What do you need to know about the real estate fund?
A real estate fund is just as much a mutual fund as its counterparts holding securities. The difference is that, unlike securities funds, real estate funds invest in very tangible assets.
Invest in real estate, or rather in a real estate fund?
Of course, you do have the opportunity to invest in real estate yourself, and if you an expert or at least understand it, then do not hesitate. But there are a few reasons to think about as a beginner anyway. After all, you need to understand real estate investing, just like any investment, provided if you want results. You can read more about this in my post 6 Reasons Not to Invest in Real Estate.
If you sympathize with the idea of buying a house, an apartment, anything else, renting it out and making a profit from it, but you’re still a beginner in this area, you can even invest in a real estate fund.
The advantages of this from your point of view:
- the real estate experts of the fund manager devote time and energy to selecting properties that are also suitable from a professional point of view
- not you who take out a loan, you keep that opportunity to something else and you don’t need to deal with the bank either.
- you don’t have to spend your time and money to run the properties
- no worry about whether you can rent out the property and if so, for how much, you don’t have to deal with the tenants
- they give you a diversified portfolio, meaning they invest in lots and lots of real estate in different places and in different industries. You certainly couldn’t do that on your own.
In a nutshell, we can say that you can profit from renting real estate without actually having to understand it. It is not necessary to get credit to start, nor to have the price of an entire property.
How does a real estate fund invest money?
Investment opportunities for real estate funds are limited. They can invest in real estate, either directly or indirectly through other real estate funds, or they can invest in liquid assets. The liquid asset is also necessary because they keep their real estate in operation, so it is a matter of life and legally regulated for it. Due to their stable operation, they are required not to have less than 15% of their liquid assets.
A source of income and growth for real estate funds
Real estate funds can also realize their exchange rate growth by increasing the total value of the assets at their disposal. Then they do not necessarily buy a new property, but develop the existing one, thus increasing its value. On the one hand, this means an actual increase in value, and on the other hand, a better-equipped property can be rented out more expensive.
Their revenues can basically come from two directions. One direction is the profit made on the sale of real estate. This works just like any other sale. Buy for 100, sell for 110, then 10 is for profit. The same goes for securities, where they are called exchange rate gains. This is typically a smaller, almost negligible part of their income, as it is not always possible to change the owner of a property.
The other direction comes from renting real estate. This is similar to bank interest or interest received on bonds. Interest is the fee for using the money, you get it because someone else is using your money. And the rent is the usage fee for the property, you get it because not you who use that property.
The latter provides predictability for real estate funds. Although now that many companies have canceled office renting due to the home office and some of the remaining clientele has sought cheaper maintenance space, it is possible that this will be felt in the otherwise stable returns of real estate funds.
Types of real estate fund
The indirect real estate fund
The indirect real estate fund invests in the securities of other real estate funds and does not own any real estate or related rights. Accordingly, real estate market ETFs may exist because it is not necessary for the fund manager to understand real estate as well. Although it is a fact, that the actively managed form is much more common.
The part discussed at the fund base was that by buying the unit, you would also buy units from other funds, thus paying the fund management fee in both places. As you can see, even with them, nice results can be achieved in a 3-year period.
You may notice that at the height of May, there were large differences in the performance of the funds. On the one hand, this depends on which underlying fund the fund invests in. (Offices renting that may become redundant due to a home office may be terminated, or a company that has actually ceased to exist may of course no longer be able to rent. This will adversely affect the fund)
The other factor, and perhaps more importantly, is foreign exchange exposure. Recall that the forint was at a historic low during this period. That is, the euro exchange rate was also high, and the dollar showed an even greater appreciation. This, in turn, had a significant impact on the price of the funds.
The direct real estate fund
The vast majority of the direct real estate fund actually has assets in real estate investment and related rights. These can be office buildings, commercial or industrial real estate, but also plots or apartments.
Their creation and development requires special knowledge and large start-up capital. All you have to do is think about the need to maintain the property, sometimes it doesn’t hurt to renovate it or settle any damage. In other words, it must also be kept in operation.
