Physical Real Estate Vs Real Estate based Instruments
As we dig into the world of alternative investments focusing on real estate, let’s look at a new tangent today. Real estate investing continues to be one of the top investment options, given the possibility of cash flow, asset appreciation, and tax benefits.
While physical real estate investment covers investing in residential, commercial, and mixed-use properties, it is a capital and maintenance-intensive activity. Investing a huge chunk of capital or spending an exorbitant amount of time maintaining an asset may not work well with a few investors. Investors looking for passive real estate exposure may find attractive returns in instrument-based real estate investments.
Broadly speaking, there are two types of instruments – Equity-based and Debt Based. Equity-based investing involves purchasing shares of real estate-based companies – REOCs and REITs. A financial debt instrument is used by entities to raise capital to address various end-use requirements like land acquisition, approvals, construction finance, etc.
Investors receive monthly/quarterly/semi-annual/annual or bullet pay-outs depending on the structure of the instrument. There are multiple structures of debt instruments that are available, and investors can select based on their risk appetite.
For Equity investors, income is generated in terms of dividends and capital appreciation of the share price. Capital appreciation depends on multiple factors including the company’s performance, macro-economic environment, sectoral performance, etc. For debt investors, the return/payout is known at the time of investment.
While debt and equity-based investments comprise the majority of real estate capital structure, we can find opportunities in a small market of hybrid investments such as real estate preferred shares which can have characteristics of both debt and equity-based components.
Now, let’s compare these investment types based on a few relevant characteristics: