Welcome to our latest episode. Today, we’re thrilled to welcome back Dr. David Phelps, DDS, a returning guest and former dentist, now a passionate advocate for financial independence. Dr. Phelps transitioned from his career as a general dentist business owner to focus on helping other professionals achieve financial freedom. His journey began in 2004 when personal challenges led him to rethink traditional retirement approaches, advocating for creating consistent, predictable cash flow and a “Freedom Number” rather than a set retirement age.
In this enlightening discussion, Dr. Phelps shares his story of transitioning from a successful dental career to a focus on real estate investing and financial education. He delves into the importance of structuring investments to work for you and avoiding the pitfalls of letting your career dictate your life. Dr. Phelps also offers insights into the current economic cycle, the value of tangible assets like real estate, and the importance of creating a safety margin in investments.
Tune in now to gain exclusive access to Dr. David Phelps’ expertise and discover how to navigate the complexities of financial planning, create passive income streams, and achieve true financial freedom. Don’t miss out on this episode filled with practical advice and inspiring stories!
HIGHLIGHTS OF THE EPISODE
00:24 – Guest Intro: Dr. David Phelps, DDS
01:03 – David’s background and transition from dentistry to investing
02:00 – The value of tangible assets and the current real estate cycle
06:03 – The importance of diversification and avoiding emotional decisions
09:59 – Strategies for private credit and risk mitigation
15:19 – Considering deep buys in the current market
18:11 – Preparing for potential economic downturns and lifestyle adjustments
22:08 – Generational wealth and teaching financial responsibility
26:10 – Final thoughts and book recommendations: “Extreme Ownership” by Jocko Willink and “Sometimes You Win, Sometimes You Learn” by John Maxwell
If you found this episode substantial and want to dig deeper into real estate, or maybe you want to discover better investment opportunities, be sure to check out www.tempofunding.com.
CONNECTING WITH THE GUEST
Website: www.freedomfounders.com
https://dentistfreedomblueprint.com/
Linkedin: https://www.linkedin.com/in/dgphelps/
Full Transcript
Intro: Welcome to the BigMikeFund Podcast, where you’ll learn about advanced wealth-building strategies, from real estate investing to creating massive ROI and secure retirement profits. So pour yourself a cup of coffee, grab a notepad, and lean in. Because Big Mike has got the mic, starting now.
Mike Zlotnik: Welcome to the BigMikeFund Podcast. I’m the Big Mike, Mike Zlotnik, and today it is my pleasure and a privilege to welcome back my really good friend, Dr. David Phelps. Hey, David.
David Phelps: Mike, it is always a pleasure to see you. Thanks for having me on today.
Mike Zlotnik: Thank you so much for coming on the podcast. You always share great wisdom. Let’s talk a little bit about what’s happening out there. We are doing this recording in the middle of 2024, right before Independence Day. So what’s your view of the world? Where are we in the real estate cycle and the economy in general?
David Phelps: Yeah, well, the world could take us about two hours to cover, so I’m not going to cover the world, but there’s a lot going on for sure. Taking it more specifically to what we love and what we are involved in over many decades, the alternative space, i.e., real estate. It’s what I’ve been involved in since 1980. So, gosh, I’m dating myself, but going back over four decades when I started as a very young investor, I understood the value of investing in hard assets, tangible assets, real estate, business—something that you can see, touch, and feel. I’m not averse to people investing in other financial products like the stock market and bonds; there’s a place for all that in one’s portfolio. But I found over the years, Mike, that the most stable place where I had more control—and I think this is key—more control over my investment capital was in real estate assets.
Whether it was early on in my years when I was really hands-on, buying properties, or making direct lending to people I vetted out over the years, I learned a lot and got through many of the ups and downs of the cycles that we’ve gone through since 1980. Well, right now we’re in a long, protracted cycle, which I believe has already turned the corner, and we are heading on the downslope. We talk often, Mike, as you display very accurately, that we always go through these cycles. There’s the up cycle, the peak, and then the down cycle. Various periods of time, they’re all a little bit different, but typically we see these up cycles can go six, eight, nine, ten years or so. The down cycles are usually more abbreviated; they can be sharp and hard or a bit more protracted over a period of time. You never know what you’ve got until you look back in hindsight. But the fact is, Mike, we’re always in a period of time in the cycle. So I’d say right now we’re on the down cycle. We’re seeing it more in the tangible hard asset, real estate space, and even more so in the commercial space. We can talk about commercial versus housing if you want to go there and why the difference. But we’re seeing it more there initially for reasons that you and I both know.
