In today’s uncertain economic climate, people tend to throw out any form of risk management and opt for “safe” investments, not realizing that all investments are exposed to some sort of risk. Elements of uncertainty and risk are associated with all asset classes, including Real Estate, and can be managed and optimized by looking at how all your investments interact in a portfolio context.

UNCERTAINTY IMPLIES AN UNKNOWN # OF OUTCOMES

Events such as the 911 terrorist attack and its economic effects could not be forecasted and reflect uncertainty. By definition, uncertainty is unmeasurable. Uncertain events can not be quantified and estimated with any degree of certainty.

RISK IMPLIES A RANGE OF PROBABLE OUTCOMES

Elements of risk can be analyzed through research and various techniques. Ranges of possible outcomes can be predicted. Formal risk analysis incorporating sampling techniques, statistical inference, and probability measures can be used to great effect. Nobody can accurately predict the future, but we can estimate possible outcomes with differing degrees of confidence. Investors who purchase property are simply purchasing an anticipated stream of benefits.

The three primary forms of risk for Real Estate investments are Financial, Insurable, and Business risks. Other forms of risk to consider include Market, Capital Market, Inflation, Liquidity, Environmental, Legislative, and Management risks. Certain market areas such as Boston, NY, and some West coast cities are highly sensitive to changes in local ordinances which affect the amount of new construction, the supply/demand curve, and trends in migration patterns.

UTILIZE ALL FORMS OF RISK MANAGEMENT

Risk can be controlled through diversification, extensive market research, extremely competent property managers, and hedging. Landlords can often shift risk to tenants using tax stops, rent escalator clauses, net leases, and rental rates pegged to certain price indices.

Purchase properties that differ by type, are affected by different market forces, and cater towards tenants of differing socio-economic classes. Certain investments and property may be more sensitive to some elements of risk than others. This is why it is important to make sure that you hold investments that are uncorrelated with Real Estate as a whole, in order to further diversify your portfolio. Thinking through all your financial decisions from a broad, portfolio context, instead of each individual investment, will minimize your exposure towards risk.

Photo Credit: KYZ

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Tags: risk, risk management, uncertainty

I guess the scariest thing about investing is not knowing for sure. Many have written here about the best ways to minimize risk and create a system whereby an investor has the best chance of succeeding and maximizing ROI. yet, there is still risk.

Even the best planned investment can go sour. We can almost predict the market by analyzing trends, looking at demographics, buying right, using information gathered from valuable sources, yet, still there is risk. But risk is what creates the reward.

I don’t know of any investment with a high return without risk. The higher the risk the higher the reward — but, conversely, and this is the scary part, the greater the possible loss. An investor has to be prepared to lose. Managing risk is an important part of investing. Perhaps having a back-up plan, if this plan for this property doesn’t pan out, perhaps I can use the property for this, or, if this tenant fails I have investigated this possibility, or, if the building trend doesn’t carry forward in this area, I can sell the property for this use — each scenario will be different, but there should be an exit plan.

And there should be an acceptance of risk as the nature of investing. I have seen too many investors pass up good deals because they could never accept the risk. There has to be a point after all the rational planning has been completed where you go out on a limb. This is tough, especially in this market.

Yet, in this market there are good investment choices, because of the risk. Those who pull the trigger and guesstimate correctly will be rewarded handsomely, but many might lose. If there was no loss, everyone would invest.

This seems obvious, but I’m considering new investors, and I know how the excitement of investing can turn into stark fear once the realities of the possibility of losing sink in. So, I’m advising to get all that out of the way before you pump yourself up, and get advice — this is very important — get advice from someone with experience. It helps to work through the fear, on one hand, and on the other hand, it prepares you to know fully what to fear. Go in with your eyes open, your mind clear and your heart (stomach) strong.

Tags: managing risk in real estate investing, real estate investing, real estate investor, risk, risk management

Home sales going down; foreclosures going up. Sounds like a bad airplane flight, doesn’t it? Pretty bumpy going.  But, this all leads to two key questions, says  MarketWatch’s “Real Estate Weekly.”– For mortgage lenders, how much risk should they take on? For buyers, how far should they reasonably stretch their economic resources in order to buy into the American dream of home ownership?

Steve Kerch, the real estate editor for MarketWatch says that “matching a borrower and a loan is an art, not a science.” Kersch points out that to become a first time home buyer, one must be able to have a “leap of faith” and bet their income will stay high enough in the future to make the payments. By the same token, he reminds us, “It’s probably not asking too much that we allow our lenders to take that leap as well.”

Tags: borrower, buyer, home, lenders, mortgage, risk