The 19 Principles That Separate Great Investors From Lucky Ones | Ep 99

James: Charlie Munger has often said that the easiest way to succeed is to avoid being doing stupid things rather than chasing brilliance. And so I'm basing that quote off of an article of a guy who wrote of his 19 core principles. So we're gonna run through all of them and talk about them, see if we agree or disagree with them.

All right. On the Furlo Capital Real Estate Podcast, where we dive into the intricacies of passive real estate investing and our mission is to equip people with core principles so that together we can build wealth while improving housing. Think I got all of it. I'm James, and this is my wife, Jessi.

Jessi: Hey. Um, I, another friend has a quote about stupidity. What is it

James: stupid should hurt.

Jessi: No, it's, it's something like, if you're gonna be stupid, you gotta be tough. Oh, something. Something to that effect where it's like, yeah, yeah, sure, yeah, go for it. But you gotta deal with the consequences. That's okay.

James: Okay. I could get behind that particular quote.

Yeah. This one, um, that we're gonna talk about today is an article is from a student of the real estate game. Hmm. Is what he calls himself. I have a hair somewhere in my line of sight. I'm just going to ignore it. But yeah. Uh, in this article he talked about his, uh, 19 core principles for investing, and I thought it'd be fun to run through them and talk about them.

Jessi: Student of real estate.

James: Yeah.

Jessi: I guess that that's what you could call yourself to.

James: Um, I suppose, yeah. So, uh, number one of is about deal fundamentals. Mm-hmm. Um, you wanna find motivated sellers, so every good deal starts with a motivated seller. Makes sense? Yeah, I agree. Um, I definitely, um, myself have been an unmotivated seller.

Yeah. And I'm like, yeah, I want top dollar, otherwise I don't, I'm not gonna sell. Right. And, and I think it's because it allows you other. Avenues to work. There's just, there's other priorities that are than price. I guess

Jessi: if, if someone is motivated.

James: Uh, correct. Mm-hmm. Yes. Yes, correct. Uh, number two is you wanna have an investment thesis.

Okay. I know, right? Like a reason for investing. Um, yeah. It should be comprised of two to three levers, which drive all your value and everything else is just noise. And so, like, oftentimes what we talk about for my investment, it's essentially like, um. Yeah. Here's what I'm looking for. Here's my thing.

Here's what I believe to be true about this investment. Like, for example, for me, part of our investment thesis, I'll say, um, I'll go, I'll look at pretty much any deal. Mm-hmm. As long as it's a good deal. And what I'm talking about is usually it's value add and, and it is at some sort of discount for some reason.

Yeah. And so I want the combination of two, which is genuinely tricky. Mm-hmm. Um, I'm less concerned about the market, I'm less concerned about the asset type. Um, those are. Less part of my investment thesis, but I've talked to other people where they're like, no, I'm only buying in this area. Oh, interesting.

And

Jessi: that's it. So it's all based on location or not all,

James: but yeah, that's, that's part of their thesis. It's more important, they're like, I wanna be able to drive by every single property and be there in 20 minutes. Sure. 'cause they're gonna manage themselves or Interesting. Something like that, which is totally fine.

Makes sense. Um, number three. I like this. You wanna have simple underwriting. Mm-hmm. And, and we've often talked about this and so I agree with this statement of you shouldn't have to make it complicated to see that it's a good deal.

Jessi: Yeah.

James: Because if you've gotta like have 15 different knobs and really tweak the lines to kind of make it work and then it, and as a result of that, it passes.

Yeah.

Jessi: Is it a good deal? Yeah. I remember at some point we've, we had this conversation about how you were like, I want it to be a good deal. Like without adding in all the like potential extra of like, there's an upside here, there's a potential upside here. It's like, no, let's look at it at the bare bones.

Mm-hmm. And then anything on top of that is just, it's, it's like icing. It's, it's extra. Right. You know, if you, if you evaluate it super conservatively and then it turns out better, that's better than amazing. Yeah. Yeah. Tweaking everything, making it look super good and being like, uh. Yeah, I think

James: this will work and I've often found like if you just quickly whip up a spreadsheet and be like, income vacancy, operating expenses, and like you go, let's do your NOI subtract out whatever your debt payment is.

Like if that number's not positive, like there's there, it's not a hundred percent true, but it's the kind of like there's not much you're going to be able to do from an underwriting standpoint to get that number to be positive. Mm-hmm. That's just, that's now you may still buy it because there's other reasons where it is a value add and you go, yeah.

