Are you eyeing passive investment opportunities in real estate syndication and funds but unsure where to start? The allure of generating substantial returns through property investments without the hassles of hands-on management is undeniably appealing.
This blog post will explore my 5 Pillars of Passive Investing for Limited Partners in Real Estate Syndication & Funds that I developed over nearly a decade of passive investing. Understanding these pillars can help you navigate the complex landscape of real estate investments and position you for success.
1. Know Your Investment Goals and Criteria
The first step in successful passive investing is crystal-clear clarity on your investment goals and criteria.
As a limited partner, knowing what you want out of your real estate investments sets the foundation for every decision you make. Are you looking for steady cash flow, long-term capital appreciation, or a mix of both? Determine your financial needs, risk tolerance, and investment timeline.
This clarity will guide you in selecting the right properties and partnerships that align with your objectives in the sea of endless investment opportunities.
2. Understand the Market & Asset Class
Real estate markets can vary dramatically from one region to another and from one asset class to another. Whether it’s commercial, residential, industrial, or retail properties, each has its own set of risks and rewards.
As a passive investor, you must understand the current market trends, economic indicators, and growth prospects of your target locations and asset types. This knowledge not only helps you make informed decisions but also helps you anticipate market shifts that could affect your investments.
This is crucial for knowing where to place capital based on the market cycle and regional market trends, even when investing with high-quality sponsors. This is because sponsors tend to stick to asset classes and markets they know, and even if they do well, you may do better in a different market or asset class, depending on where we’re at in the cycle.
3. Choose a Sponsor with a Track Record
One of the most critical decisions you will make as a limited partner is selecting the right sponsor or syndicator.
I’ll say that again: selecting the right sponsor or syndicator is one of the most critical decisions you will make as a limited partner.
This is the team or individual who manages the investment on your behalf.
Look for a sponsor with a robust track record of success, transparency, and strong communication skills. Evaluate their past projects, investment returns, and how they handle operations and crises. A competent sponsor can significantly enhance the performance of your investment, while a poor choice can lead to disappointing results.
4. Diversify Your Holdings
Diversification helps mitigate risk by spreading your investments across different markets, asset types, and sponsors. This approach can protect you from localized economic downturns and allow you to benefit from different growth rates across regions and sectors. Consider geographic and economic diversity when building your investment portfolio.
Investing legends such as Warren Buffett and John Maynard Keynes don’t believe in over-diversification. Instead, they believe in identifying a few opportunities you genuinely understand and that have long-term prospects, then going all-in on them. For example, Keynes believed this number should be around twenty different investments. While there is no hard or fast rule, investing with a “handful” of highly reputable sponsors is the way to go.
This is because “putting all your eggs in one basket” can be risky:
- Diversify Sponsors: Many real estate syndicates and funds run with lean teams. Even with a sponsor who has a stellar track record, there are usually a few key players, and if one or more “get hit by a bus,” you could lose a significant portion of your principal or the entire amount invested.
- Diversify Markets & Asset Classes: Real estate tends to be cyclical, and while one market or asset class could be underperforming, others can be thriving. By diversifying, you can hedge against an underperforming investment dragging down your portfolio’s overall returns. For example, Dual City Investments was able to generate a 22% annual IRR on its original fund through COVID-19 despite the multifamily eviction moratorium because other asset classes in the fund continued to perform.
- Diversify Across Individual Opportunities: While real estate funds typically hold multiple properties, offering natural diversification, single asset syndications (SSAs) have only one property, and if something goes wrong, it could mean poor returns. Thus, investing in a fund or across multiple opportunities reduces the likelihood of any investment doing too much damage.
Similarly, investing with too many sponsors may come with burdensome administrative and compliance costs and headaches:
- Taxes: With every deal you invest in comes a Schedule K-1 that needs to be reported on your tax returns. This isn’t free, and with many K-1s, you can quickly rack up high compliance costs, eating into your returns. Moreover, if you invest in too many states, you’ll likely have to file multiple state tax returns, only exacerbating the problem. Lastly, tracking all these K-1s in itself can be a significant hassle.
- Performance: Next is tracking the performance of all these deals and sponsors. The more sponsors and deals you have, the harder and more time-consuming this gets.
- Analysis Paralysis: Too many sponsors and opportunities can quickly overwhelm even the most astute investors, leading to sub-optimal investment decisions or stopping you from taking action.
I like to invest with a handful of sponsors with solid track records who collectively grant me access to a handful of asset classes and markets I understand and have long-term growth prospects.
5. Performance Review
Ultimately, we’re investing to build our wealth, so performance matters.
Regularly reviewing the performance of your investments is vital to ensure they align with your financial goals. This involves analyzing each investment’s quarterly reports, investment summaries, and actual returns.
- Are your investments meeting your expectations?
- Are they meeting or outperforming sponsor projections? Are any underperforming?
- Are sponsors open and transparent with their communications? Including setbacks and the like?
If the opportunities a sponsor offers meet or outperform expectations, it can be a sign to continue investing with a sponsor.
However, if a sponsor consistently underperforms their projections, this is a major red flag. So is the lack of periodic and transparent communication about the investment’s performance. In these cases, cutting this sponsor and investing with those who perform may be best.
And look, I’m not saying to run at the first sign of turbulence. Investments aren’t perfect, and things sometimes don’t go as planned despite being well prepared. If a quality sponsor has a minor setback or slightly underperforms on an investment but is otherwise open and transparent about it and works to minimize or correct it, it’s okay to give them some grace. However, a track record of underperformance shouldn’t be tolerated.
Conclusion
Embracing these five pillars of passive investing can significantly enhance your chances of success as a limited partner in real estate syndication and funds. By being strategic about your investment goals, understanding the market, choosing the right sponsor, diversifying your portfolio, and regularly reviewing performance, you position yourself to maximize returns and minimize risks. Remember, passive investing doesn’t mean a hands-off approach; it means being smart about where you invest your efforts.
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Invest With Dual City
At Dual City Investments, we help accredited investors build wealth, diversify portfolios, and avoid the hassles of managing property through passive real estate investments. Our Advantage Fund (DCAF) offers a unique opportunity for accredited investors to participate by opting for a 721 exchange or investing with cash.
Interested in learning more? Click here to discover how DCAF could revolutionize your investing strategy.
