Yes, You Can Invest in Commercial Real Estate
There are some common misconceptions about investing in commercial real estate, which result in missed opportunities to build long-term, sustainable wealth. Today, we will debunk two myths that limit how people invest in this sector.
1. Myth: The best way to invest in commercial real estate is through publicly traded real estate investment trusts.
Perhaps the most common way that people invest in commercial real estate is through publicly traded real estate investment trusts (REITs). However, this is simply due to the fact that investors are unaware of the opportunities for direct ownership of commercial real estate assets and unaware of the limitations of REITs. Publicly traded REITs are more highly correlated to stocks than to direct ownership of commercial real estate. Also, the share price of REITs fluctuates, similarly to stocks, as it is subject to the same market dynamics. A REIT may trade higher or lower than the value of its underlying assets.
A more advantageous way to invest in commercial real estate is through direct (private) ownership. Private commercial real estate has low or negative correlations to stocks and bonds because real estate is relatively illiquid, trades infrequently, and is not prone to speculation. This makes private commercial real estate a strong diversifier that dampens portfolio volatility. Direct ownership of commercial real estate can be facilitated through passive investing in what are known as syndicated investments.
The Jumpstart Our Business Startups (JOBS) Act of 2012 resulted in changes that have brought attention and accessibility to syndicated investments. The growth of syndicated investments is also attributable to the increasing number of investors who desire to reduce their exposure to—or completely separate from—the volatile stock market by investing in real estate that generates income with tax efficiency.
By neglecting syndicated investments in commercial real estate, investors miss out on compelling investment opportunities, and this hinders their ability to build wealth and generate cash flow. Many investors wish they had started sooner to enjoy the advantages of appreciation, cash flow and tax benefits.
2. Myth: Investing in syndicated commercial real estate is exclusively reserved for the "top 1%" and ultra high-net-worth individuals and families.
It is widely known that many of the ultrarich have invested or generated a substantial portion of their wealth through commercial real estate. As a result, many retail investors are under the belief that these investments are not accessible to them, and some do not take even take the time to learn about the sector. In fact, these investments are absolutely accessible to accredited investors and most sophisticated investors.
Historically, institutional and wealthy investors dominated the commercial real estate space. This is no longer the case. In the last several years, the growth of online crowdfunding platforms and private equity companies raising investor capital via syndications now make it readily accessible for motivated investors to become involved in commercial real estate.
The practice of people partnering and pooling capital to acquire or construct real estate assets has taken place for centuries. Real estate entrepreneurs (known as sponsors or syndicators) that constructed these deals (known as syndications) would share their opportunities with like-minded "passive" investors. This partnership, or syndicate, allowed all involved parties to have more buying power than they would have on their own to pursue deals that facilitated direct ownership of income-producing assets. One of the most well-known syndicated real estate deals occurred in 1961, when the famous real estate attorney Larry Wien and his partners purchased the Empire State Building in New York City. They raised $33 million by selling 3,300 units at $10,000 per unit.
In a syndicated real estate investment, the sponsor consists of one or more partners working as the management team and pooling capital from investors. The sponsor contributes the "intellectual capital" and is responsible for all the decision-making and work involved with delivering the forecasted investment return to the investors. Because the investors have no responsibility to manage the details of the investment, the investors' involvement is considered passive. Investing in a syndication can provide passive investors with several perks:
- Benefit from the sponsor's efforts to produce the investment opportunity
- Ability to invest with others and pool capital to invest in more significant transactions
- Pursue greater investment returns due to larger transaction size
- Save time and eliminate potential liability by having a passive role in the opportunity
When investors realize that they are able to passively invest in commercial real estate, then they wish they had started sooner. Investors in commercial real estate can benefit from a combination of appreciation and cash flow, and they enjoy a more favorable investment on a risk-adjusted basis than both stocks and bonds.
For more information on passive investing in commercial real estate, please check out our eBook - More Doors, More Profits - by clicking here.