October 18, 2021

What Holds Investors Back From Investing in Real Estate

Every few years an event occurs which causes investors to reconsider where they put their investment dollars. A stock market crash can do it, but so can a stock market boom. If an investor feels that their funds may be tied up in a bubble, it’s understandable that they would start looking at alternatives. The most classic asset class to consider after Wall Street products is real estate. It can be conservative, lucrative, and has a well-understood infrastructure. Investors using a Self Directed IRA are usually further down this path and many of them are already active in real estate. However, most investors have yet to take the plunge. What exactly is holding them back? 

In a recent poll from Barrons, investors were asked about their involvement with real estate. The answers given were very informative but were channeled towards an advisor audience. There’s no problem with that, but it does leave the answers somewhat uninformed. Advisors typically have the bulk of their experience in market products and only a few of them have deep expertise in real estate. Here at Madison, real estate is the most prominent asset, and it gives our team a unique take on the survey answers. Coming from a Self Directed IRA perspective actually sheds new light on investor desires and may provide the impetus needed for more people to get going with real estate. 

Who are the investors looking to make a change? 

In order to understand the poll results properly, we need to know who was participating. The questions were asked of people who possessed one major criterion: they owned $1 million or more of investible assets. In the current market, this is not a crazy number, but it does exclude investors who are just starting out or those who may have their assets tied up in pensions (or other plans.) The $1 million criteria are important in the context of real estate investing because it means the investor has the capability of buying a property. Now obviously the investible assets won’t always be so large. However, for a Self Directed IRA investor to seriously consider a property, the account should usually have a minimum of $250,000 in it. 

Now that we know the demographic, we just need to determine the flashpoint. What was it exactly that got these investors thinking that they should diversify with non-market assets? For most of them, it was living through the Covid-19 pandemic. 41% identified Covid as the trigger which made them reconsider their portfolios. The market didn’t necessarily collapse during Covid but the uncertainty of the global economic future added a degree of volatility that inspired contemplation. As global economies have become more intertwined with each other, there has been a growing sense that diversification is more important. Nobody wants to be stuck in an asset boat where one disparate world event can send wealth plunging. Covid-19 helped clarify that fact for investors and inspired a look at unrelated assets. Prime amongst them is real estate. 

Why aren’t investors voicing their interest in real estate? 

As much as investors have had their interest in real estate rekindled, they haven’t shared this fact with financial advisors. Only 12% have actively informed their advisors that they have an active interest in commercial real estate. This could just be a communication hurdle - i.e. getting past the inertia to signal a change – or it could be indicative of something deeper. As mentioned before, many advisors don’t have deep experience with the property. Hence, there is some understandable discomfort in bringing it on board as an active asset. In such a case, were the client to broach the idea of investing in physical real estate, they could expect one of two common answers: 

  1. “Let’s not get involved in real estate. It’s messy, doesn’t fit well within our system, and lacks the liquidity that has made you successful until now.” 
  1. “Diversifying with real estate is a good idea but why not do the smart thing and do it through a REIT? That way we won’t get distracted by the practical details and you’ll still be able to achieve your diversification goals.” 

These are both legitimate answers, and if they make sense for the investor’s personal situation, then great. However, they do miss some of the important points that push investors to look at physical real estate in the first place. It’s true that diversification is a major consideration, but the investor also wants the investment to be as profitable as possible. The two elements of profitability in a physical real estate deal are the value of the property itself and how much can costs be contained through thoughtful management. A REIT won’t necessarily deliver on these two fronts. A RIET doesn’t always have the option to cherry-pick optimal properties and as a result, may take on a few whose values are below par. Similarly, although a REIT can usually achieve efficiencies of scale in its management of the property, it will not always have the same lean attitude as an investor whose personal funds are at stake. 

With this in mind, investors should recognize what’s holding them back from broaching real estate with their advisors. Talking about it with a professional is always a good thing. However, to make it happen, it may require a more active route like a Self Directed IRA. 

What reasons are investors giving for not making the real estate leap? 

Investors detailed a number of reasons for not actively pursuing real estate deals. 

  • Information – It's hard to push forward with an investment when you don’t know what you’re doing. Advisors either can’t or don’t want to help, which means that any education happening is going to be self-inspired. Investors tend to stick with what they know and having enough momentum to both get educated and start making deals is a difficult task. 
  • Liquidity – Real estate is not a fast moving asset. If an investor wants to get out a property, they have to put it up for sale, find the buyers, and go through the process. Investors who have a “trading” mentality prefer assets that can be sold instantaneously. 
  • Capital – Real estate often requires a decent capital investment to get started. Investors either don’t have that cash available or they are wary of putting such a large chunk towards a single asset.  

The Self Directed IRA Perspective 

The same investor concerns which give pause over real estate are the exact reasons why real estate is so popular in a Self Directed IRA. The process of opening a Self Directed IRA puts the account holder in the mindset of independently finding out about alternative assets and how to practically invest in them. This is worlds apart from telling your advisor to “make something happen.” Liquidity is also not a concern as retirement funds are locked up for a number of years anyways. A conservative but profitable property investment is perfect for a Self Directed IRA. Finally, at a certain point in their investing career, people will often possess a large enough retirement account to make buying property feasible. If an investor really would like to pursue real estate, then opening a Self Directed IRA can get the ball rolling. 

How does the Self-Direct IRA process work? Speak with a Madison specialist and find out what’s involved. You can schedule a call here. 

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