Real estate has seen steady growth in recent years as it is now a part of the capital allocation matrix for institutional and retail investors. Real estate investing is capital-intensive and requires active management. Institutions looking for efficient asset management are slowly moving to specialized realty funds of fund (FOF).

Retail investors can now benefit from a wider range of real estate mutual funds, which allows for more efficient capital allocation and diversification.

Real estate is just like any other investment sector. There are pros and cons to it. However, it should be considered in most investment portfolios. Real estate mutual funds and real estate investment trusts are seen as the best ways to fill that allocation.

Barriers To Real Estate Investing

Large players like pension funds and insurance companies have long dominated real estate investing. However, the globalization of realty investing has led to new offshore opportunities, which allow for greater diversification and return potential. As a result, real estate is now more prominent in institutional portfolio allocations.

There are unique challenges associated with permanent real estate capital allocation. It is capital-intensive. Contrary to stocks, which can be bought in small amounts, commercial realty investments require large sums of capital upfront. Direct investment often results in lumpy or inliquid portfolios and idiosyncratic risk based on property type or location.

Active management and maintenance of real estate are also necessary. This can be labor-intensive as well as costly. Management of real estate investments is more difficult than managing traditional investments. It requires planning and significant resources.

Institutions tend to gravitate towards funds of funds and real estate funds as a result. Retail investors can also benefit from REITs or real estate investment trusts. Individual REITs may own multiple properties. However, you can diversify even more with REIT exchange-traded funds (ETFs) and real estate mutual funds, each investing in different REITs.

Retail investors are now able to easily add real-estate investments to their portfolios. Retail investors have many options to gain exposure to real estate and the potential return on investment.

Direct Investment

This strategy involves investors selecting properties to purchase as investments. These properties will often include rental income properties, which can be added to market value.

This strategy has the advantage of giving you control. The advantage of direct ownership is the ability to develop and execute a strategy and have direct control over a return. However, direct investment can make it difficult to build a diverse portfolio of real estate properties. You will also need to become a landlord, along with all the associated costs, risks, management headaches, and challenges.

Retail investors don't have enough real estate to purchase enough properties to truly diversify their portfolios. This increases your exposure to local property markets and property-type risk.

Homeownership

Retail investors who don't consider real estate allocations in their investment portfolios often fail to recognize that they could already invest in real property by owning a house. They are already exposed to real estate, and many of them also have additional risks from having a mortgage on their home. For the most part, this exposure has been positive, helping many to save enough money to retire.

Real Estate Investment Trusts (REITs)

REIT shares are private and public equity stock that is held in companies that are trusts that invest in real property, mortgages, or other collateralized investments. REITs typically own and manage real estate properties. These properties could include multi-family residential, grocery-anchored shopping centers, local retail, strip centers, malls, and commercial office spaces.

A board of directors oversees the management of real estate investment trusts. REITs do not pay federal income taxes as long as 90% of their taxable income is distributed to shareholders. The tax advantage can increase after-tax cash flows, but it can severely hamper long-term appreciation and growth. In addition to the tax advantage, REITs offer many of the same benefits and disadvantages that equities.

REIT managers are strategic visionaries and invest- and property-related decision making, thus solving management-related problems for investors. However, retail investors have the greatest problems with REITs. They are difficult to invest with limited capital and require extensive asset-specific knowledge and analysis to choose them and forecast their performance.

REIT investments are more correlated with the stock market than real estate investments. This can lead some to minimize their diversification capabilities. The volatility in REIT markets has been much higher than that of indirect real estate. This is due to the impact of macroeconomic factors on REIT prices and the fact REIT stocks are constantly valued. However, direct real estate is more affected by local property markets and is valued using an appraisal method. The appraisal method tends to smooth out investment returns.

Real Estate Mutual Funds

The Real Estate Mutual Funds invest primarily in REITs, real estate operating companies, and other related businesses using expert portfolio managers and research. These funds allow you to have broad exposure to real estate with small capital investment. Depending on their strategy and diversification goals, they offer investors a wider range of assets than REIT stocks. Investors can also move easily from one fund to the next.

Mutual fund investors also have flexibility because they can acquire and dispose of assets quickly and efficiently on a regulated exchange. Direct investing is more difficult and costly. To maximize their return, more speculative investors may tactically overestimate certain properties or regions.

The cost of buying individual REIT stocks can be reduced by exposing yourself to multiple mutual funds. Retail investors also have the advantage of accessing the fund's research and analytical information on acquired assets. Management can also provide insight into the viability and performance of real estate as an asset class and specific investments.

However, mutual funds may not be as liquid or have higher management fees than REITs and REIT ETFs. Naysayers think that real estate mutual funds are not as liquid and liquid as direct investments in real estate.

The Summary

Retail investors should consider homeownership when allocating their portfolios. However, they may also consider other, more liquid investments in property.

If you have the capital and trading skills to invest in REITs, you can access some of the benefits that real estate investing offers without having to own it directly. Real estate mutual funds are a good choice for people who want maximum diversification but a smaller allocation.