And your one, it's not gonna make any sense, but

Jessi: yeah. It's not positive now, but it will be. Yeah.

James: Uh, but yeah, that's, but that's been my, like yeah, you can mess with some of the things, but like keep it simple. Um, oh yeah. Uh, also related to that, um, he says to only buy deals that have a clear supportable path of net operating income growth.

Mm-hmm. Which I think you. Fully get beside. Mm-hmm. Or get behind. Oh

Jessi: yeah. I'm, I, yeah. My rule of thumb is way more, I don't know if you call it conservative or like, I want us to make money day one.

James: Well, so that's, that's different. So, um, yes. But are you okay if it makes the same amount of money every single day for the next 10 years?

Jessi: Oh,

James: he wants clear path to net op. He wants it to grow.

Jessi: He wants it to grow somehow.

James: Yeah. However that works. Which I, that's interesting. Yeah. Yeah. I can get behind. Yeah. I

Jessi: guess I, I haven't really set that as an expectation, and I'm like, as long as it's not losing money, I'm okay.

James: Right. Now, in theory, again, if it's flat, you're actually, you're, you're getting less every single year because of inflation, stuff like that.

Sure. But that's one of his things. Hmm. Um, and then I also, like, like this one, he says, don't buy the value created. Create value. Hmm. Which, again, I've, that's part of my investment thesis. I'm like, yeah, I wanna be the one to go in and create the value. Right. Get one that's fully fixed up, I want to sell those.

Yeah. And there's definitely people out there who are like, man, I just want the cash flow. Mm-hmm. Consistent cash flow, low maintenance, low worry, like it's turnkey, ready to rock. Mm-hmm. Because I'm busy doing other stuff. Yep. Like, yeah, a hundred percent. I get that. Um, that's not me, that's not this guy either.

And I'm okay with that. Mm. Okay. Uh, then he switches to talking about market dynamics. Okay. Okay. So, um, buy below replacement cost. I thought was interesting. So, um, so replacement cost is, uh, if the building burned down, here's how much it would cost to Well, remake it. Rebuild, yeah. To rebuild it. And so he wants to buy for less than that is one of his rules.

Jessi: Okay.

James: Yeah. Which I've never really thought about, to be honest.

Jessi: Yeah. Why, why? Um, it just, I mean, it seems like that value would be more than like the market value or what someone would be willing to pay for it, oftentimes, maybe.

James: Yeah. Yeah. I've, you know, I've talked to other investors about that actually, where they've been like, oh yeah, like that.

Like when we were talking about the Find a Baker Tower, I remember talking to an investor about that and he was doing the math on it where he was like, holy cow man, if you were to rebuild this thing, it's like $10 million. Mm-hmm. He goes, well, you can buy it for 1.8 at the time, 1.6. Mm-hmm. He's like, that's a great deal.

And it's like, oh. I mean, at the end of the day, cash flow is what matters. Yeah. But, but it, that's just one of his check boxes. Hmm. Is what would it cost to replace this if it's less? Okay. That's good news. That means you're not gonna run into problems if the worst happens. That's true. Have to rebuild.

That's true. Yeah. I think that's, it's more of a, I think it's more of a safety net. Hmm. Rather than like Yeah. A strategy. A

Jessi: strategy for making money. Yeah.

James: Yeah. Yeah. Um, also talking about, he talks about supply and demand. Um, market fundamentals ultimately drive all real estate values, focus on areas where demand exceeds supply mm-hmm.

For sustainable appreciation.

Jessi: So that totally makes sense.

James: Makes sense. Yeah. That's,

Jessi: yeah. That's kind of like, why would you buy somewhere where there's nobody wanting to live there? That's.

James: I was reading this article recently. It was talking about, um, population trends and he was like, I don't, he was like, there have been more deaths than births in this area.

Mm-hmm. And he goes, but like the population's been going up. He's like, it's purely from migration. And which he was like, why in the world do people want to move here? He's like, 'cause prices are sky high. 'cause it was talking about a real estate thing. Mm. He was like, prices are sky high. Why are people moving here?

I'm like, well, it's for other reasons, man. Mm. Like the great weather. The jobs, whatever. You're talking

Jessi: specifically about Oregon?

James: Yeah. Corvallis, Albany. Oh wow. Well, no, it was Benton and Lin County. Yeah.

Jessi: Okay. Interesting.

James: Yeah, the net.

Jessi: Who would move here for the weather?

