How to Diversify Your Real Estate Investments

Investing in Real Estate Private Equity can be a great solution to quickly invest in all types of commercial real estate from multi-family apartment complexes to medical, office, self-storage and of course, non-commercial single-family houses while letting someone else handle all the details. But knowing how to diversify your real estate investments adds an additional layer of safety to your investment portfolio.

This post is a continuation in the series on Investing in Real Estate Private Equity, a guide to Real Estate Partnerships, Real Estate Private Equity Funds, Syndicates & Crowdfunding. In our last post, Real Estate Economic Cycles, we discussed the different real estate economic cycles and how the different commercial real estate asset classes perform during each phase. Here we are going to dig deeper into investing diversification techniques and specifically how using location to diversify your real estate investments can dramatically lower your overall risk.

Location, Location, Location

I’m sure you’ve heard the phrase, “Location, Location, Location”, which emphasizes the significance of the location of a property in determining its value and investment potential. A property’s location can significantly impact its desirability and price, regardless of the quality of the property itself.

The Importance of Location in Private Equity Real Estate Investment

Location is one of the most critical factors to consider when investing in private equity real estate. It can have a significant impact on the potential returns of an investment. In commercial real estate, location is a primary driver of value, and it affects both the short-term and long-term performance of the asset.

A property located in a prime area with high demand and growth potential is more likely to yield higher returns than a similar property in a less desirable location. This may sound obvious, but when constructing a real estate private equity portfolio it is important to consider the location of the property not only for it’s individual return potential, but also for diversification and to control risk in your overall portfolio.

The wonderful thing about limited partnership real estate is that it is just as easy to invest in properties that are thousands of miles away as it is right down the street.  This makes it really easy to add location as an important criteria when looking to diversify your investments. In fact, using location to diversify your real estate investments dramatically lowers your portfolio risk. Gone are the days where you really have to be close to the property, which gives me peace of mind that when including the value of my home, I don’t have too much real estate concentration in my hometown.

Benefits of Investing in Prime Locations

Prime locations have numerous benefits for private equity real estate investors. First, prime locations often have a high demand for commercial real estate space, leading to higher occupancy rates, which can result in higher rental income and capital appreciation. Second, prime locations often attract higher-quality tenants, which can lead to longer-term leases and a more stable income stream. Third, prime locations are typically more resilient during market downturns, as they are less likely to experience a significant decline in demand.

Risks Associated with Location

While prime locations have many benefits, they also carry risks. One of the primary risks associated with location is that it can be subject to external factors such as changes in government policies, economic conditions, and zoning laws. These factors can impact the value of the investment and the investor’s ability to generate returns.

When I was newly married, my father-in-law owned a four-plex in a very strong, but small city in California which was a fantastic investment for him for many years. But, he discovered that the Air Force base that was a few miles away from the investment property was closing and suddenly not only did he no longer have tenants, but he couldn’t sell the building as the town quickly became a ghost town.

Using Location to Diversify Your Real Estate Investments

Investing in multiple locations can help reduce risks associated with location. By using location to diversify your real estate investments, investors can spread their risk and reduce the impact of external factors on their investments. For example, investing in commercial real estate assets in different regions, cities, or neighborhoods can help reduce the risk of vacancy rates or market fluctuations in a single location.

As an example, not only do I personally diversify across real estate types, but for me it is imperative to diversify across the country.  Using location to diversify reduces the risk of localized recessions, natural disasters (hurricanes in Florida, Earthquakes in California), regulation issues, etc. 

Lowering Risk through Location

Investing in locations that have a diverse mix of industries and sectors can also help lower risk. If a particular industry or sector experiences a downturn in one location, investments in other industries or sectors in a different location can provide a hedge against losses. Additionally, investing in locations that have strong economic fundamentals, such as stable job growth, can provide a more stable income stream and reduce the risk of vacancies.

Conclusion

In summary, using location to diversify your real estate investments plays a crucial role to reduce risk in your private equity real estate investment decisions. Investing in prime locations can provide numerous benefits, but it also carries risks. Location diversification can help reduce the risk of external factors impacting investments, while investing in locations with a diverse mix of industries and strong economic fundamentals can provide a more stable income stream and reduce the risk of vacancies.

In our next post, we continue our journey into Real Estate Diversification by looking at the different development stages.

Share your thoughts below on Real Estate location? Do you think location is important?