So how do you find good risk adjusted deals?
This is a question that everyone should be asking. The reality is that as investors, we tend to focus on return profiles – leaving the evaluation of risk as only a secondary thought. Given returns tend to dominate investment conversations, talking with investors about how to think about deals on a risk adjusted basis is one of the most important roles we play. In practice, the savvy investor will make their investment decisions on a risk-adjusted basis – in other words, they find deals that get the most bang (return) for their buck (risk).
What we do at Alpha – facilitating investment into real estate- is not unique in and of itself. There are a number of crowdfunders, public/private syndicators and the like that exist to do the same thing in some capacity. Many of these firms play a marketplace role where the primary objective is to connect sponsors who need capital with investors who want to deploy capital. Others have more niche investment strategies or structures that appeal to a very specific subset of investors. In short – identifying an investment partner that shares your objectives is the first and most important step in locating investment opportunities that will make sense for your portfolio.
At Alpha Investing, we are very clear with potential new members from the first time we speak – we are not searching for diamonds in the rough or deals in that asset class everyone else is wrongly overlooking. To use a baseball analogy, we are looking to hit singles and doubles. At the end of the day, we believe real estate investing, which already produces high yields relative to other investment opportunities, makes sense without needing to swing for the fences. Of course, that does not mean high risk, high reward deals never make sense. Rather, our approach is premised on the idea that we underwrite each investment as if it’s the only investment you’ll hold in your portfolio. While we always encourage investors to diversify their investments across asset classes, sponsors and geographies, our hope is to cultivate individual opportunities that can stand on their own when viewed on a risk-adjusted basis. For investors looking for some exposure to more opportunistic deal flow, we created Alpha Fund I – a diversified real estate investment vehicle that will deploy investor capital across 10-12 assets. Within the context of a diversified fund, a limited number of higher risk transactions actually make sense as each investment’s individual risk is spread across a portfolio of other assets.
Using Structure to Create Value
If we look back on the history of private real estate investing, we’ll find that for the non-institutional investor (i.e., the high net worth accredited investor), access to real estate investment opportunities has (more or less) been limited to sponsors with which they had a pre-existing relationship – otherwise known as friends and family or country club investing. The challenge with this environment was that opportunities were usually with smaller sponsors in more local markets – after all, we tend to know more people where we live and work. On the other hand, larger sponsors took most of their capital from other institutions as convincing one investor to write a very large check was much easier than getting a few dozen (if not more) to write smaller ones. It is within this dynamic that Alpha Investing was created with the goal of providing the best of both these worlds to investors – institutional sponsors, opportunities in a variety of asset classes and geographic markets and accessible investment minimums.
In addition to effective execution relating to sourcing/vetting sponsor partners and deal underwriting, the manner in which we’re able to provide access to these types of real estate investment opportunities is a product of three distinct structuring strategies designed to create Alpha:
- Leveraging our personal and professional relationships to create partnerships with the highest caliber real estate sponsors – the types of groups that do not need our capital, but derive value from working with a sophisticated, long-term capital partner
- Structuring favorable investment terms through capital aggregation and recurring investment
- Finding opportunity and creating value by investing in assets with pricing inefficiencies
The foundation of our firm lies in our ability to cultivate long-term partnerships with high caliber real estate sponsors. Unfortunately, private equity real estate is not a world where an investor can google “best institutional multifamily sponsors” and ultimately find their way to making an investment with one of the listed firms. In practice, institutional sponsors do not accept cold-bound inquiries from individual investors. Even if they did, their investment minimums are typically well above the average accredited investor’s appetite for a single deal. More bluntly, if you have to ask about the minimum investment, you probably can’t meet it. So how did we get connected with these groups? Take a look at the real estate professionals and executives that back us – it’s an all-star list of sponsors, lawyers, investors, academics and the like. It goes without saying that without their warm introductions, we would have never had the opportunity to get started.
Why Alpha Investing?
The next, probably obvious question is why do these high-caliber, institutional sponsors want to work with Alpha Investing. They certainly don’t need our investment capital. A key part of the Alpha story is answering this question. In short, sponsors are always interested in having a diverse capital network. Investor sentiment, especially at the institutional level, can change very rapidly (think about a sponsor trying to raise capital for a hotel deal right now). Even while developing a robust capital network, sponsors still want to minimize exposure to the public – both for liability reasons as well as confidentiality concerns (this is real estate private equity after all). This is where Alpha Investing comes into play. But there are conditions – not only do we need to vet each investor to confirm they’re a fit for this type of investing, but we need to keep the network small and maintain confidentiality – the last thing a sponsor wants is for their private real estate deal to be blasted across the internet to hundreds of thousands of people. By creating an intermediary SPV (special-purpose vehicle) that aggregates investor capital, sponsors view Alpha Investing like they would any other institutional investor. On top of all this, sponsors want sophisticated investment partners – the types of investors who can understand and evaluate complex real estate transactions, who can add value by asking thoughtful questions or making introductions to service providers (or potential buyers down the road). In all of these ways, we are building a mutually beneficial long-term partnership with our sponsors.