James: Well, so what was his so wet? He was talking about for, I

Jessi: mean, there's no, there's not natural disasters.

The math

James: for Lin County, 'cause they published this stuff was like, we lost like 400 people. 400 more people died than were born. But our net increase was like 1100.

Jessi: Whoa.

James: And so it actually meant like 1500 people moved here. Interesting.

Jessi: Sure.

James: Yeah. Which if you think about it just for like, those are people, so if you assume what two and a half people per like Yeah, that's a lot of new units.

Yeah. You need to come online to handle, I mean, 'cause they seem like small numbers, but you're like, dang dude. Like, oh yeah. If you're not building somewhere between like. 500 to a thousand more units like you're getting behind. Mm-hmm. Which is the whole supply and demand thing.

Jessi: Yeah.

James: And so like, cool. Good for this area, I suppose.

Okay. Now, um, he then switches to talking about capital structure strategy, and I thought this was interesting. He says you wanna conserve leverage, um, which makes sense. Um, you don't wanna over lever, over lever a deal, um, essentially take on too much debt and you wanna use fixed rate debt whenever possible.

Mm-hmm. Which I agree. Um, yeah, that's all smart. Uh, it's leverage is an interesting two parted sword because on one hand it really can goose your returns. Mm-hmm. If things go great, leverage is amazing. But if things go bad, like they go bad really fast. Yeah. 'cause it's a lever. Yeah. But yeah, I don't know.

Do you have any, you just like, whatever, do you care about debt? Do you think about it? Um,

Jessi: can you gimme like an actual example with numbers?

James: Um,

Jessi: because I guess I, I, I think I understand the lover. So let's

James: say you've got, I'm gonna make up some numbers here. Let's say you got a hundred thousand dollars.

Speaker 3: Mm-hmm.

James: Burning a hole in your pocket, you're ready to buy. Mm-hmm. You could go do a hundred percent of it on a property. Mm-hmm. Buy a hundred thousand.

We'll, just, we're gonna go crazy, super simple numbers here. Mm-hmm. Got a hundred thousand dollars property with your a hundred thousand again, I know there's simplifications, whatever. Sure. No big deal. And let's just say that. That is a thousand dollars a month cash flow. Mm-hmm. But it's free and clear, so you're good.

Yeah. You're making money, right? Making a thousand dollars. Cool. Um, but let's say instead you're like, Nope, I'm only gonna do 20% down.

Speaker 3: Mm-hmm.

James: And, um, so you buy five properties now

Jessi: Oh. Because you put 20,000 on each one? Correct. Okay.

James: So you can kinda see what this gets interesting. Uhhuh. Where, but now you, oh.

And maybe let's just go with the hypothetical, because of all the ratios, you still make a thousand dollars a month. Okay. Just for the funds of it. Sure. Um, for easy math now. Yeah. Now you can make the argument that. Um, because the, if the interest rate's lower than what the returns gonna be on the property, it might actually be like, slightly higher, but let's just for the fun of it and say it's the same.

Now you just go, okay, let's talk about market appreciation. Mm-hmm. And let's just say each property goes up by, you know, I don't know, 10% over some number of years. Right. And that first scenario, you now have a property that's worth 110,000. Mm-hmm. For, for the other ones are now worth 550,000. Right. And your mortgage has been slightly paid down.

And so your equity is significantly, I mean, just right in there, ignoring the, the, uh, the leverage part of it, your equity is now five times as big. Mm-hmm. Which is great. But let's say in one situation, um, you have a tenant who moves out and you can't, whatever, they do a lot of damage and you gotta fix it up.

Mm-hmm. For the one that you're cash only, like, that's a bummer. You lose out on Yeah. A thousand dollars a month rent. Bummer, but like that's all You're out. Mm-hmm. But let's say in this other one, if you have a tenant issue, like your mortgage still keeps coming. Right? And you're out, that a thousand dollars minus the mortgage amount, and so you're actually pulling from all your other ones to make it work.

Like that's where, Hmm. Leverage can be awesome on the upside.

Speaker 3: Mm-hmm.

James: Or what if the market falls right and it goes down 10%.

Jessi: Yeah.

James: For the one you're like, okay, whatever, who cares? But for the other one, like, man, you lost a lot. So that's the, Hmm. That's for leverage. It's a dual-edged sword. Interesting.

Jessi: So it allows you to get more,

James: but

Jessi: there's more risk.

James: Correct.

