RealTMOR Asset Mgmt LLC and RealTMOR Apartment Mgmt LLP
It is imperative for HNIs especially those with asset holdings of $1mm-$10mm to manage risk in a prudent manner. This group (“HNIs”) is most susceptible to major losses and poorer recovery scenarios compared to UHNIs and HNIs with wealth of $10mm+. These HNis includes various professionals and small business owners. They are present in many countries and are financially the most underserved group of investors. Traditionally, this group spends less time managing investments and more time managing primary “money-generating” activities. Hence, it is most prone to taking undue risks, entering/exiting an asset later in the cycle and practicing a “follower” investor strategy. The goal should be to optimize gains during the bull cycle BUT it is more important to minimize losses during the bear cycle.
These HNIs, typically, have the least diversification in their portfolio and, in many cases, the high concentration of risk or unduly risky assets. The buffer to absorb losses and capacity to recoup losses is the most tenuous for this group. This investor group should focus attention on being insulated from significant risks which are not adequately compensated.
Important Points to Consider:
- Always diversify asset classes owned. Depending on an investor’s risk-taking capacity there should be a mix of fixed income assets, equities and real estate in the portfolio. Appropriate fixed-income assets provide the most relative safety and the lowest absolute returns. Based on various personal parameters, some percentage of fixed income assets/ cash is beneficial to a portfolio. Based on risk-taking capacity, HNI portfolios should include an optimal spread of real estate and equities. On average, equities are riskier than real assets and thus provide higher returns. However, on comparing a “high-quality” equity/ index asset with a “class A or B+” type property it is clear that the relationship between risks and the returns of the assets is NOT linear. The relatively higher returns that one expects to generate is achieved by taking much higher level of relative risk (the “standard” equity security (S&P 500), on average, results in a 2.0x annual return over the “standard” residential real estate asset (US National Residential Real Estate), but the risk/volatility is 5.0x higher). This relative risk/return balance is worse in emerging markets.
- Always own an optimal mix of equities and real estate assets. The “riskier” part of the portfolio should not be exposed to ONLY one of these two assets. Ideally, to maintain an adequate risk/return balance and to generate a reasonable stream of cash flows, a mix of both is key (excluding the value of residential dwelling). The equity part of the portfolio should be appropriately set up depending on various factors that are specific to the individual investor. There are significant materials present in the public realm and may great wealth managers that provide adequate guidance on equity investments. Real Estate investing is tricky and key criteria are often overlooked by HNIs. Further, the real estate investing segment does NOT have the same level of well-developed information sources or advisory/management professionals for these HNIs.
- Always own international assets in stable, developed economies. Foreign Exchange risk is critical for these HNIs. Their lives tend to be increasingly global and hence adverse FX impact at wrong times could be problematic. HNIs from countries like China, Russia, India, South-East Asia, Gulf nations and Latin America are exposed to significant currency risk. Further, some areas tend to have geopolitical or resource risk which manifests as currency risk. Even HNIs from developed countries such as Canada, Australia, and New Zealand is exposed to FX risk versus the Euro, US Dollar or Yen.
- Always own international assets in high growth, emerging markets. HNIs in markets like Japan, EU, and the USA is fortunate to own the bulk of their assets in “economically advantaged” markets. But, they sacrifice returns for stability/safety. Hence, HNIs from these economies should have certain exposure to assets from countries like India, South East Asian economies or China. This provides access to high growth markets, enjoying unprecedented wealth creation and opportunities to generate “out-sized” returns.
- Important Points for HNIs to Consider While Investing in Real Estate or otherwise:
- Exposure to other markets should not be only through equity purchases, real estate ownership is critical
- Do not purchase overly leveraged real estate
- Seriously evaluate the purchase of a comparable resale asset before purchasing assets under-construction
- Do not substitute the purchase of a residential real estate asset with purchase of a commercial real estate asset (e.g. office, shop, warehouse space etc) or land
- Primary real estate investments should be in the largest, most important and less risky segment of the real estate market i.e. residential real estate
- Primary real estate investments should be in the most optimal segment of residential real estate which is owned in the “prime areas or prime cities”
- Ensure investment real estate assets at home are well diversified and spread out among multiple cities
- Ensure an additional/essential diversification (risk-management/ hedging) tool of owning similar kind of investment real estate in a foreign market which has correlation benefits relative to the home market (exposure to “appropriate” international real estate)
- Do not purchase assets in countries with high legal/regulatory risks
- Do not purchase investment real estate assets with negative or minor cash flow, and depend on capital gains alone to generate profits
- Do not purchase high-end luxury real estate, for investment, instead of multiple utilitarian assets
- Ensure investment real estate assets purchased have the lowest amount of regulatory/legal complexities associated (easier to deal with condominiums v. houses)
- Do not mistake speculative real estate assets for “regular” real estate investments
- Do not mistake real estate assets owned in smaller, niche areas (like vacation homes) to be “mainstream” investment assets
- Do not mistake purchasing publicly traded REITs as a substitute for owning diversified negatively correlated real assets
- Do not mistake owning one or two condominiums in another city or country as adequate diversification
So, summarizing these points listed above, it means that an HNI should ideally own similar kinds of investment real estate assets (residential) in multiple large/important cities in one’s home country and appropriate international markets. However, this would potentially be a logistical nightmare and intimidating to research, identity, maintain and manage. This provides an HNI the best possible method to structure real estate holdings but would not be done without active management. The option that should be researched by the HNI is to identify capable, honest, experienced, proven and expert professional managers that could set-up and manage this well-structured portfolio. This portfolio could provide high-quality risk-adjusted returns.