Article 2 of 5: Real Estate As An Investment Option
This is the second in a series of five pieces to help investors understand the benefits of owning commercial real estate, then differentiate the dynamics and variety of ownership channels.
Two investors that each own Amazon stock own the same investment; however, two investors that each own warehouses leased to Amazon do not. All commercial real estate (CRE) is different and can be categorized and analyzed in many different ways.
CRE Sectors
The heart of every major city is the Central Business District, which is home to the “core” sectors of Office, Industrial, Multi-Family, and Retail which make up the bulk of CRE, and are typically the most expensive buildings. They are often owned by large institutions i.e., insurance companies or pension funds as portfolio diversifiers. Satellite sectors include hotels, regional malls, self-storage, data centers & even cell towers. Each sector has unique demand drivers and sensitivity to economic factors. Many investors diversify their real estate holdings across multiple sectors.
Geography and Demographics
The most valuable domestic markets are the “Gateway Cities” of Boston, New York, Miami, Seattle, San Francisco & Los Angeles. Industrial warehouses are more valuable closer to the ports of Houston, Savannah, and Long Beach, CA because of their import traffic. CRE gets more affordable in smaller markets. Every geographic center can then divided by “sub-markets”, which might be identified by average household income or education level, proximity to transportation, or other magnets like schools and shopping. The size and characteristics of a market’s population have a major influence on real estate. Demand for apartments, for example, is higher near universities, military bases, hospitals, or other major employers.
There is an expression that All Real Estate is Local, which speaks to the need for knowledgeable community members when evaluating the merits of owning a particular property.
Risk / Return Characteristics
Real estate investments can also be categorized by their risk/return characteristics. The spectrum can be categorized as Core, Core Plus, Value-Add, and Distressed. Core properties generally have high occupancy and stable tenants. The steady income stream and predictable cash flows put core properties on the more conservative end of the real estate spectrum.
As you move down the spectrum from core-plus to distressed, properties have greater cash flow uncertainty and capital improvement needs. Investors may choose properties with greater risk for the possibility of greater capital appreciation.
Additional metrics in determining a building’s category can include age, design characteristics, and remaining lease terms.
As you learn more, it becomes readily apparent that investors need to rely on experts to determine the best buildings for any portfolio.
