Three Real Estate Investment Strategies
Welcome to Lesson 4!
Just as there are many types of properties available for an investor, there are different investment strategies that an investor could deploy. No one is better or worse, just different for different investors who have different goals and risk tolerances.
Main Investment Strategies
Broadly speaking, these are core, opportunistic, and value-added investments.
Core investments for the conservative investor. An example of core is buying a recently built, new, single family home that already has a tenant renting from it, in a mature urban market where you’re confident of the rental market demand. These investments involve lower risk, with little to no rehab/construction risk and no lease-up risk (i.e., having to fill a vacancy). However, the expected returns tend to be the lowest because it’s a more conservative way to invest.
Core investments are ideal for those with shorter investment horizons, those who seek stable rental income and wealth preservation over maximizing returns, as well as minimizing investment risk.
Opportunistic investments for the aggressive investor. An example of an opportunistic investment is the purchase of raw land in a possibly up-and-coming tertiary market where the investor is betting on future growth. It may involve getting proper permits and actually building a new home from the ground up. Not surprisingly, these investments involve much more risk and require more expertise and execution in hopes of getting outsized investment returns. It’s high risk, high return, with a high level of work involved.
Value-added investment for the balanced investor. The middle of the road is the value-added investment. This is when an investor finds a property in need of repair but is in an otherwise strong market. Maybe the property is currently achieving below-market rents due to fixable defects. The amount of work varies from cosmetic (e.g., painting, landscaping,) to significant (e.g., kitchen and bathroom remodels, roof replacement, etc.). The less work involved, the more similar to core. The more work involved, the more similar to opportunistic.
It’s easiest understand their differences by looking at their risk-reward profiles. In general:
• Core investments are low risk with low potential returns.
• Opportunistic are high risk with high potential returns.
• Value-added are moderate risk with moderate potential returns.
An young, aggressive investor with a long investment horizon may opt for more opportunistic investments, while an investor nearing retirement age seeking stable cash flows may choose more core investments.
Investment Strategy Can Change over Time
Many investors will adopt different strategies over time. For example, an investor may follow this path:
1. Start with a core rental deal to get experience with minimal risk and complexity, i.e., getting an easy-to-rent property in a strong rental market to help them get deal experience under their belt without taking on undue risk early on.
2. Then do low involvement value-added plays, such as buying an older rental property that needs moderate renovations. As they gain more confidence, they can take on more risk and complexity in their deals.
3. And finally, work their way to the higher risk/reward opportunistic deals, such as doing full tear-downs or building from the ground up. With more experience and confidence, they may opt for much more aggressive positions.
So, which is right for you? It depends on your own goals, risk tolerance, and amount of work you’re willing to take on.
But what are your options as a first-time investor if you have little to no capital starting out? Tomorrow, we’ll explore popular starting points for first-time investors, even if they have little to no starting capital to invest.