In this uncertain market, a balance of equities, bonds, real estate, commodities, and other alternative investments would prove much less risky than holding the majority of your investments in stocks and real estate -- which is what most physicians do.
If you are like most Americans, you feel less secure about the direction of the U.S. economy. Certainly, you're justified.
While we may be technically out of the recession, our dependence on foreign oil, behemoth deficits, and the weak dollar are all fundamental threats to our national fiscal health and our investment marketplace that are not going away anytime soon. For this reason, it is crucial that investors learn from the past two years and adjust their investment behavior accordingly.
Diversification Through Real Estate
Most investors understand that portfolio diversification is key to reducing some of the risk of loss in a portfolio. In historically volatile markets, mitigation of loss is not a luxury -- it is a necessity.
True, many investors who thought they were “adequately diversified” lost almost half of their portfolio over the last two years, but there is an explanation: Most were diversified “within” the stock market, with holdings in various sectors. What these investors suffered was “market risk -- as the entire stock market came crashing down, so did most assets held within the market.
What many experienced investors don’t understand is that diversification should not be limited to securities such as traditional stock and bond investments, or bank deposits. Proper diversification, especially in a highly volatile market like the one we are experiencing today, must also be across investment classes and not just within a class (such as securities or real estate). A balance of domestic and foreign securities, real estate, small business assets, commodities, and other alternative investments would prove to be much less risky than holding the majority of your investments in real estate and securities -- which is what most physicians do.
Most doctors who contact us are either successful already and want to fine-tune their planning, or want to know the secrets of the more financially successful, so it may not come as a surprise that many of our physician clients have taken a more active interest in investing in surgery centers, medical office buildings and other healthcare-related real estate.
This strategy contradicts the idea of achieving portfolio diversification by avoiding any investments within the healthcare arena. The theory is that doctors already have so much of their income related to healthcare that they should not invest in any healthcare-related investments. That could be a mistake. For example, doctors who have the ability to personally influence the success of a surgery center or MediSpa might obviously find such a purchase an attractive investment.
Other Alternative InvestmentsFor doctors who can’t build or participate in surgery centers or other profitable healthcare investments, another popular investment strategy is to take advantage of different investment programs that are not traded on a public exchange like the New York Stock Exchange (NYSE). Non-traded real estate investment trusts (REITs), leasing funds and oil and gas drilling programs are a few examples. As with any investment, there are pros and cons for each type of offering.
Given recent market conditions, many physician investors have been attracted to non-traded programs because they offer a certain level of stability. Most of these programs are sold to investors at a flat price, for example $10 per share, during the offering period. An advantage to these programs is that their performance is not correlated with any particular market or index, making them an additional form of diversification. Holding non-correlated offerings can help reduce the “volatility rollercoaster” of a traditional portfolio. However these types of investments should be considered an additional allocation in your portfolio, not a substitute for proper allocation.
Another significant benefit for physicians in the higher-income tax brackets -- which are sure to increase as government bailouts and the budget deficit balloons into the multiple trillions -- is the potential tax benefit an alternative program can offer. Some programs offer tax deductions on the initial investment, others pay tax efficient dividends, and still others offer both.
For example, there are oil and gas drilling programs that offer tax deductions on the initial investment due to intangible drilling costs and tax deductions on the program’s cash flow due to depreciation and depletion allowances. Additionally, dividends of REITs and leasing funds are often only partly taxable to the investor. These tax efficiencies vary by program, and from year to year.
Proceed with CautionIt is important to note that one of the advantages of a non-traded investment is also a disadvantage. There is typically no market for shares of these programs. As an investor, you are expected to hang on to the security for the life of the investment -- which can be as long as four to 10 years. So your investment is relatively illiquid.
In addition, these programs are not without risk. You could invest in an oil and gas drilling program that finds no oil. Sure, you'll get a deduction, but you may not get much of the initial investment back. Like any other investment class, some offerings are more aggressive than others, and none make any guarantee about future performance.
There has never been a better time to focus on investment risk-management and tax-reduction planning. For physician investors seeking ways to diversify traditional stock and bond portfolios, and reduce portfolio volatility while possibly reducing unnecessary taxes, non-traded investments are an attractive alternative.
Jason O’Dell is a founder of O’Dell Jarvis Mandell and author of "Investing Secrets for Physicians." David Mandell is the author of nine books, including "For Doctors Only: A Guide to Working Less and Building More." Kim Renners is the Director of Wealth Management for OJM Group. Sign up for a free e-newsletter on Advanced Asset Protection, Tax and Investing at www.ojmgroup.com. This article contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized advice. For additional information about the OJM Group, including fees and services, send for our disclosure statement as set forth on Form ADV.
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