Regular followers know we’re news hawks. We scour the headlines for clues about opportunities and threats facing real estate investors.
We look at the good, the bad, the ugly … and consider things at the micro, macro, geo-political, and systemic level.
Even though we watch a broad range of real estate niches … we tend to look at the world through the eyes of a syndicator.
We think raising private capital to invest in real estate is the single BEST opportunity for real estate investors … and one of the best business opportunities in ANY industry.
So it didn’t surprise us when the following headline popped up on page one ofYahoo Finance, the most visited financial website on the internet …
“The real estate market is booming … Not surprisingly … funds that focus on real estate have been posting good numbers …”
A “closed-end fund” just means a fund which raises a specified amount of money, then closes to new investors.
This is different than a typical “open-end fund” like a mutual fund which continually accepts new investors.
Our point today is …
Mainstream headlines are informing the market real estate is a winner …
…and that individual investors can access real estate through funds … versus taking on the personal hassles of tenants, toilets, and termites.
Of course, the aforementioned article is talking about publicly traded funds, which come with a host of risks most Main Street investors are unaware of.
But if YOU are thinking of investing in real estate through a publicly traded fund, OR …
… if you’re talking to Main Street investors about investing in YOUR real estateprivate placement (syndication) …
… then you’ll find it VERY helpful to understand the risks in public funds.
Publicly-traded real estate funds can be used as gambling chips in Wall Street casinos … just like any publicly traded stock.
This means speculators (gamblers) can short-sell, trade on margin, and use options … all of which add volatility to the share price.
So even if the underlying asset is as stable as the rock of Gibraltar … the share price can bounce all over the place as it’s traded in the casinos.
Of course, if you’re a long-term buy-and-hold paper-asset investor, maybe that doesn’t matter to you … just don’t watch the share prices or you might get nauseous.
But MUCH less understood is the counter-party risk every paper-asset investor faces because of the way paper-asset trading is facilitated.
In short, counter-party risk is the exposure you have when an asset on your balance sheet (a stock, bank account, a bond) which is simultaneously someone else’s liability.
In other words, they own the the asset and OWE it to you. YOU own an IOU.
If the counter-party fails to perform or deliver … you LOSE.
Most people understand the concept of counter-party risk … but many don’t understand all the places they’re actually exposed to it.
And it’s a LOT more than you might think.
In the case of publicly-traded securities, like closed-end real estate funds, you’re NOT the registered owner … your broker is.
You get “beneficial ownership” through what is effectively an IOU from your broker to you. The fund doesn’t even know you exist.
Of course, this is all fine as long as the financial system supporting all this is sound. But in a crisis, if the broker fails, you might end up a loser.
It’s not unlike what happened in the 2008 financial crisis …
In short, individual mortgages … which are great assets to own … were pooled into securities and made into gambling chips in the Wall Street casinos.
Because the “beneficial ownership” of the mortgages changed hands so quickly, it was all facilitated through a system called Mortgage Electronic Registration Systems (MERS).
When the financial system nearly collapsed in 2008, the flaws of MERS were exposed … as the legal documentation required to affirm clean title to the asset wasn’t properly maintained.
Some of the beneficial owners of the mortgages couldn’t prove legal ownership and lost when property owners challenged foreclosure in courts. Huge mess.
So there’s a BIG difference between “beneficial ownership” and actual ownership. And the difference isn’t exposed until it matters.
Sometimes that’s ugly for investors.
The GREAT news for you and your investors is … it’s NOT necessary to play in the Wall Street casinos to get into a real estate fund.
In fact, we’d argue it’s better if you don’t.
If you’re following The Real Estate Guys™, you’re probably already a fan of real estate and may already be a successful individual property investor.
Maybe you’re considering, or have already started, putting together groups of investors to syndicate bigger deals.
Or maybe you’re tired of being an active investor … and now you’re looking to stay in real estate, but as a passive investor in another investor’s deal.
In any case, it’s important to understand the BIG differences between public and private real estate fund investing.
As an investor in a private offering, you directly own the entity which directly owns the asset. There’s no counter-party who owes you the shares. YOU own them.
We think when you delve into the differences, you’ll agree private offerings are arguably a MUCH better way to go.
Of course, if you’re interested in starting your OWN real estate investment fund, the timing couldn’t be much better.
Headlines are telling the marketplace real estate funds are performing well.
And when you explain the important differences between public and private funds, we’re guessing you’ll get more than your fair share of investors interested in investing with YOU.
Main Street investing in Main Street … outside of the Wall Street casinos. We like it.
Until next time … good investing!
More From The Real Estate Guys™…
- Sign up for The Real Estate Guys™ Free Newsletter and visit our Special Reports library.
- Don’t miss an episode of The Real Estate Guys™ radio show. Subscribe on iTunes or Android or YouTube!
- Stay connected with The Real Estate Guys™ on Facebook and our Feedback page.
The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training, and resources to help real estate investors succeed.