What we haven’t seen and what I think creates a lot of complacency for people today who also look at their 401(k)s, their IRAs, their taxed brokerage accounts, is the overall stock market. The S&P, the Dow, the NASDAQ particularly, this last year has done quite well. But when you peel back the layers, you see that a very small cadre, primarily the tech stocks, has driven the market. And I would say to a lot of people there, well, that’s an anomaly. Be careful. Just like I would tell people, don’t get on the train with a particular real estate investment if you feel like you’re still chasing the yield, chasing something that’s been going on. It’s fine to go for that when we’re in a growth cycle. But when we’re turning the corner, it’s time to take a different look. Doesn’t mean you divest or pull back and say, I’m not going to put any money out there. It’s about being prudent and discerning where the best place to go is. So that’s my quick outlay. You take it where you want to go.
Mike Zlotnik: Thank you, David. That’s great wisdom, and I’ll reflect on this. The cycle in commercial real estate peaked in the middle of 2022. Now, looking in the rearview mirror, it’s pretty obvious that it was the peak of the cycle. And if you go back and correlate that to what was happening with interest rates, interest rate hikes had just started. But the Fed moved fast and furious, and that’s the reason they forced the real estate cycle to go from the peak into an immediate correction and then into a recession rather fast. So we certainly find ourselves, looking in the rearview mirror, responding to the rapid changes in the interest rate environment, which are very, very sensitive to the real estate market. Then the stock market, as you commented, I call it the “everything rally.” And I’m very concerned about the “everything rally.” Although I can’t predict the future, things could continue to climb. Of course, it’s an election year, who knows? But I remember the 2000 crash of the high-flying tech stocks and how the rally kept accelerating. These high-tech companies’ valuations were going through the roof.
I don’t know anything beyond that; I’m not an expert in underwriting these assets. Of course, we have AI technology and other changes propelling the rally. But at the same time, it feels like an “everything rally,” and that’s very dangerous. The Bitcoin, the crypto, the stock market, and a few other asset classes appear to have done really well. Another really important portfolio diversification strategy is to move things around. If something is overpriced, if you have a lot of success in the stock market or have done really well in crypto, perhaps there’s a consideration to go into alternatives, especially commercial real estate now, because it’s trading at a significant discount. There’s value in commercial real estate where other asset classes appear to be fully priced, possibly overpriced. Only the future will show. So what should folks do on a forward basis? Those who are just mindful that they need to diversify their portfolio at minimum, not saying move every dollar from the stock market into alternatives. You have to diversify prudently, but at least take some dollars of what has appreciated tremendously and consider alternatives as a way to reduce risk and exposure to something that’s already overvalued or overweighted in the individual portfolio. What do you think about the forward outlook? Where might the opportunities be in commercial real estate with a full disclaimer that your guess, my guess, and the crystal ball’s guess are just as good as anyone else’s?
David Phelps: Yeah, well, as we both know, there are different sectors in the commercial real estate space, different asset classes. So we can start there and break those down. You’ve got a really good graph of that, looking at some of the different sectors and where we see them in terms of decline and where we might want to enter back in on the uptick, meaning they’re discounted in value today. You can never catch a falling knife because it’s impossible to time anything. But there are metrics we both use to determine if there is a point of stabilization when you buy an asset at a discount. Based on the current market, based on what that asset class is, the demographic of the tenant, the use, and what it looks like in today’s economy. Those are some of the parameters you look at. So whatever that asset class is—multifamily, self-storage, mobile home parks, retail—you have to look at each one individually. You look at them by class and geography. There are a lot of variables, and you have to weigh those and look and see if this particular opportunity makes sense for your allocations in the market today. So that’s where I would start.
