Commercial real estate (CRE) is one of those modern-day necessities of society that you may not notice until you really stop and look around. Every grocery store, apartment building, office complex, convenience store and restaurant in your neighborhood falls into this alternative asset class. We know the names of the tenants but seldom think about the physical spaces they occupy and the entire industry (and investment opportunity) they comprise.
At its core, CRE is a general term encompassing all properties that are used for business purposes. It is further segmented by the functionality of the property and can generally be categorized into four types, with many, many subsectors and evolving niches:
- Office: Properties used as office space that can range from multi-tenant central business district skyscrapers to single-tenant suburban office buildings.
- Industrial: Properties that house business operations, like warehouses, fulfillment centers, data centers, manufacturing, research and development facilities, etc.
- Retail: Any property that is used to sell goods or services directly to customers, like grocery stores, apparel retailers, restaurants, convenience stores, etc. Shopping malls, strip centers and stand-alone properties all fall into this category.
- Multifamily: Residential housing with typically four or more units, and often referred to as apartments.
Property types can also be combined to create mixed use real estate - think residential on top of retail and office space. Outside of the four major categories above, there are also other special use types including hotels, student housing, senior housing and medical facilities, to name a few. It is a vast market with an estimated total value of $14 to $17 trillion just in the U.S. alone.
WHAT’S SO ALTERNATIVE ABOUT IT?
Perhaps due to nomenclature, many investors tend to skirt around adding alternative assets like commercial real estate to their traditional portfolios of stocks, bonds and securities. Prescribing alternative as an adjective to something often paints it as unconventional or unorthodox. However, institutional investors, like pension funds and endowments, have long used alternative asset classes to help reach their targeted returns and approximately 145 million Americans invest in real estate through real estate investment trusts (REITs) directly as well as indirectly by way of mutual funds, ETFs or target date funds.
Others take on the ownership responsibility directly, purchasing and managing the properties themselves and tying up thousands or even millions of dollars into a single, long-term investment.
But let’s put a positive spin on the word “alternative.” In the case of portfolio allocation, it does not mean an out of the ordinary replacement for something, but rather a complementary investment to the traditional vehicles already included.
Here’s how commercial real estate can complement a portfolio:
Diversification
As an alternative investment, CRE has historically brought greater performance to portfolios that include it over those that do not. It adds to portfolio performance through its most recognizable benefit – diversification. Due to its low correlation to the stock market, an alternative investment like CRE can help reduce portfolio volatility and risk, creating more stability and return potential.
Cash Flow
CRE investments are known for their stable and consistent regular income with distributions that may be competitive with stock dividends and higher than bond yields. In translation, in the case of REITs, tenants pay rent and investors receive cash distributions. CRE tenants may have long-term leases, often for a decade or longer, typically providing stable and predictable rental cash flow.
Long-Term Appreciation
Real estate tends to appreciate over time and sales of commercial properties can potentially generate profits for investors. Of course, there are no guarantees and past performance does not necessarily indicate future results, but history has shown that real estate is a resilient asset class.
TO SUM IT UP
Adding commercial real estate to an investment portfolio can provide diversification, which may lower volatility and help improve returns, and establishes an additional cash flow source for investors with the potential to appreciate over the long-term.
Historically, everyday investors have not ventured much into the alternative waters of commercial real estate, leaving these types of investments to the big institutional players. Part of the barrier has been that commercial real estate investments were simply out of reach for the average investor, but REITs are making it easy for individuals to invest in the same quality commercial real estate that institutional investors are after.
The views and opinions expressed in this commentary reflect Modiv Inc.’s (together with its affiliates, “Modiv”) beliefs and observations in commercial real estate as of the date of publication from sources believed by Modiv to be reliable and are subject to change. Modiv undertakes no responsibility to advise you of any changes in the views expressed herein. No representations are made as to the accuracy of such observations and assumptions and there can be no assurances that actual events will not differ materially from those assumed. The forward-looking statements in this paper are based on Modiv’s current expectations, estimates, forecasts and projections, and are not guarantees of future performance. Actual results may differ materially from those expressed in these forward-looking statements, and you should not place undue reliance on any such statements. These materials are provided for informational purposes only, and under no circumstances may any information contained herein be construed as investment advice or as an offer to sell or a solicitation of an offer to buy an interest in any Modiv program or offering. Alternative investments, such as investments in real estate, can be highly illiquid, are speculative, may not be suitable for all investors, and there is no guarantee that distributions will be paid.