Crowdsourced (or crowdfunded) real estate investment involves a group of investors pooling their money together to invest in a single-property real estate opportunity. This can help investors diversify their portfolios and become less reliant on the returns of their stock and bond investments, but to say that investing in real estate deals of this nature reduces risk would be misleading.
With that in mind, here’s a glimpse of why crowdfunded real estate could help you reduce the risk, as well as the crowdfunding-specific risk factors that you need to be aware of before considering such investments in your own portfolio.
What is investing in crowdsourced real estate?
Crowdsourced real estate investment, more commonly referred to as crowdfunded real estate investment, is a relatively new way to invest in real estate.
Here’s how it works: a developer or a real estate company, known as a “sponsor,” is designing a commercial real estate opportunity. For example, a sponsor may identify a hotel property that needs to be renovated or an opportunity to develop and build a new self-storage facility.
The sponsor then advertises the opportunity for prospective investors through a crowdfunding platform. CrowdStreet and Realty Mogul are reputable examples of this, and essentially act as middlemen between a potential deal sponsor and real estate investors. Investors may choose to contribute some of the financing required for the project in exchange for a share of the income and profits generated.
The point of crowdfunding is to give day-to-day investors the opportunity to put their money to work in commercial real estate, or CRE. This has historically been a lucrative type of investment that has been largely out of reach for most investors for obvious financial reasons. For example, not many people reading this could go out and buy a high-rise office tower, and then go on to renovate it. However, crowdfunding can make it possible for you to invest your money in exactly that way.
How crowdfunded real estate investment can help reduce risk
Unfortunately, there is no easy answer to the question of whether crowdfunded real estate reduces risk. In some ways, participating in a crowdfunded real estate deal can certainly lower your risk, but it adds to your risk in other ways. We’re going to look at both sides of the story, starting with the ways it can help you reduce your risk.
First of all, crowdfunded real estate can help you diversify your investment portfolio. This is the No. 1 way crowdfunded real estate investment can help you reduce your investment risk.
If you are currently investing in stocks , bonds or mutual funds, for example , adding crowdfunded real estate opportunities to your investment strategy can add diversification and help keep you away from stock market fluctuations. Even if you already invest in real estate — let ‘s say you own a rental property — investing in a crowdfunded real estate deal is a completely different kind of investment.
From the point of view of real estate investment, crowdfunded real estate has the advantage of professional management. Most deal sponsors who list on major crowdfunding platforms are very good at what they do, so they can be less risky than, say, trying to buy a property, fix it, and flip it on their own.
How crowdfunded real estate investment can add risk
Crowdfunded real estate deals often target an internal rate of return ( IRR) of 12–18 per cent. Let’s be perfectly clear — no investment that is capable of this type of annualized return is risk-free, and crowdfunded real estate is certainly no exception.
With that in mind, although crowdfunded real estate can certainly help to reduce your investment risk in some ways, it is not risk-free investment by any definition of the term. In fact, there are some big risk factors that you should know about before you commit to your first crowdfunded real estate investment.
One major risk is that crowdfunded real estate deals typically involve only one property, as opposed to stock mutual funds or real estate investment trusts ( REITs), which may involve more than one property. Investing in a single asset clearly carries more risk than a REIT, which owns hundreds of buildings, or a stock mutual fund with 1,000 different stocks in its portfolio. Think about it this way—-If a company owns 100 office buildings and there’s a major problem with one, it’s not likely to be devastating to the profits of the company. On the other hand , if a company owns one office building and it has an issue — say, it sits vacant for longer than expected — it can crush that company ‘s returns.
There is also an element of risk execution when it comes to these types of investment. In other words, a crowdfunded real estate deal typically doesn’t aim to simply purchase a property and rent it out as it is. There is usually some kind of value-added strategy, such as a renovation project. Thus, the targeted return is based on the ability of the company to carry out its plans as expected.
But here’s an example of how things can go wrong. Let’s say that a crowdfunded real estate deal aims to purchase an apartment complex, spend the next year renovating it, lease it and collect rental income for another four years, and then sell it for profit at the end of the five-year holding period. Well, if it ends up taking longer than expected to renovate, or the renovations end up costing more than expected, or it takes an unusually long time to lease the units, it can be a serious drag on investor returns.
Moreover, crowdfunded investment in real estate is highly illiquid, even more so than typical investment in real estate. If you own a stock, you can sell it at full market value immediately by clicking a mouse. If you own a rental property, it may take a few months to sell at an acceptable price. And, if you invest in a crowdfunded real estate deal, you’re likely to be locked in for several years. Deal sponsors generally set a target holding period (three to seven years is common), but there is no guarantee that it will not take longer.
Finally, there’s also the economic risk. This varies on the basis of the specifics of each agreement, but it always exists to one extent or another. For example, if your crowdfunding deal involves buying a hotel (a highly cyclical type of property), a recession can be devastating to your expected returns.
The bottom line of the
Crowd-funded real-estate investment can help you reduce your risk in the sense that it can help you diversify your investment strategy and become less dependent on returns from stocks, bonds, and other common investments.
However, it is also important to realize that crowdfunded real estate is by no means a low-risk investment, and investors should be well aware of the risk factors before deciding whether crowdfunded real estate is right for them.
Unfair Advantages: How the Billionaire Factory Became Real Estate
You probably know that real estate has long been a playground for the rich and well-connected, and that according to recently published data, it has also been the best investment in modern history. And with a set of unfair advantages that are completely unheard of with other investments, it’s not surprising why.
But in 2020 barriers have collapsed-and now it ‘s possible to build REAL wealth through real estate at a fraction of what it used to cost, meaning that unfair advantages are now available to individuals like you.