-Age of roof, HVAC, plumbing, electric, foundation
-How many tenants
-Rent charge

The general rule of thumb is collect 1% of the property value per month in rent. So @ 300k you want 3k/month cashflow. Can you convince 3 people to pay you $1000/month for a room?

Also go to your local government's housing authority. I've read they do low interest home loans at rates much more favorable than banks.

Scott 2
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Re: Taking huge financial risk when one has little to loose.

Post by Scott 2 » Wed Oct 12, 2016 10:54 am

Reminds me of the story of the fisherman and the businessman:

http://bemorewithless.com/the-story-of- ... fisherman/

Best case scenario is you put in a load of work and end up a couple 100k ahead in 10 years. Running a money positive property is tough.

If that's the job you want, go for it, but don't confuse it for anything else. You will earn that money.

wood
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Re: Taking huge financial risk when one has little to loose.

Post by wood » Wed Oct 12, 2016 1:23 pm

If you are young and have little to lose then go for it. Just a small advice even though you didn't ask for it: let the rental income accumulate for some time instead of throwing every bit of it at the mortage. A good cash buffer is wise to have, it gives you wiggle room in case of anything and reduces your overall risk in this project.

pukingRainbows
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Re: Taking huge financial risk when one has little to loose.

Post by pukingRainbows » Wed Oct 12, 2016 2:43 pm

I agree with your overall thinking about the situation.
I say go for it.
See if you like landlording while you're still young enough to adapt to your lifestyle around it.
It'll only get harder the longer you wait, I think. And good or bad financially, you'll gain a lot of experience from it.

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Re: Taking huge financial risk when one has little to loose.

Post by jacob » Wed Oct 12, 2016 3:25 pm

In my opinion, this is nuts. Mainly because I don't think EV is all that high anymore. If EV is small, then you're effectively trying to pick up a thousand bucks per month in front of a quarter million dollar steamroller.

There's more to credit score than the ability to get consumer debt. It also influences insurance rates, your ability to rent elsewhere, and your ability to get employment especially in finance and other positions of trust (e.g. government).

Housing prices are set by what the market can carry and interest rates. Silicon Valley can apparently carry tent rentals with wifi on a weekly schedule insofar that cheap venture capital keeps flowing, for now. Interest rates will probably bump 0.25% this year putting some downward pressure on home prices. In any case FHA unlearned its lessons from 2008 and began aggressively pushing homes again a few years ago. Meanwhile, the large capital funds who bought houses on dimes on the dollar after the crash are unloading to the public.

Conceivable mid-bad case: home values will tank or decrease slightly; you'll be unable to find enough people to rent to; and you'll get a job offer somewhere else but you're locked into an overpriced house knowing that you can't bankrupt your way out of the situation w/o depressing your ability to rent or pass background checks for several years. In particular you might find a SO wanting to move in who doesn't like the idea of all those room mates. However, without that rent, you're now living in a home at the edge of your income limits.

If bankruptcy is the intended escape hatch, you're also excluded from other investment vehicles insofar they're not protected. A bankruptcy will expect you to liquidate. This means that you'll be staking your entire portfolio on an overvalued house.

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Riggerjack
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Re: Taking huge financial risk when one has little to loose.

Post by Riggerjack » Wed Oct 12, 2016 4:25 pm

In general, I'm in favor of leveraged real estate, especially when young. I have 2 rental houses myself. So I approve of your plan, in general.

However...

Real estate has done some crazy, 2006 style appreciation lately, and we all know how 2008-2011 looked. What has happened, will happen again. Though maybe not immediately. You have a direct example of worst case. If this were 2007, is your plan a good one? You know your market, you decide.

A bunch of people in 2009 were upside down on their cars, other consumer goods, and their house. And the house put them into flight. I held mine, and bought more. This worked well for me, but that doesn't mean it will for you.

Work out your worst case. If you can deal with it, I say go for it.

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Riggerjack
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Re: Taking huge financial risk when one has little to loose.

Post by Riggerjack » Wed Oct 12, 2016 4:35 pm

I should mention, I live in a nonrecourse state. If Cali is a recourse state, you should do more research on bankruptcy and mortgages before making any offers.

Also, if fire, earthquake, recession, and absolutely evil roommates weren't in your worst case scenario, you need to think about this more.

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Ego
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Re: Taking huge financial risk when one has little to loose.

Post by Ego » Wed Oct 12, 2016 5:46 pm

A good question to ask is why others with more knowledge, experience, easy access to cash and with the ability to swing a hammer like Rigger are not already doing it. What competitive advantages do you have over someone who knows the business and can do the work?

Before jumping in over your head, I would go out and find someone who is already doing what you plan to do and talk to them about the business. You might search for rooms-for-rent on craigslist to find them. Go and see the rooms as a prospective tenant. At worst, you will learn about your competition.

Lionheart1776
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Re: Taking huge financial risk when one has little to loose.

Post by Lionheart1776 » Wed Oct 12, 2016 5:52 pm

Thank you for the replies everyone, Jacob's vivid steamroller analogy was particularly helpful in setting my head straight. The owner of the property wrote me back saying that it could not be rented not lived in year round so that is how crazy things are here in terms of prices. All that being said, I still like the idea of betting big well young, I recently stumbled onto the idea of micro cap value investing with low liquidity companies that were too small to be scooped up by institutions. It seems kind of gimmicky, but the basic premise is solid. They're basically small companies that need capital, that have good management, and real profits.

I discovered the idea from a crappy spam ad selling "picks" I discarded all their crap and am thinking of applying the concepts from Security Analysis to small companies. Unlike the Real Estate idea I suggested above there is more upside risk, more diversity, "relatively" more liquidity, and the worse an investor can do is 100% loss no risk of bankruptcy. I am going to create a journal that I basically use as a scratch pad for ideas and as a reference for jotting down content from Joshua Kennon and Gram and Dods Security Analysis 4th edition.

So if anyone is interested I will probably call it something along the lines of "Bruce's Micro Cap Value Investing Journal"

Thanks again everyone,

Bruce

Scott 2
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Re: Taking huge financial risk when one has little to loose.

Post by Scott 2 » Thu Oct 13, 2016 12:08 am

At your age and net worth, the biggest return on effort will come from trading it to wealthy people for their money. It's not exciting, but it's the truth.

If you are really interested in investing, I'd suggest going to work for people who are good at it. You'll learn a heck of a lot faster than trial and error against some books.

Also think about what you want that wealth for, and if there's a way to create that lifestyle while earning it, or maybe even without it.

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fiby41
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Re: Taking huge financial risk when one has little to loose.

Post by fiby41 » Thu Oct 13, 2016 8:16 am

Will you be able to go to sleep at night?

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