Ways to lose money in Real Estate syndications

All investments are risky but some are riskier than other. As investors, maximizing your risk adjusted return is of paramount importance. All things equal, multifamily real estate offers a superior risk-return trade off and while the probability of losing one’s principal in such an investment is low, its not zero. There could be circumstances that could cause one to partially or in a rare case completely lose one’s capital. One of our main goals is to educate our investors about those circumstances and how to guard against those. Here are top reasons why an investor may lose money in a Real estate syndication:

1. Bad Operator: There are a lot of respected syndicators out there and by corollary there are also some bad actors who bring a bad rap to the entire community. Choosing a bad operator is a sure shot way to lose money. Some of the ways one can mitigate this risk is to carefully understand what kind of experience do the general partners bring to the table. Prodding questions seeking information about their exits, track record and their management practices can go a long way to ensure your capital is protected and moreover earns a respectable return. We cannot over-emphasize the last item which is around asset management. Here are Zovest, one of the ways in which we are building value for all our investors is to move towards self-management. We have come to realize that self-management is the one of the best way to reduce operational expenses and operate our assets in a lean fashion. A lot of syndicators rely on third party management and while there are some excellent property management companies, there are some unethical one’s as well. For us, controlling our destiny is of paramount importance which is why we are moving towards self-management.

2. Bad Underwriting: This is a bit subtle and is related to the point number 1 above. Make sure that you look carefully into all assumptions the general partners are making especially around rent growth and cap rates at exit. Any underwriting can be coaxed to say a story which may not be necessarily a story that is true. Here at Zovest, one of our main goals is to under-promise and over-deliver. We ensure that we err on the side of being conservative and use lower than expected growth assumptions in all the markets we operate in. Our goal is to ensure that we place a stringent risk lens on on all our prospective deals and stress test our assumptions. A deal has to jump through several hoops for us to be serious about it let alone launching it on the platform.

3. Bad Market selection: Real estate is all about markets and sub-markets. Make sure to ask questions about how the general partners select their chosen markets and sub-markets. Conduct independent research on those markets and validate their assumptions or debunk them. Another lens which is going to be increasingly important going forward is climate risk. A lot of sunbelt markets such as the ones in Texas and Florida are popular investment targets but they are also prone to extreme weather, especially around the coasts. We operate in Kansas city and most recently in Des Moines, arguably two of the strongest markets in the mid-west. In general we love the value mid-west brings. At the same time, both Kansas city and Des Moines are growth markets which are reasonably immune to extreme weather fluctuations.

4. Bad market conditions: Bad market conditions is another one. Real estate is an asset class that is exposed to the vagaries of local and global macro-economic climate. Real estate is also a cyclical asset class that goes through boom-bust cycles. Market conditions can potentially create strong headwinds that can cause a great investment to under-perform. One cannot influence the market but as operators it behooves us to deploy efficient risk management strategies to better weather adverse economic conditions.