Final in Series on Alternative Investments: Real Assets

Well, we’ve reached the end of the road of our discussion on alternative assets and we’ve saved the best for last.

There’s a reason why real assets have created more self-made millionaires than any other assets. I’ll let Will Rogers explain:

“Buy land. They ain’t making any more of the stuff.”

Real assets appreciate over time because supply is limited while the Earth’s population continues to grow. But appreciation is only one reason why 90% of the world’s millionaires are invested in real estate and why the ultra-wealthy and institutional investors consistently allocate a third of their investable assets to real estate.

When we talk about real assets as an investment class, we’re referring to commercial real estate and not residential real estate.

The ultra-wealthy and institutions don’t have time to play the flipping game. They prefer commercial real estate for the consistent cash flow from long-term leases and the ability to diversify across multiple tenants and to take advantage of economies of scale across multiple units.

Renovations, expenses, and management fees can spread out to reduce costs per door compared to residential real estate. And with certain levels of vacancies built into income models, operators of commercial real estate can make reliable projections of cash flow.

Investing in real assets can be done directly and indirectly.

Investing directly usually comes down to control and an investor’s desire to control an investment from acquisition to disposition. Direct investments require knowledge and expertise in particular asset segments as well as significant commitments of capital and time.

That’s why savvy investors prefer to invest indirectly through private equity, private debt, and private funds where they can rely on others with expertise and specific asset segments and geographic locations.

Investing passively is ideal for mitigating risk through multi-tiered diversification.

Let’s evaluate the merits of commercial real estate based on the following criteria:

• Non-Correlation to Broader Markets.
• Lack of Volatility.
• Cash Flow.
• Appreciation.
• Above-Market Risk-Adjusted Returns.
• Security (i.e., backed by hard asset).

NON-CORRELATION TO BROADER MARKETS – 

Commercial real estate is one of the least correlated assets to the stock market – with bonds being the asset with less correlation. There are certain assets like retail and office that dip in a downturn as we’ve seen during the COVID-19-induced recession, but commercial real estate typically is non-correlated to the broader markets.

Some segments are negatively correlated – meaning, they thrive in a downturn – like affordable housing and self-storage.

Savvy investors take non-correlation of the commercial real estate to whole other levels by taking advantage of multi-tiered diversification opportunities. Multi-tiered diversification of commercial assets is less about lowering risk at the expense of returns as with traditional markets and is more about creating multiple streams of income to preserve cash flow and appreciation.

Commercial real assets lend themselves to diversification across a variety of variables including:

• Geographic Location.
• Market Subsegment.
• Tenant Profiles.

All of these factors serve to preserve one thing – income – essential for growing and maintaining wealth even amid turbulent times.

LACK OF VOLATILITY – 

Commercial real estate investments are illiquid and are therefore insulated from volatility. You can’t just swipe your screen like with stock to liquidate a commercial asset.

This illiquidity is what shelters property prices and investments from market volatility. Passive investments typically have minimum 5-7 year lockup periods, making them highly illiquid, but interesting enough, it’s what smart investors expect and demand.

Savvy investors prefer illiquid markets because it prevents the type of volatility that destroys wealth on Wall Street.

They’ll willingly give up liquidity to achieve:

• Above-market returns.
• Non-correlation to Wall Street.
• Consistent income stream.
• Management transparency.
• Long-term growth.
• Expert and efficient management.

CASH FLOW –

Commercial real estate has long been a reliable source of consistent cash flow that is assured to continue through downturns, especially in diversified portfolios where cash flow from one resilient property can compensate for a reduction in cash flow at another property.

APPRECIATION – 

Commercial real estate has intrinsic value. Assets with intrinsic value have an underlying value independent of its price. In contrast, stock prices can skyrocket solely on hype with no change in underlying value.

Intrinsic value says the price of an asset can never be zero because of the underlying value. Real estate is never worth nothing because of the value of the underlying land and of its cash flowing lease operations. Because of this intrinsic value, the underlying value of commercial real estate appreciates over time – independent of inflation.

ABOVE-MARKET RISK-ADJUSTED RETURNS – 

The triple threat of cash flow, appreciation, and diversification is the reason commercial real estate has delivered better risk-adjusted returns of any asset class.

SECURITY – 

Often investors in commercial real estate can always fall back on the underlying asset if a venture goes south. Investments in real assets can offer what security stock investments cannot by providing investors distributions during liquidation. With public equities, investors are last in line for a distribution of principal if the business fails.

The various alternative asset classes we’ve discussed in previous entries of our alternative investment series offer one or more alternative benefits that distinguish them from public equities, but there is only one asset that offers all the benefits – and that asset class is commercial real estate.

That’s why 90% of millionaires are invested in commercial real estate. They’re in it for its:

• Non-correlation to Wall Street.
• Lack of volatility.
• Cash flow.
• Appreciation.
• High risk-adjusted returns.
• Security.