To your point, whenever you’ve had an up-run and made a great capital gain profit in some asset class, it’s wise to take some chips off the table because everything comes back to more of a norm. We call it mean reversion. When anything’s gone up extrapolated over time, and you mentioned all the tech stocks, the “MAG-7,” which is down to about the “MAG-3″—I’m speaking of the Magnificent Seven—you can play the same thing with crypto; it’s very volatile. When it’s at a high, maybe you take some chips off the table and say, great, I want to harvest some of that because probably at some point, we’re going to have a reversion to the mean, and it’s going to come back down to some extent, level back out. Maybe it drops below the mean, usually what happens, it drops below the mean, then comes back up again. So be discerning; don’t take everything out. Decide to take some out. What proportion depends upon your risk tolerance, your allocations, where you are in your career path, your active income, whether you still have a lot of time for growth in years ahead, or if you’re nearing the end of your active income cycle. Different strokes for different folks, but that’s where I start looking in terms of reallocating capital in a dynamic marketplace.
Mike Zlotnik: Yeah, I appreciate that. And that’s great wisdom. Don’t make drastic moves, just adjust your portfolio gradually. Obviously, it changes with your life journey. Like you said, all real estate is local, so it’s important to think about which portions of the United States and which strategies are most applicable to you. But let’s go back for a second to acknowledge some of the challenges of the past. What should folks do or how should they think about their portfolios if they’ve written checks in the last couple of years in commercial real estate? It’s a difficult conversation, but it’s important. One of the very important elements of diversification is diversification in time. Most people forget that. When you have a tidal wave like an interest rate spike that hits a lot of things simultaneously, people get hit by this tidal wave and feel pain. So how should they be thinking? One thought that comes to mind, and I’d like you to comment on, is don’t let fear and emotion drive logical decisions. Emotional decisions are difficult, and fearful decisions can often lead to the wrong conclusions. What do you think?
David Phelps: Yeah, great context. One thing I hear often, and I think it’s wise, is Warren Buffett’s rule number one: never lose principal. Rule number two: don’t forget rule number one. Well, even Warren Buffett with all his wisdom—and he has plenty—has had losses in building his platform. He’s obviously very astute now and has more discernment as we all gain experience in learning how to best allocate our capital. Mike, I’m a big fan of being more in charge of everything I do. I’m kind of a control freak, and that comes with responsibilities. I have to keep my fingers on the pulse of a lot of stuff. That’s just who I am. I’m not one who likes to abdicate and say, well, here, you take my money. I’m not demeaning financial advisors, but I just like to be more involved. If I’m going to do that, I have to become more discerning and study the market more. I have to expect, if I’m going to have growth of my investments, that I’ll have to take some level of risk, but I’ll mitigate that risk. Back to your point about diversification of allocations, we talk about the risk curve.
Think about being on an island and hearing reports of a tsunami building way out at sea. Everyone’s down on the beach enjoying themselves. What do you do? The wise people seek higher ground. How high? No one knows. Do you go to the highest point or go inland as far as you can? Nobody knows, but you have to decide on your own how much risk you’re willing to take. When I see the markets changing, I go, well, where do I go to higher ground with some of my capital? Now, some, I’m not going to move all my capital. I’ll leave some in the growth aspects, and maybe we don’t have as much growth now. That’s okay. But maybe higher ground for me is being more on the private credit side. Private credit is like being the bank; it’s lending money to commercial operators rather than being on the equity side. Equity is sexy. We all want to be part of equity because it has benefits of leverage, arbitrage, tax benefits—you name it. We all want to be part of equity plays, and it’s wonderful when the market’s going up. In the turn of the market, I’d rather go to higher ground by moving some of my allocations more to the private credit, the lending side, being the bank, because I can reduce my risk factor of not being all in on an asset.
If I’m in an equity position, I’m going to be somewhere in a tranche of all the value of that equity. My hope is we’re still in a move-up so that equity will grow. Well, what if we’re not? What if I’m seeing shades of a downturn, as we are now? Why do I want to be there? I’d like to move to a different tranche in the capital stack, which is basically equity on the top and the debt side or private credit side on the bottom. If I can move from the height of the equity down to some tranche of debt, I’ve just reduced my risk. So that’s a place I think today I’m investing more in.
