Why Institutional Investors Like Real Estate
Institutional investors like BlackRock don’t invest like the average investor. That’s because they have different investment objectives. That’s probably due to their clientele, which are other institutional investors or ultra-wealthy individuals.
BlackRock’s own description of what it does on its website gives us a clue into why they approach investments differently than the average individual investor:
“We manage money for institutional clients like corporate or public pension plans, and provide investment solutions that help both professional and personal investors build long-term wealth.”
BlackRock, Inc. (traded as BLK) is a huge public investment company based in New York City. BlackRock is the world’s largest asset manager with multiple divisions across multiple industries and segments, with US$9.42 trillion in assets under management as of June 30, 2023. BlackRock is ranked 184th on the Fortune 500 list of the largest United States corporations by revenue. Their active strategy groups include Alternatives, Fixed Income, Fundamental Equities and Multi-Asset Strategies & Solutions.
Of all the asset classes, industries and segments in which it invests, including med, tech, fintech, pharma, financial services, info tech, software, media & entertainment, telecommunications, etc., one of its preferred asset classes is real estate – specifically commercial real estate.
BlackRock’s preference for commercial real estate was highlighted by a recent open letter it posted on its website disputing its involvement in the large-scale acquisition of single-family residences by institutional investors that is being blamed for high home prices and rents. In its letter, BlackRock clarifies that it is not one of these institutions snapping up single-family residences.
Although BlackRock does not invest in single-family residences, it does not deny investing in residential real estate, but it clarifies its involvement in the U.S. real estate market. “Combined, we are investing approximately $120 billion1 in the U.S. residential real estate market on behalf of our clients.” Among other activities, “BlackRock invests in multifamily properties, apartment complexes, and other residential real estate.”
It’s not surprising that institutional investors like BlackRock gravitate towards commercial real estate assets like multifamily over single-family and it’s all about economics.
There are multiple reasons why sophisticated investors, like institutional investors, ultra-wealthy and family offices prefer CRE, like multi-family, over single-family. The reasons are multifaceted but most have to do with efficiency and economies of scale.
Here are the top reasons institutional investors favor CRE, like multifamily:
CRE generates reliable and consistent income from rents and leases that in turn contributes to the underlying value of the property. This intrinsic value is independent of the greater market. In other words, it doesn’t matter what the investing public perceives as the value of an asset, it will always have an underlying value.
Because CRE has intrinsic value correlated to cash flow, CRE offers opportunities to boost gains from the increase in value of the property separate from what the investing public is willing to pay. This allows an investor to directly impact the value of the property through improvements to the property itself and management efficiencies that either increase revenue or reduce expenses to boost NOI. This in turn boosts the asset’s value.
Economies of Scale.
CRE lends itself to the advantages of economies of scale to reduce costs of large capital items and management expenses on a per-unit basis.
Reduced Occupancy Risk.
Instead of collecting rent from a single tenant from a single-family property, CRE properties offer the potential to collect income from multiple tenants, thereby spreading delinquency and vacancy risk. A delinquent single-family tenant imposes significant occupancy and income risk on single-family investments.
According to Freddie Mac, U.S. multifamily occupancy rates have averaged approximately 95% dating back to 1990. Therefore, multifamily properties can rely on 95% occupancy rates in most markets.
Multiple CRE assets across segment types and geographic locations offer the type of diversification built to insulate portfolios from downturns. Diversification across a variety of factors including geographic market, asset segment, property type, investment strategy, compensation structure, and security type is built to hedge against downturns. That’s because not every asset will be equally affected by a downturn. Income from certain performing assets can compensate for underperforming assets to help any portfolio ride out storms.
CRE investments – in particular, passive investments structured as partnerships – offer a multitude of tax benefits including: business deductions, regular depreciation, bonus depreciation, long-term capital gains treatment, avoidance of self-employment taxes like FICA, and tax deferral through 1031 exchanges.
Good Debt and Scaling.
CRE bank loans allow investors to leverage their capital across multiple properties instead of a single property. Instead of sinking $2,000,000 into a single property, investors can leverage the $2,000,000 to use as down payments on loans to acquire multiple properties (i.e., four of five based on 20%-25% down). Even after accounting for debt servicing, leverage allows for scaling and multiplying returns.
CRE – multifamily in particular – demonstrated its resilience in the face of recent challenges like the pandemic and inflation. Investments in the right CRE segments, like affordable housing with demand that doesn’t budge in the face of higher rental rates, are the ideal hedge against recession and inflation.
Insulated from Volatility.
CRE illiquidity insulates it from the madness of the crowds. So, while the investing public liquidates stocks in the face of economic danger, CRE investors hold tight – partly due to the fact that it takes significant time and effort to unload a CRE asset.
Institutional investors love real estate – specifically commercial real estate. It has all the elements ideal for building wealth.
Michael Foley, president and CEO of Humabilt Capital, oversees the entitlement process, funding, and operations for Humabuilt Capital. Mr. Foley has been a full-time real estate investor since 1995 during which time he has developed hundreds of single-family homes, townhomes, condominiums, and apartments. Mr. Foley started his investment ventures in Long Beach, California, and has expanded to Apex and Durham North Carolina. Mr. Foley is a graduate of the University of California at San Diego.