Diversify Real Estate Investment

by Christopher Levarek

“The only investors who shouldn’t diversify are those who are right 100% of the time.”

- Sir John Templeton

If you are anything like me, you have most likely invested into some kind of IRA or 401k while working a W-2 job. Maybe you’ve even had an investment adviser of this 401k say, “you need to diversify your portfolio”. So you place all your investments into a index fund that then is spread across multiple types of stocks. The idea is you are hedging your risk of any one stock or company performing poorly with others that might be performing better. This is diversification.

It’s about expecting the unexpected or having safeguards for the what-ifs. Yet, did you know you can invest into real estate for diversification and even diversify throughout your real estate portfolio as well. As many know, just like the stock market, real estate too has cycles of ups and downs. Today, we are going to look into some ways you can not only limit risk with diversifying into real estate investments but also how you can spread that risk over varying forms of real estate.

5 Ways to Diversify Investments in Real Estate

1 - By Asset Type

In real estate, there are various asset types to invest in. You can choose to invest in a single-family home, an apartment, a self-storage facility, office space, retail store, etc. Each asset type has different demand/supply and risk profile. By investing in varying forms, you actually achieve diversification in case one asset type is more affected during a down cycle.

2 - By Asset Class

Much like the asset type, there are various conditions a real estate property can be in. These are often known as asset classes. You might have heard the terms A class, B class, C class and even D class. An A class property would be more of the new luxury type apartment with all the bells/whistles and the higher rents. A C class apartment might be 30-40 years older, at mid to lower rent ranges, needing some upgrades in certain areas.

Now the tenant base in these various asset classes will be different and during the cycles of real estate, these asset classes will be affected differently. Typically, during rough times in the economy, people will move down to more affordable B/C class assets from those A class assets if needed. Likewise during times of prosperity, people will move up to A class assets and upgrade living conditions with greater confidence. Diversifying between various asset classes can allow for one to be protected during both cycles.

3 - By Location

Every city in the United States is different and each have varying numbers regarding employment, population, types of employers, median incomes, etc. Some cities are in massive growth as businesses and people move into the city while others are on the decline. For investors of course, we want to be invested in cities in expansion or growth, hopefully long before the growth has achieved full potential.

Yet, by diversifying in varying locations or cities, an investor can ensure they are able to capture those growth markets and not solely depend on one location. This is diversification for an investor, similar to investing in varying stock or companies. However, it is up to the investor to learn the market and perform some levels of research on the city to ensure the right markets are being invested into.

4 - By Hold Time

Investing into real estate involves a hold time or a period of time where the investment capital is in the real estate property. This can be typically anywhere from 3-10 years. By varying the hold periods of the investments you are invested into, you ensure that your cash value is preserved in a hard tangible asset(real estate) or on the inverse not all tied up in investments.

This becomes important for example if inflation is on the rise, placing capital into hard-assets like real estate can be better than holding cash. Or if you want to exit an investment at the peak of the cycle to have cash for future lower-priced investments, this also could be a strategy. In either case, varying the hold periods on your investments can be a form of diversifying.

5 - By Fund

In real estate, you can invest into what are known as funds. In fact, our company has experience in this realm and typically create a fund for our investment opportunities. The real estate syndication fund can represent specific asset classes or types however is not limited to 1 property or one location. So the fund could state in the PPM, private placement memorandum, that it will be investing in multifamily property and self-storage assets throughout the U.S. Any investor capital invested in the fund is then spread over multiple properties thus limiting risk associated with one specific property performing poorly.

In Final

Market cycles in real estate go up and down shown by historical trends that are visible over the years. A wise investor learns to diversify and limit risk by utilizing some of the methods listed above. As you are looking for your next investment opportunity, consider employing some of these diversification strategies to enable you to maximize growth whatever the market cycle.