In public markets, the ability to deliver differentiated and significant value has become eroded over time. Increasing market efficiencies and access to useful, forward-looking information has been massively constrained, through regulation and increased litigation risks. Private markets are refreshingly different. As potentially significant equity/preferred equity investors, we are given access to all management forecasts and assumptions, This includes project models; macro and execution planning data; detailed budgets, including line-item cost and return breakdowns; capital stacks; risk and return analyses. We are given direct lines of communication into the developers and their service providers, if required. We also have full alignment with management as they are invested alongside other investors. This gives us confidence that, through the implementation of rigorous and disciplined analyses and due diligence processes, we can add significant value as investment managers. We should be able to positively and materially influence the risk/reward opportunity for our investment funds.
Private assets (and other alternative asset classes) tend to be tarred with a similar higher risk brush by many investors. We refute this view. US Private Real Estate, specifically the multi-family segment, we believe should be looked at through a lower risk lens. Here are some of the mitigating risk factors that we rely on to justify this statement:
- Housing is one of the most basic of human needs and is highly unlikely to be marginalized or face existential risks from technology/AI developments
- The underlying investment is a real asset that grows in intrinsic value alongside development progress
- Healthy and efficient living within realistic affordability hurdles is an imperative that multi-family addresses through shared infrastructure and facilities (e.g. gyms, pools, play areas, workspaces)
- The trend of mobility amongst the modern generation aligns with multi-family service & rental models
- A sense of community (another basic human need) is fostered by shared facilities and social programs
- Energy/waste efficiencies and other environmental aspects are features of modern multifamily developments
We further derisk our investment portfolios by focusing on those projects that present the optimal location, choosing the most reliable and efficient developer partners and careful assessment of project execution risks/opportunities and overall risk/return profile. We only participate in new build projects where the permissioning is complete, the bulk of the funding has been secured and 75% of the construction GMP’s (guaranteed maximum price) set. In other words, when the project is “shovel-ready”.
The US is the largest global economy, with the deepest capital markets, impressive per capita wealth metrics and the world’s dominant reserve currency. It is comforting that we invest in the largest and most liquid private real estate market, with strong governance structures and investor rights that have been tested and improved over time. Construction and development efficiencies are arguably unrivalled.
Our fund structure and the planned duration of our underlying investments (2-4yrs) inherently carry liquidity risk, but we would argue that taxation and return benefits compensate investors for this risk.
We also concede that the variability of risk and return is arguably higher in private asset markets than in public markets: the risks (potential for loss of capital) are higher in a bad Private Equity investment vs a bad listed equity investment. But equally, the opportunity for excess returns from smart Private Equity investments are higher than those from Listed Equity investments. Private asset investments are typically Alpha plays whereas listed investments have greater Beta characteristics. Each private market project demands greater focus on an assessment of project-specific merits. Risk/reward trade-offs can be more proactively skewed for private investments through the advantage of unconstrained management information/access and the lower efficiencies and less crowding of private asset markets.
So we would conclude that, on the contrary, the asset class can offer lower risk investment opportunities. Supported by rigorous analytics and due diligence processes, we believe US Private Real Estate offers superior risk/return performance vs most other private assets and indeed public assets.
SWAN Wealth Management
Oct 2024