Real Estate Investing Basics

Real estate investing offers so many benefits that it should be incorporated into every investor’s portfolio. However, many are interested in adding real estate but don’t understand all of the advantages, what options to consider, or how to participate beyond buying a property on their own.

Since today’s real estate investors have so many available options, from various property types, active versus passive investing, long-term versus short-term hold periods, and core versus value creation opportunities, we have created this summary to help.

Why Consider Real Estate Investing

Should I invest in real estate or stocks? Real estate provides numerous advantages compared to traditional stock, bonds, bank certificates of deposit (CDs), and cryptocurrency, such as Bitcoin. Unlike any of these other investment options, real estate is a hard asset, meaning it has a physical presence. 

A company can fail and disappear, such as WorldCom, Enron, or Silicon Valley Bank, but with real estate, the land will always remain. Even if a building is foreclosed on or demolished, the land still has value and can be repurposed for another use or built upon once again.

Additionally, real estate valuations are based on contracts, known as leases, that contain pre-established rental rates and generally have terms of three years or more. Longer-term leases provide investors with more certainty because the future cash flow is established. By knowing the future income stream, the investment becomes more stable and less volatile. 

Stocks, on the other hand, can be much more volatile. Whether it is quarterly earnings expectations, management changes, competitive product developments, sales growth forecasts, Fed policy decisions related to interest rates, or investor sentiment, these factors can impact a stock’s daily price and increase its volatility.

Real Estate Provides Diversification

Diversification is a successful long-term strategic plan because it minimizes volatility over the entire portfolio. By investing in multiple stocks and different asset classes (stocks, bonds, or real estate), an investor reduces their risks. 

Mutual funds are an ideal diversification example because your investment is spread across numerous companies and industries. For investors who already own stocks, bonds, CDs, or cryptocurrency, real estate also provides asset diversification.

Investable Property Types

Other than buying a condo or single-family home for rental purposes, there are generally seven property types to consider for an investment. These include:

1. Multifamily – Multifamily properties consist of two or more units leased to individuals for housing.
2. Office – Office properties are leased to businesses for their related operations. Local governments regulate business uses through zoning ordinances.
3. Warehouses – Also leased to businesses to operate in and are governed by local zoning codes. They typically include 5-10% office space, one or more loading dock doors, and large open areas to store materials, manufacture products, or assemble goods.
4. Flex – These properties represent a hybrid between office and warehouse spaces. They can contain 30–80 % office space, with the balance being utilized for manufacturing, R&D, or storage.
5. Retail – These spaces are leased to businesses to display and sell products to consumers. Retail property owners are focused on the property’s tenant mix, so they complement each other to generate more revenue and don’t compete against each other.
6. Self-Storage – These properties generally provide short-term leases for personal and business storage. Compared to other investment options above, self-storage differs because it is an operating business, not just real estate.
7. Hotel – Hotel properties are unique in that they rent space nightly and at constantly fluctuating rates. Hotels, like self-storage, are operating businesses.

When considering commercial real estate investments, you’ll also want to weigh the benefits of single-tenant vs. multi-tenant properties.

4 Ways to Invest in Real Estate

There are four methods to invest in real estate: REITs, Funds, Private Equity, and directly yourself. Each has pros and cons, which are briefly outlined below.

Real Estate Investment Trusts (REITs)

REITs are publicly traded stocks. Their primary benefits include ease of purchasing and selling, and they are highly liquid (ease to transact). 

However, REITs don’t enable investors to choose which properties they want to invest in. You are invested in the entire portfolio.

Funds

Funds pool institutional and private investor money together. They tend to focus on certain property types or risk levels (core versus opportunistic). 

Beyond these general investing criteria, investors don’t have any decision-making ability about specific property acquisitions. Investors are also limited in the timing of buying and selling their interest. A fund has a finite duration to liquidate all its investments, which might not produce the highest price.

Private Equity 

Sponsors pool money together from high-net-worth individuals generally to buy a specific property. Investors have 100% control about deciding to invest or not. Sponsors also typically invest their personal money alongside outside investors. Not being publicly traded, Private Equity can limit an investor’s ability to buy and sell.

With the three methods we’ve mentioned, investors benefit from professional managers operating, maintaining, and leasing the property. Additionally, since money is pooled together, smaller investors can participate in owning very large properties compared to what they could acquire on their own.

By Yourself

Purchasing directly provides investors with 100% control, similar to Private Equity. However, you may be required to provide personal liability for an acquisition loan aside from contributing a down payment. 

Also, unless you hire a professional manager, you will need to respond to tenant service requests and have active participation in lease negotiations and decisions.

Additional Considerations

There are two primary ways to evaluate investment opportunities: growth versus value. 

Growth-oriented investments focus on increasing value through appreciation as quickly as possible. Tech stocks that don’t pay dividends and reinvest earnings into R&D are an example. 

In contrast, value-oriented investments pay regular dividends and are considered long-term investments. Their appreciation is slow and steady and would be characterized as Consumer Staples, such as Coca-Cola or Walmart.

What Are the Benefits of Investing in Real Estate?

So, should you add real estate to your portfolio?

Compared to stocks, bonds, cryptocurrency, or CDs, real estate provides investors with two means to generate returns, plus it offers tax benefits. 

Real estate provides investors with returns from cash flow via rents paid by tenants, as well as through appreciation. Cash flow generated from tenant rent payments produces regular distributions, similar to a dividend from a value stock. 

However, real estate can also provide significant value appreciation, similar to a growth stock. Tech stocks and cryptocurrencies such as Bitcoin don’t pay dividends. Bonds pay regular interest payments but don’t appreciate significantly. CDs only pay interest, and they don’t appreciate. 

Therefore, real estate offers the best of all these options.

Lastly, through depreciation, real estate provides investors with the ability to reduce their after-tax income. None of the other investment vehicles offer that option.

Diversify Your Portfolio With Commercial Multi-Tenant Real Estate

If you are interested in learning more about real estate investing and how adding multi-tenant real estate to your portfolio can help you build more long-term wealth, reach out to the Kenwood Management team. We can help you understand how a private equity and management group works and why it’s an excellent strategy to generate passive income.