Jessi: Yeah.

James: Yeah.

Jessi: Mm-hmm. Makes sense.

James: Uh, he also recommends having flexibility in planning. Um, maintain hold period. Flexibility. What does that mean? Yeah, so, uh, when you old, the, when you own the property, it's called the hold period. Mm-hmm. Like

Jessi: the amount of time that you have it. Yes. Uhhuh.

James: Okay. Yeah.

Which oftentimes if it is like a buy and hold type of situation mm-hmm. You're like, yeah, whatever, this could be 20 years or whatever. Yeah. There's no difference between like five years, seven years, or even potentially 20 years. Sure. You have that flexibility. Mm-hmm. Flips there's a lot less flexibility.

Mm-hmm. So it's, from what I'm guessing, he would be a lot less interested in that, where if like. When we underwrite a deal is actually something we've been, uh, we're getting better at. Mm-hmm. Is instead of if, if we think a project is gonna take six months to do, we actually underwrite it as if it's a year.

Oh yeah. Just in case. So we have, so it's better to finish early than, and if it doesn't make sense to hold onto it for a year, even though the plan is like, we think we'll get it done in six months. Yeah. Like, you could run into a problem if you price everything out. So like. Okay. We make money at six months, but when we get to eight months, we're not making money.

Like that's where you can suddenly get into trouble. Mm-hmm. I guess. Um, so yeah. That's what it means by maintaining, have enough margin built into the system where it's like, Hey, if I gotta hold onto this longer, it's okay. It's okay. It, yeah. Again, that's a nice, the hard part about a flip is every single month you just lose money.

Right. 'cause it's empty. Mm-hmm. Whereas if it's a, like a buy and hold type of thing, you at least they're getting the rent and it hurts a lot less. Um, he also talks about, uh, capital alignment. You wanna match the capital with the intended business plan. So again, if you're doing a flip, you're willing to pay more for, uh, for your money.

'cause you're not gonna hold onto it for a long time and you know you're not gonna make any payments for a while. Mm-hmm. Um, or you're not gonna, you don't wanna, if you're doing a flip, you don't want to have to make payments to your investors during that hold period time. Our dog is the biggest troublemaker ever.

That's okay. Um, but if you have, uh, if you had like a, a rental, so if you're doing a flip, you don't necessarily wanna make payments mm-hmm. To your investors because like that money's gotta come from somewhere and it's not gonna come from the property. Yeah. So that's what it means. Whereas like, if it's a long-term hold, you don't necessarily want to have, uh, no payments.

And it's just like this thing that's ballooning over time. So you just wanna make sure that it aligns with the, your capital aligns with the business plan. That makes sense. And then number four, he talks about yield requirements. So I thought this was interesting. The stabilized yield should be at least 150, uh, basis points spread to market cap rates.

Okay. Yeah, I know you got that one, right? That's

Jessi: way Dude. What was the, what was the line number for me?

James: Told me we were like, so I know all those words are English. Yeah. But you

Jessi: just said a bunch of English words, but I don't understand.

James: Yeah. So, uh, so the yield is, uh, it's a fancy way of saying what's the return on the investment.

Okay. And what he's saying when you say 150 basis points, that's the same as saying. 1.5%. Okay. So if you buy a property, let's say the cap rate is 5%, when you buy it, when he goes, when you do all the, the fixes and everything else, when you go back and recalculate that cap rate, I want it to be like, uh, what's what?

I say 5%. Um, you want it to be the equivalent of like a six and a half percent essentially. Because the cash flows increased by that much. Okay. That's what he's saying. Cool. It's just a way of measuring how much, how much upside opportunity, like what's his minimum bar for upside opportunity? Hmm. I don't know.

I'm sure there's a, I could probably play this, right? Seems, seems, seems like

Jessi: there's easier ways to measure

James: that. It's not a horrible one, but, but, um, yeah, it's not, I don't hate it. I've never really thought about it that way, but, you know, I don't hate the idea. Um, okay. Now he talks about investment philosophy.

Yeah, we're just rocking and rolling here. Um, location and growth. Buying in, buy in good to great locations and markets with job population and wage growth. A hundred percent. No problems with that. Um, agree. It's kind of intuitive, like, well.

Jessi: Yes. Although I suppose if you, if you were attracted like, oh, these properties are super cheap.

Like we get so many of 'em. Right. But then it's like, yeah, but everybody's moving outta the area. Yeah. And there's no demand.

