Diversifying one's investment portfolio is a key strategy to manage risk and optimize returns. While one can think that the universe of investible asset classes available today are vast and offer a variety of options to investors, in essence, there are only 2 things on any diligent investor’s mind while evaluating a potential investment opportunity:
- Return OF Capital or Capital Protection (Safety FIRST)
- Return ON Capital (Risk adjusted returns NEXT)
Most investment products can be placed on a continuum between the stability of fixed income (Government Securities, Bank FD’s, Bonds, Debt Mutual Funds etc) and the volatility of Equities (including Direct stocks, Equity Mutual Funds, ETF’s etc).
An astute investor should look towards creating a diversified mix of fixed income, equity and hybrid security investments to optimize returns on his/her portfolio. Smart investors will try to find a balance between the high-risk & high-reward world of equities and the reliability of fixed income (Debt) investments.
Needless to say, of paramount importance in the entire asset allocation process is Liquidity (ability to quickly convert your investment to cash) and the ability to consistently generate REAL returns (investment returns measured against the yardstick of inflation).
Commercial Real Estate for Portfolio Diversification
While Indian investors have traditionally been heavy on real estate, significant chunk of retail investor capital is historically allocated to residential real estate - which suffers from very low yields (sub 4% in most cities) and the returns don’t compensate for the inherent illiquidity of such investments.
It is at this juncture that I want to introduce commercial real estate. Commercial real estate provides 8-9% annual returns through rental yield and an opportunity to participate in the appreciation of the underlying property, giving it characteristics of both debt and equity. By virtue of being a real asset the principal amount is also considerably safer. The real icing-on-the-cake is the annual inflation-linked rent escalations. Most commercial leases escalate by 5% every year or 15% every 3 years providing a strong cushion against inflation. The real rate of return is therefore always 8-9% with the capital appreciation providing the additional equity kicker.
CRE investments in the right institutional grade properties with blue-chip tenants offer negligible credit risk of rents not being paid. A seasoned real estate investor will increase stickiness of the tenant by requiring the tenant to do the fit-outs or TIs and by signing a “lock-in”, a term used to bind tenants to a building for a longer term.
Also, the stability of returns (with monthly rental payouts to all investors) can be harnessed by using the monthly rental distributions to either reinvest in other assets through Systematic investment Plan or utilised for recurring expenses. It also makes sense to build a large CRE investment corpus diversified across tenants, geographies and asset classes (Offices, Warehousing, Retail etc).
In conclusion, while the sophisticated & institutional investors have always been investing in Commercial real estate, retail investors should consider adding high-quality commercial real estate as part of their portfolio. In order to effectively navigate your investments (Managing tenants, finding right investment and exit opportunities, rent collection, regulatory compliance etc), it is important to route CRE investments through a regulated and institutional investment platform like Property Share, just like retail investors navigate equity markets through a Trusted Fund Manager or a Reputed Fund House.
The article has also been published on LiveMint.com on 7th January, 2024
(https://www.livemint.com/money/personal-finance/diversify-your-portfolio-with-commercial-real-estate-portfolio-diversification-cre-real-estate-investment-portfolio-11704259808978.html)
