Having an asset in your portfolio that generates passive income while providing a hedge against inflation is an attractive dual function for many investors. A Commercial Real Estate Investment Fund (CRE) can be an excellent addition to your portfolio. Benefits of a CRE include portfolio diversification, liquidity and the fact that investors save time Not to manage a property.
What is a commercial real estate mutual fund?
In general, a CRE is any investment that pools capital from investors with the intention of investing it in commercial real estate. While there are certainly nuances between the specifics of one fund and another, they usually have some things in common.
CREs have fund managers who ultimately make the decisions about the fund and where the money goes. When real estate investors invest their money in a fund, they don’t know which properties the money will be used for. The fund manager is trusted to find the best opportunities.
The diversification that CREs offer is one of its most appealing qualities. The invested capital is spread over several objects; The type of property, the location and the type of tenants are all facets that contribute to diversification. Overall, this type of diversification helps reduce risk for investors.
These types of funds typically offer greater availability of liquidity, with some funds being able to be bought and sold like stocks, offering a type of short-term liquidity not often found in commercial real estate investing.
Most CRE funds pay healthy dividends, which are derived from the income generated from tenant rent on the fund’s properties. This is the passive income that many investors seek when investing in commercial real estate.
The different types of commercial real estate mutual funds
There are four types of commercial real estate mutual funds: real estate investment trusts (REITs), exchange-traded funds (ETFs), mutual funds, and private equity funds.
Real Estate Investment Fund: A REIT is a form of commercial real estate investment that is characterized by an often high dividend yield and favorable tax advantages. The lion’s share of a REIT’s income must come from real estate and 90 percent of its taxable income got to paid out to investors if the trust wishes to maintain its tax-advantaged status. The tax benefit of REITs is that they are not taxed at the corporate level as individual shareholders pay taxes.
REITs can either be privately held and only accessible to accredited investors, or publicly traded, meaning their shares can be bought and sold on the stock exchange. REITs usually specialize in niche properties such as office buildings or apartment buildings.
Exchange Traded Funds: An ETF is quite similar to a mutual fund, although there are some key differences. ETFs are mutual funds that trade on major exchanges, making them easier to buy and sell. They usually come with lower management and custody fees.
Investment funds: While REITs invest directly in real estate, a mutual fund invests in the stock values of the companies that invest in the real estate. Mutual funds are not required to pay out a large percentage of their taxable income as dividends, as they are typically offered directly to investors by their management companies.
Investors with a moderate risk appetite looking for passive income and capital appreciation usually find mutual funds a good fit.
Private Equity Funds: These types of funds pool their investors’ capital in the equity portion of commercial real estate transactions. They are privately held, are only available to accredited investors and tend to be less liquid. Because these funds are aimed at investors who are looking for investments with a longer term. These funds often require a commitment of five to 10 years.
Due to the investment horizon and the accreditation hurdle, these private equity funds are usually only available to wealthy investors.
Advantages for commercial real estate funds
Although there are several different types of mutual funds, they are all somewhat similar and typically offer the same benefits and also carry the same risks. As with any investment, there are pros and cons that you should consider before parting with your money.
Diversification and Liquidity: Two of the most attractive advantages of these funds are their diversification and liquidity. With capital spread across different locations, properties and types of tenants, investors benefit from a diversified portfolio within a single fund unit. Publicly traded funds have the advantage of being easily bought and sold, which is attractive to investors with liquidity needs.
Hands off investment: Because the fund is managed by someone else, investors benefit from the manager’s experience and have no responsibility in choosing the assets in which to invest. This expertise is an added benefit as fund managers can leverage their own professional networks to access offerings not otherwise available to the average investor. Because the fund manager does all the heavy lifting, fund investors benefit from real estate ownership without having to worry about the actual management of real estate. This frees investors up for other investments or activities.
While there are significant benefits to investing in CREs, they must be weighed against the risks associated with the fund.
Lack of control: While the hands-off and irresponsibility of these real estate fund investments may appeal to some, investors have no control or say over how their money is used. This can be off-putting for some investors. Fund investors also have no say in day-to-day property management decisions and must play a passive role in when and if the property is sold.
Time Commitments: Most private equity funds and many REITs require a significant investment of time. This can be off-putting for some investors, especially if they need liquidity as they may not be able to access their capital for five to 10 years. Longer investment horizons can expose investors to higher market risks, leading to increased volatility.
Fees: Fund managers don’t work for free. Although most publicly traded REITs and ETFs have low management and custody fees, some mutual funds and private equity funds do not. These types of investments tend to have higher fees, which will certainly affect overall returns.
How to invest in commercial real estate funds
Investing in publicly traded REITs and ETFs is a straightforward process. After doing the research, an investor simply needs to decide how much money to invest, identify the ticker symbol for the ETF or REIT, and then place the trade through their brokerage account. Trade requests are usually processed quickly and a small commission may apply depending on an investor’s brokerage account. However, this fee is low compared to the fees associated with mutual funds, private REITs, or private equity funds.
However, for privately traded investments in private equity funds and REITs, the process is not quite as simple as their respective firms are responsible for verifying that their investors meet the appropriate accreditation requirements. Since bank statements and tax returns often have to be checked, this can take more time. Because these investments are not publicly traded, the company typically provides regular updates of the stock price or asset value.
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