Hungarian real estate funds typically look for properties that can be used for office leases or other properties for rent in the corporate sector. They invest only marginally in residential real estate, but where there is a greater tradition of residential property rental, there is, of course, an example of the latter.
In terms of renting, the industrial sector is much more mature here than the private one, so they can think big. Below you can see the results of the last 3 years.
What you can see in the return between indirect and direct funds is partly the effect of the double fund management cost already mentioned.
Which real estate fund to choose?
From this we cannot yet say that one would be better than the other. It only suitable for something else. In calm circumstances, or if you can accept that real estate has a risk from high-value but low-liquidity investments, you can invest your money in a direct real estate fund with peace of mind. You can read about the risk of these below.
If you want to keep your money in multiple real estate funds at once, even ones that you don’t necessarily have access to as a private investor, and it’s important for you to be more likely to get your money back quickly, then the indirect real estate fund is more for you.
Real estate fund risk
For real estate funds, especially indirect real estate funds, the risks are the same as for mutual funds.
The following four risks are related to the properties behind the fund and their management, so that’s why I highlight them.
If investors can achieve significantly higher returns elsewhere, many people may choose to sell real estate fund units.
As the unit can be redeemed at any time by anyone, the fund manager must be able to serve this. For a while. The fund manager may suspend the redemption of units.
This is partly due to the very low liquidity of the high-value properties that make up the real estate fund’s investments. Whether it is a normal or forced sale, it is by no means certain that a buyer will be found for the property behind the fund. After all, you don’t buy an office building every day either, so they can only make the redemption to a certain extent.
Another reason for this decision may be that the asset manager has to determine the net asset value per share and thus the price of the investment unit every day. This can be quite difficult for a property in the absence of up-to-date market data, especially when even the number of units changes rapidly. If everyone tries to get rid of a unit before its value falls quickly, trading will be frozen to prevent panic.
Choose this fund if it is acceptable to you, if your request is not necessarily granted immediately.
The asset manager will try to determine the net asset value as accurately as possible. This is the amount of capital they would have if they turned everything into money. This is not easy for a property. In addition to the size of the property, its condition, location, equipment, as well as how much the market would give for it are also important. If similar properties in that area have not changed hands for a long time, the asset manager is forced to use an older exchange rate, which can temporarily lead to an overvaluation or even undervaluation. By adjusting exchange rates, the net asset value, and thus the unit price, can show significant volatility.
Credit risk (This is also a kind of leverage)
Within the limits described in the description of the investment fund, the fund manager may also take out a loan.
They use borrowing for the same thing that an average investor would use: they encumber on their existing properties so that they can buy or build new ones. They can hedge the risk, or at least part of it, with hedging futures.
Regardless, these decisions have their risks.
Investors have to reckon with this because, especially in a situation of tight liquidity, the loan used by the fund may increase, thus the exchange rate may show significant fluctuations.
Risk related to real estate use
A real estate fund seeks to compile the range of properties it owns so that geographical and industry risk is low. Accordingly, They choose different types of properties in different geographical areas. Among them, the time of construction and technical equipment also differ.
Vacancies during the lease period may result in a loss of cash flow to the fund. This does not pose a significant risk for a properly diversified portfolio. The lease period is healthy distributed among different industries as well as customers contracted for different lease periods. The fund manager seeks to mitigate this risk through active property management and even the use of appropriate financial collateral built into the lease.
Damage resulting from a possible natural disaster may cause a significant shift in the fund’s net asset value determined on a daily basis, and thus in its exchange rate.
The real estate fund gives you the opportunity to benefit from the proceeds of the real estate issue in a way that you would have to deal with or understand it.
The profits you can make in this way can even exceed what you would be able to achieve on your own. However, this does not mean that it is advisable for anyone to buy a real estate fund unit at any time.
- Would you invest in real estate yourself, or would you rather choose the real estate fund by reading the above?
- Given the returns, what do you think is the recommended term of the real estate fund? [hint: this is always related to the level of risk, in this case the risk of real estate investments]
- How suitable do you see the real estate fund for capital building?
If you would like to know if this type of mutual fund is actually for you, please contact us. (This turns out in a personal conversation.)