Why the wealthy invest in real estate

Many private wealth advisors say real estate should form part of a properly diversified portfolio. While a realtor will tell you the three most important considerations are location, location, location, the real trick is determining the right investment vehicle, the right geographical markets and the right timing.

Most investors own a principal residence and perhaps a vacation property, but may own nothing in the commercial, industrial or large-scale residential/rental sectors.

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Those who know this sector urge patience in the short-term, but an active investment strategy over a longer time frame. Indeed, following a sustained development boom in office and commercial development in the early 2000s, the recession and its aftermath created a difficult environment. In large U.S. urban markets, office vacancies can run to 20% (and Calgary reports similar numbers). Vancouver’s vacancy rate, by contrast, remains tight enough to sustain higher rents.

Tom McCullough, president and chief investment officer at Northwood Family Office, expects to see prices drop as interest rates rise, leading to “interesting opportunities” in the next two or three years. His advice for now: “keep your powder dry.”

Further out, increasing consumer demand will again drive up commodity prices. And this works in favour of cities in Western Canada, observes Andrew Hungerford, a principal with The Hungerford Group, a Vancouver firm that manages a 220-property portfolio and develops projects backed by wealthy investors.

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Accumulation of wealth in those markets, coupled with more downtown development in cities like Calgary, will attract quality tenants willing to pay attractive rents.

“We think that will create a good buying opportunity in the next few years,” says Hungerford, who notes his firm stayed out of market for the last four or five years. The company is starting to raise capital for its next fund, but remains bearish in the short-term. “We’re willing to wait.”

U.S. investors may already be moving, as California commercial broker Louis Tomaselli recently noted. With pensions and institutions expected to park $10 billion in commercial real estate in 2010, the managing director of Orange County-based 360 Properties is seeing real estate “move at values not seen since the early 2000s — with multiple offers indicating there is strong interest in, and competition for, Class A properties.”

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For her private wealth clients, there are a number of interesting emerging niches, including condo projects in the U.S. Southwest that went bankrupt during the credit crunch and are now available at sharply discounted prices, says Susan Latremoille, a vice president and wealth advisor at Richardson GMP Ltd.

She also sees opportunities in college and university residence projects, as well as retirement communities geared to the so-called young senior— retirees in good health who are moving from the family home into amenity-rich complexes that are a far cry from full-service nursing homes.

And the choice of investment vehicle is as important as the market. Latremoille and others point out real estate investment trusts (REITs) tend to fluctuate in tandem with public equity markets, even though the performance of underlying assets may not be directly linked to market swings.

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Latremoille and her firm have an exclusive alliance with commercial development giant Brookfield, which offers investment pools to high-net-worth investors.

There are also broker-run funds, such as Vancouver’s Sunstone Realty Advisors, which bundles commercial and industrial properties into syndicated fund products. But Hungerford, who touts a direct project investment model, cautions buyers to look closely at the fee structures.

Lastly, commercial real estate experts remind investors, especially those with direct holdings, not to adopt a passive holding approach to their assets when the market remains fragile.

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In a recent commentary by John Bailey, a senior vice-president of strategic business development for Wells Fargo Private Bank, owners were advised to renew leases early in soft markets, re-negotiate service contracts, and invest in enhancements and offer concessions to desirable tenants.

John Lorinc is a Toronto-based financial writer.

This article was originally published on capitalmagazine.ca.