The key to a solid investment portfolio is diversification
But what is the point of diversification? And how does it strengthen your financial portfolio?
The purpose of diversification is not to boost the immediate performance of your portfolio; rather it is the longer-term process of accumulating uncorrelated assets.
Correlation is a statistical term referring to the relationship between two or more assets. When market changes cause a pair of assets to move in tandem with or in opposition of each other, it means that they are correlated, and that they are affected by similar market shifts. However, when two assets are not controlled by the same economic forces, it means that they are uncorrelated. When compiling a portfolio, it is best to have as many uncorrelated assets as possible so that your pool of assets becomes less likely to suffer widespread loss in the event of a market downturn.
And while diversifying your assets does not guarantee higher gains or lower losses, it does increase the likelihood that your portfolio will remain balanced and strong.
So why invest in real estate?
Industry experts agree that 7-15% of every financial portfolio should be dedicated to real estate investments. As a source of revenue that grows slowly over time, real estate investments offset the constant rise and fall of the stock market.
David Lynn of National Real Estate Investor Online has noted that private real estate returns generally do not move in tandem with the returns of bonds, equities or even public REITs. In fact, because private real estate utilizes “appraisal-based valuations,” real estate as an asset class is “much less sensitive to short-term market volatility [risk] than daily stock market valuations of publicly traded REITs.” He goes on to explain that:
Private real estate has shown relatively low volatility, and has achieved among the highest risk-adjusted returns among the major asset classes over the past three decades (1978-2010). That means that for each unit of risk, it is estimated that private real estate has provided higher returns than stocks and public real estate, and has matched the bond index.
Additionally, real estate investment gains further value from its capacity to geographically diversify any portfolio. Each property’s unique location, size, and characteristics contribute to the strength of your financial portfolio.
What does this have to do with real estate crowdfunding?
It’s simple. Prior to the enactment of the 2012 JOBS Act, investors interested in diversifying their portfolios by investing in real estate had two options. They could directly purchase real estate, or they could purchase REIT’s. Both of these options, though, had downsides. Direct real estate investments required relatively large sums of cash, resulting in portfolios over-tilting towards real estate and requiring a large time commitment. REIT’s required smaller sums and less of a time commitment, but were too sensitive to market volatility, defeating the entire benefit of investing in real estate.
With the advent of real estate crowdfunding, investors interested in adding a real estate component to their portfolios now have the best of both worlds. Many real estate crowdfunding sites, like PeerRealty, allow accredited investors to invest in a deal for as little as $5,000. Unlike REIT’s, private real estate tends to move independently of the stock market, acting as a stabilizer for the average financial portfolio.
So what are you waiting for? Get out there and start diversifying your portfolio!
Check out our investment opportunities at peerrealty.com.