Real Estate Crowdfunding vs. REITs
When we speak to people about our platform Property Crowd, and real estate crowdfunding in general, one of the most common queries is “so how is that different from a REIT?”
Good question. But let’s take a step back.
As we highlighted in a previous article, those wishing to invest in real estate have typically faced a binary choice: the do-it-yourself direct route or the hands-off option of a managed REIT. While directly owning a buy-to-let property is the preferred option for many people, others may lack the capital and/or the experience needed to get started. The de facto alternative to invest in real estate without having to purchase and manage an entire property has thus been Real Estate Investment Trusts (REITs).
REITs are (usually) listed entities that pool together money from thousands of individuals and invest in a diversified portfolio of real estate assets. This diversification can come in many forms – some have global exposure while others focus on just one jurisdiction (e.g. US, UK, Europe), some could have a mandate to hold income-producing commercial assets while others can blend that with development exposure to residential or logistics projects – the possible permutations are numerous. But the one thing that’s consistent, when investing in a REIT, is that you have no say in how things are run; you’re a passenger with a ticket on a bus, but you don’t know where it’s going or what route it’s taking to get there.
Real estate crowdfunding, which is rapidly gaining adoption, is a relatively recent innovation but builds on the fundamental principles of fractional ownership found in REITs. Much like direct investing, crowdfunding investors have the ability to target specific properties through an online platform like Property Crowd’s for an equity stake in the asset or participation in the underlying secured debt. For the asset managers and principal lenders behind the deals, crowdfunding gives them access to a broader pool of capital at a speed and cost previously not possible. For investors, crowdfunding also opens up the world of lucrative syndicated or club deals that have traditionally been the preserve of the well-heeled and well-connected.
Here is a recap of the key differences between a REIT and Real Estate Crowdfunding:
Scope & Transparency: In real estate crowdfunding, you are able to personally and directly select which property assets to include and exclude from your portfolio, allowing for further flexibility and diversity in your investment portfolio. Platforms such as ours, Property Crowd, provide investors with substantial informational resources to enable deep-dive due diligence and further research on each property before making any investment decision. In contrast, REITs are in effect professionally managed blind pools with guidelines as set out in the investment mandate, but zero input from shareholders. The REIT investor is typically so far removed from the properties in the underlying portfolio that real estate investment is reduced to a joyless number on an annual report.
Fees: Those who invest in crowdfunded real estate usually do not have to pay substantial additional fees for access to properties or their membership to the online crowdfunding platform. For example, Property Crowd’s investors are not charged any fees upon subscription, holding or redemption of the debt securities we have offered so far. With exposure to the equity portion of a crowdfunded property deal, there may be basic estate management charges that arise, however, these will no doubt be significantly less than the fees associated with a REIT, which will have to cover their listing costs, fund manager salaries and other overheads in addition to costs associated with estate management.
Liquidity: REITs allow for an investor to trade and sell their shares on an open market; if you need to liquidate your position and raise money quickly, you should be able to do so relatively easily with a publicly traded REIT. Crowdfunded real estate investments are generally less liquid as they are not publicly traded, so it is typically more difficult to cash out an investment before the property is disposed. Such investments are meant to be fixed-term investments, so investors should be prepared to hold on to their real estate crowdfunding investments until the specified maturity date / expected exit event. That said, Global Alternatives is preparing to launch Prop-X later this year, which will be the world’s first cross-border exchange for private real estate securities, and that could create liquidity where there previously was none.
Volatility: Although real estate is an undoubtedly effective way to diversify an investment portfolio, the performance of REIT shares have historically proved highly correlated to overall equity market returns resulting in correlation coefficients as high as 0.86 (see chart below). This means that investments in REITs move in close synchrony with the broader market and are thus of limited use when it comes to mitigating overall portfolio risk / volatility. The comparable equity market correlation versus direct real estate investment has been close to 0.14 (ranging from -0.03 and +0.25; a very low correlation). This market-related component of REITs also gives rise to the possibility that their share prices may deviate significantly from the true value of the underlying real estate – i.e. premiums or discounts to NAV (net asset value) – for long periods of time.
Real estate crowdfunding, as the technology-driven online platform model that we know it today, is still very much a nascent industry, but the underlying idea of fractional ownership (and the legal structures that enable it) is neither new nor out of reach. Property Crowd’s Prime Custodian Model, for example, is designed to provide investors in each of its deals with the same custodial safeguards associated with publicly-listed securities.
If you are a savvy investor with a clear approach to your investment strategy and goals, real estate crowdfunding could work very well indeed: giving you disintermediated access to a universe of previously inaccessible property deals and offering your portfolio a dimension of discretion and granularity that REITs cannot. Furthermore, with the security of an institutional grade infrastructure like ours and the promise of secondary market liquidity in the not-too-distant future, real estate crowdfunding could just be the proverbial cake you can both have and eat.