Commercial Real Estate Value Investment Strategies
Value Investment is a popular strategy with efficacy documented in some contexts that have been extensively researched by academicians on the value effect in the equity markets. Value investing involves buying of properties whose prices are low on some metric under the expectation that if value invested is effective, those properties will generate higher risk-adjusted returns.
This is the fact that value investing essentially involves looking for properties that trade at a low price has great intuitive appeal for investors and can help explain its enduring popularity. Individual properties can be defined as the value properties if their cap rate at a particular time is high on other properties that are similar in terms of property type and location.
Realtors actively seek properties they believe the market has undervalued. Realtors who use the value investment strategy believes the real estate market overreact to good and bad news, resulting in properties price movements that do not correspond with a company’s long-term fundamentals, giving an opportunity to profit when the price is deflated.
Core: These are properties that are relatively stable in major metros, such as high-rise office towers or apartment buildings downtown locations. These properties usually best-in-class properties in the best locations, with high, stable occupancy and credit tenants. Core properties can be quite large and expensive and, therefore, are usually owned by well-capitalized entities, such as REITs and other institutional investors.
Core value investment strategy can be seen as an alternative to bonds with the added benefit of being backed by a physical asset and offer a potential hedge against inflation. The core investors favour yield over appreciation and will view real estate as a relatively safe place to invest capital.
Core-Plus: The core-plus value investment strategy is somehow similar to core investment, but with extra features. These core-plus investment strategy properties assets occupy the next rung on the risk ladder. The properties may share many of the same characteristics with core assets with one or more exceptions that create added risk.
Real estate brokers looking to use the core-plus strategy seek out assets that are still fundamentally sound and appealing, but offer an opportunity to add value to enhance returns. Some examples of those exceptions might include the age or condition of the asset, a dip in tenant credit or less than stellar location.
Value-added: These are properties that take bigger step out in the risk reward line. This type of value investment strategy has problems that need fixing, such as leasing to improve significant vacancy, renovation or re-tenanting to improve the quality of the rent roll. The purchaser is usually coming in with a specific business plan to improve an under-utilized asset.
This is a well-executed strategy that can turn a value-add asset into a core-plus property. With more risk and effort required to successfully execute the business plan, these investments often give leveraged returns in the high teens at 15% – 19%. In addition, re-tenanting and repositioning strategies, as described above, can often be mostly capitalized through other leverage that is funded by the senior lender post closing as the business plan is proven out.
Opportunistic: This is the last value investment strategy with major problems to overcome, such as major vacancy, structural issues or financial distress. Sometimes referred to as Distressed Assets, Opportunistic strategies may involve acquiring foreclosed assets from banks or servicers or acquiring the senior loan at a discount from banks or servicers with an eye toward eventual foreclosure.
Opportunistic value investment strategies were many in the wake of the recession as bold investors stepped in to buy properties in distress at steep discounts from earlier trades. In some cases, opportunistic deals need special ability to execute the turn around or patience to wait out a downturn in the market to effect a value-added strategy once tenant demand begins to resurface.
Having a well-balanced commercial real estate portfolio may include some or even these different commercial real estate value investment strategies categories depending on the risk tolerance of the individual investor.
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