From this relationship stems additional benefits for our investors that help to create Alpha. One important thing all real estate investors have learned is that sponsors (especially before you’ve made an investment) are not particularly forthcoming with information. Take the sponsor’s internal underwriting model for example – the excel spreadsheet that details the underlying assumptions for the projected returns. Without this, investors are left to review marketing numbers without much of the underlying support required to complete a true evaluation of a project. In other words, it takes a truly persistent individual to get all of the information they would need to fully evaluate a transaction. Even then, an individual writing a $100k check is unlikely to receive all of their requested information from a sponsor who is more likely to spend their time on larger check writers. It is in this that Alpha Investing is able to leverage the resources of its capital network and the goodwill it has established with its sponsor partners to provide better access to information and create transactional transparency for members of our network. This information is then included in a diligence folder that is shared with investors along with other transaction-related documentation.
We further seek to add value to investors in the form of more favorable investment terms. While these vary deal to deal and sponsor to sponsor, one example is preferential economic terms for the Alpha Investing SPV. This type of preferred treatment stems from the fact that investors are leveraging the aggregated capital invested by members of the Alpha network (not just in the current deal, but from past and potential future projects as well). In other words, each dollar invested through an Alpha Investing SPV as part of a large network of other investors is more valuable than that individual dollar invested on its own. Another example is a right of first refusal on equity for new projects. This is important because projects have a limited amount of equity – and better projects have more investor interest. As the first call, we are able to reserve an equity amount that allows us to provide access to each interested investor in our network (in their desired investment amount). By providing a wider funnel of targeted deal opportunities, we are better able to select transactions that best fit our investment parameters.
A logical follow-up to this discussion is to ask – if these opportunities are so attractive – why do they exist for investors like us. The short answer is that the types of assets we look to acquire with our sponsor partners typically fall below the radar of the largest institutional investors who have billions of dollars to deploy each year and are therefore uninterested in deal sizes below a certain threshold. Think about needing to invest $5 billion next year. Doing so with an average deal size of $50 million would require finding 100 transactions in a single year – a near impossible task for even the most experienced real estate professionals. What this means for us is that we’re often able to find opportunity in sub $75 million deal sizes for multifamily/student housing assets and sub $30 million for senior housing assets. That doesn’t mean we only invest in these types of deals – you’ll see larger projects on our track record – the most expensive being a $261 million apartment building acquisition just outside New York City. But it’s in the smaller deal size arena where we’re often able to find pricing inefficiencies that result from a variety of factors – poor marketing by the seller and/or their broker (or a good relationship between our sponsor partner and that broker), a lack of local comparable sales data or urgent liquidity needs from smaller sellers. In addition, by partnering with an institutional buyer to acquire assets from smaller, often mom and pop sellers, sponsors are able to create additional value in the form of improved, institutional management along with benefits stemming from economies of scale that come with a larger portfolio of assets. In sum, targeting certain asset classes and deal types that can be acquired on favorable terms is an excellent way to create additional value for investors.
Over time, we have strategically developed an investor-favorable infrastructure based on what we believe to be certain key foundational elements to create Alpha. We do this first by partnering with institutional sponsors who have long track records of successfully executing on their investments. We rely on our sponsor partners to find acquisitions in select asset classes and deal sizes to take advantage of pricing inefficiencies and create opportunities to add value through improved, institutional management. We then invest in a manner that increases the relative investment value of each dollar our network deploys through recurring/aggregated investments, increased informational transparency and priority access to investment opportunities. Altogether, we believe this structure provides investors with better access to quality deal flow.
There is uncertainty over what’s going to happen in commercial real estate as we work our way through the current crisis. However, successful investing isn’t about knowing the future with certainty—it is about taking actions to ensure your portfolio can perform in a variety of different situations. We believe that creating an investment structure that promotes investment efficiency combined with the vigorous execution of our internal vetting and underwriting processes enables us to provide a lasting competitive advantage to members of the Alpha Investing network.