By Alice Dunn | Bricksave
October 18, 2023
When investing in real estate, you need to have a clear understanding of the many different risks involved, and how you can best manage them. This article explains why knowing these risks is the crucial first step to being a real estate investor, and how Bricksave takes on much of the risk burden for investors.
Every investor should have a good understanding of the potential risks involved with their investments, and when it comes to real estate investing, knowing the risks can help you to manage or ‘mitigate’ them. Understanding these risks can shape your decision-making process. It can also help you determine whether a particular real estate investment aligns with your personal financial goals and risk tolerance, as every investor has their own individual appetite for risk.
So, what are the big real estate investing risks to know about, and be prepared for? Here are the main ones to consider:
The most important risk for real estate investors to consider is the one most outside of their control: the health of the property market. There are many different factors that can affect the real estate market, such as the health of a country’s economy (or the global economy, for that matter). For example, economic downturns can reduce demand for properties, lowering property valuations and rental rates.
Interest rates can also have a direct impact on real estate, especially in sectors reliant on mortgages, such as residential housing. If interest rates rise, borrowing costs for potential buyers increase, which can depress demand and lead to lower property values.
Other market risks can also influence the demand for real estate, such as demographic trends (changes in the population over time, such as age, birth rates, migration patterns, and income levels). Increasingly, natural disasters and climate change are a market risk, as floods, heatwaves, earthquakes, or longer-term shifts in climate patterns can affect property values, making it harder to insure properties or making a location less popular.
From an investment perspective, every building is an ‘asset’. In residential real estate, there are lots of different types of property asset classes, such as single-family homes, multi-family units, townhouses, condos, and more. Each of these has its own set of advantages, drawbacks, and market dynamics to consider. For instance, multi-family and single-family rental properties are generally considered lower risk and more stable than vacation homes, or retail, office and hospitality properties.
Houses, apartments, and other residential properties can have hidden structural defects or may require significant maintenance over time. Before making an investment, a rental property should have a thorough inspection that identifies any potential issues that could result in long-term damage, such as problems with its foundations, water leakage, or pest infestations. Failure to identify and rectify these problems could lead to big repair bills in the future, eroding the profitability of the investment.
Vacancy risk is the risk that a rental property will not be occupied by tenants for a period of time, resulting in a loss of rental income for the investor. In other words, it's the danger of having an empty property with no-one paying rent. This risk is serious because consistent rental income is the priority for most real estate investors.
With real estate investing, capital appreciation refers to the potential for the property to increase in value over time. Therefore, capital appreciation risk is the potential that the property may not increase in value, or even worse, that its value has fallen when you choose to sell it.
This is a significant concern for real estate investors, especially those who plan on selling their investment at a higher price in the future to achieve a good returns on their investment.
Leverage risk refers to the use of borrowed funds to finance a property purchase. In other words, if the property falls in value and you cannot repay the full amount you’ve borrowed to pay for it. Liquidity risk describes being unable to sell the real estate asset without taking a hit in its value. In other words, the property may take longer than anticipated to sell, or they may have to sell it at a big discount to achieve a timely sale.
Those risks may sound hard to prepare for, but having an investment strategy that plans for these risks is crucial. And when it comes to mitigating real estate risks for investors, Bricksave aims to mitigate as much risk as possible, leaving investors to focus on the return from their investment.
Through us, investors collectively fund the purchase of property on a buy-to-let basis while we take care of the due diligence, legal administration and insurance. Our global and local management teams find the properties that make exceptional buy-to-let investments. The team’s understanding of local market conditions, upcoming infrastructure developments, and other on-the-ground factors are extremely helping in making informed investment decisions about which properties will offer strong rental value and/or capital appreciation.
For example, we mitigate vacancy risk by ensuring there is a tenant in place before the property is purchased so that investors receive returns as soon as they invest. Also, for every property made available to our investors, we factor in a vacancy ‘cushion’ of on average one month every 33 months where the building will be vacant. This month is included into our rental forecasts, which means investors won’t lose out from a vacancy and their overall returns from the property are unlikely to be affected.
We also take care of the structural risks involved with owning a rental property, by ensuring all property maintenance issues and repairs are resolved quickly and efficiently. Bricksave is also responsible for the ongoing management and administration of the property throughout the lifetime of the investment, and we build-in annual maintenance costs before calculating all returns to investors, so you know what to expect and there are no nasty surprises. There is even an additional maintenance reserve fund set aside for unexpected damages or repairs. From fees and insurance to property maintenance, we take care of until your returns are paid and the investment period ends.
While insurance can't mitigate market risk by protecting an investor from economic uncertainty, it can help to safeguard against specific losses associated with some of the risks we’ve outlined. For example, property insurance covers the physical property against risks such as fires, storms, theft, and sometimes more specific perils like earthquakes or floods, depending on the policy and riders attached. So, if a property is damaged, the investor isn't left bearing the full cost of repairs or replacement, as all these insurance costs are built into Bricksave’s investment structure.
Of course, capital appreciation risk is one area where insurance isn’t available. But we would suggest to investors that one of the best ways to mitigate capital appreciation risk through us is to 1) diversify and 2) have a flexible investment horizon. By owning properties in various geographic areas, different types of real estate, or different property classes (A, B or C) investors can spread and reduce the risk associated with any single property or area. Also, a flexible investment horizon can allow investors to hold onto a property during downturns and sell when conditions become more favourable.
Understanding the risks involved in real estate investment is crucial, or as the phrase says: ‘forewarned is forearmed’. Risks are there to be managed, and investing with us can give investors peace of mind because we’ve done the hard work already. Before you invest, we’ve already applied many of the risk mitigation strategies to our portfolio properties that an individual real estate investor would otherwise have to do themselves. This means that investing with us can offer better rental yields than could be achieved alone. In fact, many Bricksave property investments deliver rental returns of around 9%, with due diligence, maintenance costs and insurance already factored in.
And, of course, crowdfunding your real estate investment means there are no leverage risks to deal with. So, if worrying about real estate risk keeps you up at night, our approach to managing risk can help you rest a little easier.
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