Mike Zlotnik: Yeah, I appreciate that. By the way, the strategy you mentioned, private credit, is the most prevalent strategy during a recessionary part of the market cycle. We talked about this. We are in a commercial real estate recession, although the overall economy may not be in a recession yet. But commercial real estate, having responded to the rapidly increased interest rates, finds itself in a recession. I concur with you; higher ground today is in private credit, either in first lien loans, typically called hard money loans, on fix-and-flip projects or other projects, or secondary loans or mezzanine debt. As long as they’re underwritten conservatively, with enough safety margin and enough equity on an as-is basis with competent operators, I certainly concur that strategy is higher ground in this environment. It makes a lot of sense. What’s the forward outlook? What do you think about investing in private credit lending funds, mezzanine lending funds? It’s exactly what we feel is the best opportunity for the rest of the year into next year. But what else? How do you know you got a great deal? Should folks consider buying a deep buy today, and how would you consider doing a deep buy? Maybe it’s too early for deep buys. Maybe you need to wait and see where things shake out. I’m curious because we are beginning to see first discussions on deep buys, potentially deep buys, and it feels like the right type of opportunities ahead. Is this the right time to come in, or is it time to be more patient? What do you think?
David Phelps: I’m going to look at each deal individually, Mike, as you do. A deep buy—well, is that based on a discount to what that particular asset class would have brought six months ago, 12 months ago, 18 months ago when interest rates were lower? What are we talking about? So there’s some history involved, but more importantly, I think I’ve got to look at what that asset will produce on a current stabilized basis. You might buy an asset today that is essentially stabilized with a certain occupancy of tenants paying. What’s the buy there? Maybe you have an operator who had to give that asset up at a discount because they have other operations going south. Nothing’s wrong with this one, but it’s a good asset they can extract some capital from, but they’re offering it at a reduced rate today. Well, I’m going to ask how much additional margin, mainly being free cash flow. What’s the free cash flow now if we’re going to buy it with new debt today? You’ve got your NOI, so mainly what’s your cash flow margin?
How significant is that on the scale? Two years ago, I’d go in on something that was a little tighter. Today, I want more margin because we don’t know where the market dynamics and the economy will go. I’m guessing we’re at the beginning stages of an economy fraught with a lot of potential downside. I’m talking about consumers who are really strapped, and consumers drive 70% of our GDP, our economy. If they can afford to do the things that drive consumption, that includes whether they live in houses, rent houses, live in apartments, put money in self-storage—whatever they do that drives the economy. If consumers have to pull back to any significant degree, that’s going to reduce margins on everything—businesses, real estate, hospitality—across the board. It’s going to reduce margins, so I need more margin today. Exactly what that is, that’s a subjective place, but that’s where I have people start to look and understand through people like you. What are you looking at, Mike? How are you doing these things? Because I want to hear through you, as you look at these all the time. I’m not going to rely just on myself; I’ll compare notes with others and seek wisdom before making specific allocations.
Mike Zlotnik: Yeah, that’s great wisdom. These words, “margin of safety,” go back to Benjamin Graham, Warren Buffett, and all value investors. When they write the check, they’re looking for the margin of safety. These are words of the wise: what is a margin of safety? It varies, but like you said, how deep is the current cash flow on an as-is basis, borrowing at the current high interest rates with the current low leverage? Also, look at other risks. If you analyze a deal and see its margin of safety is high, and protection is high, and you also see the potential upside if there’s relief in interest rates, it becomes what I’ve heard called an “asymmetric return.” Asymmetric returns can be very powerful. That’s what Warren Buffett did when he gave $5 billion to Goldman Sachs in the middle of the 2008 crisis. They put it in preferred equity with all kinds of provisions protecting them, and they knew it was very difficult for them to lose money. Although theoretically, there’s risk in everything, even deals with asymmetric upside and limited downside still have risk. That thinking is incredibly powerful because it’s the right type of thinking. I respect and appreciate your comments and the thought of looking for the margin of safety.
What else should folks do today? They get paid to sit on their hands and earn high interest rates by taking no action. Are there other things besides capital deployment exercises? What else can they do about their lifestyle, legacy, and family to prepare for what you mentioned—a recession, an economic recession, or some other bad event? I’m curious about other thoughts. You’ve done a lot of great wisdom and teachings on legacy. Maybe it’s an opportunity for folks to look at some of those things outside of monetary plans.