James: Like Yeah. It's, it's another way of, it's a, it's spec specifying that, um, supplying demand. Yeah. Part. Yeah. Specifically for those piece of it. Sure. Uh, risk management, avoid big mistakes, survive and let time and compounding do its thing.

Um, which I think comes back to that quote at the very beginning part. Mm-hmm. It's like, yeah, don't do super speculative, um, dangerous things. Just like hit the, do the easy ones that you know you can do and then just give it time. Yeah. And you'll win. It's all good. Makes sense. And then, uh, market intelligence understand capital flows and how multifamily investing compares to alternative investment.

Options. So, um, I don't a hundred percent know what he's saying here, um, outside of if you're going to invest in this area, like you should understand mm-hmm. How the investments work. Sure. I think it's what he is going on. Don't just blindly jump in, like understand it, like listen to this podcast. Awesome.

You're doing great. Um, and related to that, he says be an expert in your space. Mm-hmm. Um, so in my case, um, if you're gonna invest passively with us mm-hmm. Uh, you don't necessarily have to be an expert. Mm-hmm. Outside of you need to be expert enough to understand Yeah. Recognizing, yeah. How you're communicating the information.

And if you're hiring us for property management, you definitely do not need to be an expert in tenant landlord law, but you need to understand like how to be a good owner, I guess. Um, and then he also says buy deals with a strong product market fit, which I've, so we talked about this a very long time ago.

I was looking at a, at a property that was in another market altogether. Mm-hmm. Another state even. And it seemed to me all the properties were all mid to lower end mm-hmm. Types of properties. And they were talking about fixing up this property to make it the high end property. Okay. This area. I remember you saying that.

And I was like,

Jessi: like, why would you do that? Okay. Like,

James: I get it. But it doesn't seem to fit the market and what people are looking for in this area. Mm-hmm. Maybe it's okay. Which ultimately that deal actually totally fell through and they never did it. Ooh. It's like, yeah, that's fine. Things happen. Yeah. Um, but, uh, honestly, that's, that's what you want, right?

Mm-hmm. No capital was risk for it. Um, oh, they just didn't, they didn't buy it. They didn't buy it. Correct. Got it. Yeah. Dog's the troublemaker. Alright. Final considerations. Okay. Tax strategy. Don't let the tax benefits wag the tail. I will see stuff like that all the time. Check this out. This for those of you on video, this is our dog's toy.

It's a milk carton that he's super pumped about. It's

Jessi: a very loud, it's just a very loud, it's a very

James: loud, which he decided to play with at five in the morning this morning. Crazy dog. Anyways. Your tax strategy. Uh, don't let the tax benefits wag the dog. Okay? He's gonna jump up and that is all gonna fall over.

Um, and, uh, essentially saying, um. Just like, yes, you wanna optimize your taxes, but don't necessarily do things just for the tax strategy and benefit itself. Okay. That's what he's trying to say there, which I actually agree with.

Jessi: Sure.

James: And again, market understanding, know why people live there. Um, it may just be that.

Is price, and that's okay. Mm-hmm. But you wanna know why? And that comes back to that, that article where he was like, why are people moving here?

Jessi: Yeah.

James: Like, yeah, you gotta know. I'm like, yeah dude, it's gonna be jobs, it's gonna be family, it's gonna be weather. Sure. Yeah. And price is also gonna play into it.

Jessi: Is that just so you can make sure that the reason why they're coming and. Like you can provide those types of things or um, say like sometimes some of those things you don't have control over. I would say the trend

James: changes, you can, you can measure, those are leading indicators. Oh. And so if like a big employer leaves or talks about leaving, you go, oh, people are moving here for this job.

That reason's disappearing. Interesting. This trend's gonna change. Or, Hey, if people are coming here for work and there's a lot of diversity, cool. You know, whatever.

Speaker 3: Mm-hmm.

James: Yeah. And then, uh, finally he says, relationship focus. People want to do business with people. They like relationships first, deals later.

Which I think is a good, um, a good lesson. Yeah. So those are his 19 core principles. I think. I agree with all of 'em. Yeah. To the extent I understand, they seem solid. What he's going for. Wow. Um, so yeah, so that's what we got. Thanks for listening and hopefully those made sense. I'd be interested to know if you agreed with those principles or not.

And, um, if you are interested in investing with us, you can also check us out at furlo.com and you can learn more about our investment thesis on a lot of our core, um, investment things. Um, so with that, thanks for listening. Have a great day. ​

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