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March 11, 2021, 12:31 p.m. EST

How to use risk to manage real estate investments like you do with your stock portfolio

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By David Wieland

For many investors, real estate and investment property isn’t managed with the same discipline as stocks, bonds or other traditional asset classes. 

Real estate and wealth management don’t speak the same language. Generally accepted and standardized measures of risk and return such as “alpha,” “beta” and credit ratings don’t exist in real estate, and there is no framework at all for evaluating real estate risk.

This gap can hurt after-tax returns and creates an unnecessary risk of losses. Without considering the risk side of the risk-return tradeoff, there’s a strong tendency for real estate investors to focus on expected returns rather than the chance that those returns won’t materialize.

Risk-evaluation considerations

If an individual investor is presented with an investment opportunity, the lack of publicly available data, benchmarking and third-party verification and insight leaves little information to assess risk. Additionally, there is a lack of guidance or advisory for real estate investing as there is with stock or bond investing, making it even more important that real estate investors themselves understand how to evaluate these key risks:

General market risk: In the institutional real estate world, the terms “risk-on” and “risk-off” are used to describe where we are in the broader economic cycle. Where we are in those cycles play into the types of investments investors should consider. 

Real estate market risk: Real estate market risk comes down to supply and demand economics. Indicators such as construction pipelines and occupancy rates help to determine the position in the real estate market cycle. If you look at offices, for example, currently there is a lot of supply with very little demand based on the dynamics of the COVID-19 pandemic and work-from-home orders.

Geographic risk: Investors should look at the metropolitan statistical area (MSA) and localized, submarket economic and demographic information. The property-type, business and tax climate of a specific geography should all be considered. In addition, by reviewing current trends and trying to determine if they are temporary or permanent, investors can make better-informed decisions about future risk.

Property-specific risk: Property-specific risk involves deep analysis on the tenants and other property risks. On the commercial side, the risk component of a lease payment can be weighted similar to a corporate bond. We know that an A-rated credit trades at a far less yield than a BBB-rated credit, so there is actual data that could be missed by an individual when considering corporate tenants. On the residential side, investors look at the tenant base based on income-to-rent ratios and there are general rules of thumb about what is standard. These factors also help to determine if rents can be raised and by how much. 

Structural risk: Risk and return attributes differ depending on the specific investment vehicle or legal entity. There are nuances around the way that investors will structure the investment economics based on the business plan on an asset. These different situations require stress tests, economic shocks and scenarios that are specific to the investment structure — as opposed to just looking at projected returns. 

Liquidity risk: Liquidity risk goes hand-in-hand with structural risk. Typically, the more illiquid a structure is, the higher the potential return, but the investment could be “locked-out” for a significant amount of time — known as an illiquidity premium. 

Risk and diversified real estate portfolios

By understanding the different types of risks that are important when making real estate investment decisions, investors can get a clearer picture of how to manage real estate wealth in a way that’s similar to a stock and bond portfolio.

In the bond market, you can compare the credit of two companies in two completely different sectors based on a standardized set of metrics. Commercial real estate can be evaluated in a similar way by quantifying the cash-flow risks of two completely different properties in two completely different locations. The residential real estate side, meanwhile, functions more like alpha in the stock market, where the projected returns and the certainty of those returns is measured versus the risk an investor is willing to take. 

Just as a wealth manager would combine stocks and bonds to create a non-correlated and diversified portfolio, by standardizing the way we look at risk, real estate investors can build portfolios of commercial and residential real estate that are far more concerned with overall after-tax returns and agnostic to the pieces used to get there. 

By delving deeply into risk and considering the correlations between different property types, real estate can be managed with the same sophistication as other traditional asset classes — bridging the gap between real estate and wealth management. 

David Wieland is founder and CEO of , a technology-enabled platform that provides investment property wealth management for real estate investors. 

More: The downsides of being a landlord in retirement

Also read: How to invest in real estate during COVID

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