David Phelps: From a legacy standpoint, which I think here we’re talking about generational wealth. Generational wealth is not just the wealth of assets, the money, although that could be part of it. We all care about our up-and-coming generations—our kids, grandkids, nieces, nephews—anyone within a family unit. We typically say we want our kids and grandkids to have a better life than we did. Not saying much because I’ve had a good, blessed life. I don’t need them to have a better life, but I want them to have a good life. But I don’t want it built on a false sense of security because I’ve been able to provide well for my family.
Everyone wants to do that. When people haven’t seen tough times because they’ve benefited from a great economy or a good family, they haven’t learned lessons. Lessons are where we gain the most in life, not just the wins. Where do we learn? From mistakes, failure, setbacks. If our kids haven’t had those or we haven’t shared our lessons at the right time, we’ve left them at risk. It’s not just about saying, “I’ll send you to school so you don’t have debt, start your first business, or leave a trust fund for you.” That’s within the cards, but I think that’s a big mistake. Teaching our young people and giving them better knowledge about market cycles and what may be coming in the future is crucial so they have the ability to pivot and be resourceful.
Practically, we should have our house in order financially. What does that mean? Fixed-rate debt or reducing debt, credit cards that have ballooned up due to emergencies—knock off that debt before investing more money. Create more margin in your family budget. Maybe be more disciplined and not scarcity-minded. Discipline is essential. Do we need to spend the same amount every week on stuff we were lax about in recent years? Coming out of COVID, everyone wanted to enjoy life again, but constraints are necessary at some point. Building a plan and having family conversations are vital because you can’t drive it alone. You may be a prudent head of household, but if your family doesn’t understand the “why,” they’ll see you as an ogre. Continue going to Disneyland every year? Maybe find value in experiences and time with family that don’t require significant expenditures.
Mike Zlotnik: That’s a lot of great wisdom and nuggets. I appreciate that. I’ve had discussions with my kids, trying to teach them, “Do you really need this? Are you working to make the money to afford that?” Simple but essential conversations ensure kids learn to be self-sufficient. This generation, kids have gotten used to getting things easily from the government or family, and they don’t learn enough lessons. I see this daily and try to be a better parent, realizing I need to let my kids learn the right lessons. I’m grateful for your wisdom, reminding me to do a better job as a parent. This episode, like many things, comes to an end. Any parting thoughts? Any good books or suggestions? Anything recent comes to mind for the audience?
I’ll tell you this: I’m listening to John Maxwell’s “Sometimes You Win, Sometimes You Learn” on Audible. I wasn’t aware of this book, but when I heard it, I started listening and am on the third iteration. It’s very relevant and full of great nuggets. I recommend it. What about you? Any fresh, new reads or something to share with the audience?
David Phelps: A book that’s been out for a few years is Jocko Willink’s “Extreme Ownership” and its sequel, “The Dichotomy of Leadership.” Those are good books because taking personal responsibility is crucial. Teaching young people to take ownership of their decisions is essential. It’s part of life, owning your decisions, and accepting responsibility. Those are two good books that could be classics on the bookshelf for people to review and pass on to kids or others they care about.
Mike Zlotnik: Yeah, that’s awesome. I read “Extreme Ownership,” and it’s a powerful concept. In the corporate world, people often don’t want to own things; they just want to get paid and go through the job day in and day out. Extreme ownership is a critical character strength and a mental commitment to own decisions and act as a leader. Being a leader is hard. I appreciate that book. David, thank you so much for your wisdom and sharing. It’s an awesome episode. I look forward to our continuous friendship and wisdom. Every time we connect, I learn a lot from you. I’m grateful. Thank you for your continuous leadership during adversity and challenges. It’s not easy to do. Thank you.
David Phelps: Thank you, Mike. It’s always a pleasure.
Outro: Thank you for listening to The BigMikeFund Podcast. To receive your copy of Mike’s “How to Choose a Smart Real Estate Fund” book, head to BigMikeFund.com or visit Amazon and type Mike Zlotnik. Keep listening and keep investing, Big Mike style. See you in the next episode.
