Why Angel Investors should focus on Real Estate
Before we dive into the top 3 reasons angel investors should invest in real estate, let’s make a few assumptions. Assumption #1 is that these angel investors have additional capital to invest. Whether they are active angels today or not, chances are they made their money through business ventures, working with family or a long career of working hard for a great company and they are looking for more investment vehicles. Assumption #2 is that they have enough liquid funds available to continue living the lifestyle they have built for their families.
Assuming both these things are true, we believe every angel investor should have exposure to real estate, beyond the value of their primary home. And here’s why:
#3 – Balance risk and return
Startups are considered by many to be one of the riskiest asset classes and the returns associated with startups, thanks to exits like the purchase of Instragram by Facebook or Microsoft’s acquisition of Yammer, can be astronomically high. That high-risk, high-reward mentality should be balanced with a medium or low-risk mentality to keep investment portfolios in check at a macro level. While high risk real estate transactions totally exist in the market, like ground-up development and conversion projects, there are medium and low risk transactions like first trust deed investments with low loan to value ratios and commercial buildings with built in income that can help balance a holistic portfolio.
#2 - The correlation between startups and real estate performance is low
Unless an angel investor is investing in all real estate startups or all financial services startups, the likelihood that there is a close correlation between the performance of the real estate asset and the performance of the startup is low. While the economy can impact both of these asset classes, many startups actually have the “best of times” when the economy is in the dumps and there are new opportunities. Building a portfolio with low correlation amongst asset classes allows investors to win in good times and in bad.
#1 – Startup investments tend not to generate cash flow, but real estate does
Angel investors invest in startups. And investing in startups is highly illiquid. Despite the fact that most startups fail, it is even rarer for those startups to generate cash flow for investors, i.e. in the form of dividends before a sale. Balancing an investment portfolio with real estate that is generating cash flow from day 1 can help to smooth out longer term investments in startups. While real estate can also be highly illiquid, if you invest in properties that have rental income above expenses and the cost to service any loans, the excess funds are cash flow, typically distributed quarterly. And where might an angel investor reinvest that cash flow? Well, startups of course.
Interested in how much of your portfolio should be invested in real estate? See what investment guru David Swenson tells us here.