All investment options come with a certain amount of risk. While the amount of risk that you’re willing to take may dictate the type of investments that you make, it’s important to note that there is never a sure thing in the world of investments. While some investments provide only one type of risk, real estate investors understand that there are multiple types of risks involved. Understanding the differences in these types of risks gives you the ability to determine what investments are worth it for your personal investment strategy.
Liquidity risk is associated with the amount of liquid assets that you have on hand to continue to fund your investment. For instance, when you purchase an investment property, there is a chance that you could run out of money, leaving you unable to pay the mortgage, maintenance costs and other fees associated with property ownership. Streitwise is relatively illiquid ,compared to traditional publicly traded stocks, with a 1-year lockout and 5-year redemption plan.
While the risk of being too illiquid and not having access to instant capital is obvious, there are drawbacks to being too liquid as well, including higher likelihood of volatility. Just one negative news cycle can lead to a mass sell-off of a highly liquid investment, such as a publicly traded stock. The most cited negative to liquid investments is the higher price and corresponding lower return they generally provide, known as the liquidity premium.
Market risk is the most common type of real estate investing risk. It’s simply the risk associated with investing in an ever-changing market. Since 2020, the Covid-19 pandemic has impacted every industry, including real estate. With a current drought in the USA housing inventory, there are fewer options for investors to purchase. Since there are fewer homes, sellers are asking more for properties that are for sale. This is an example of market risk.
Streitwise has performed relatively well through this market risk by having strong corporate underwriting, strong credit tenants that were able to largely pay rent through the pandemic, and conservative leverage.
Asset Level Risk
Asset level risk refers to investment options that have an inherent amount of price volatility. Again, we don’t have to look beyond the housing market in the last couple years to see asset level risk in real estate. While the Covid-19 pandemic has driven up the value of residential properties due to low interest rates and a decrease in inventory, commercial properties, primarily in primary gateway markets have decreased in value. With so many industries being shut down by the pandemic, office spaces, retail facilities, hospitality venues and other types of real estate have often become less valuable. Since many businesses have shut down or shifted to a work-from-home structure, some commercial properties are worth much less than they were just two years ago.
While our offering is focused on commercial properties dependent on rent-paying tenants, our focus on secondary markets in suburban-urban locations has created a popular option for office workers to locate to. Our investors have continued to see ongoing success in the face of asset level risk. Most tenants are expected to return to their office spaces in 2021 and we have continued to sign new leases and fill vacancies, meaning our investors have and will hopefully continue to see success in their commercial investments.
Interest Rate Risk
Interest rate risk refers to the potential losses that an investor may suffer due to fluctuations in interest rates. At the moment, interest rates are at historical lows which is great for investors who want to leverage funds in order to purchase additional investment properties. It also bodes well for fix-and-flip investors who want to sell a home. However, if those interest rates climb, mortgages will become more expensive which will impact investors on both the front and back ends of the deal.
Leveraging funds in real estate is the use of other peoples’ money in order to purchase an investment property. Whether this is through a mortgage, a credit union, private investors or another source, leveraging funds can help magnify the gains on a property since the investor has less of his or her money tied up. However, leveraging funds can also magnify losses. If something goes wrong with the investment, an investor may find himself or herself unable to pay back creditors, creating a risk of defaulting on a loan.
Fee risk simply alludes to the risk associated with the various fees that come with purchasing a property. Property taxes, interest rates and other fees are a part of property ownership that comes with investing in real estate. No matter how risk-averse an investment seems, there is always a possibility that an investor may be unable to pay these fees, creating the concept of a fee risk. In many cases, investment firms don’t even disclose certain fees, instead tying them into the fine print.
Certain financing structures, such as the waterfall structure, may lead to diminished returns due to investment fees. Fortunately, we have constructed investment options that help negate many of these fees, leading to more profitable investments.
While real estate is a great investment option for investors looking to diversify their portfolios, there is always risk involved. However, Streitwise’s investment model has continued to withstand ongoing economic fluctuations and other issues that can make investments even more risky. Our structure ensures that our investors are in the best possible position to succeed, putting more money in their pockets.
Adam Luehrs is a writer during the day and a voracious reader at night. He focuses mostly on finance writing and has a passion for real estate, credit card deals, and investing.