My Thoughts on Real Estate Crowdfunding Part VI

My Thoughts on Real Estate Crowdfunding Part VI

Joe Stampone Innovation/Technology 7 Comments

It’s been about 7 months since I shared my thoughts on real estate crowdfunding and a lot has changed since then. The pace of growth is accelerating, we’re seeing maturity and innovation, and the interest in the space continues to intensify.

I recently had the opportunity to speak to the capital markets class at my alma mater, NYU Schack, and the Real Estate Club at Columbia Business School on real estate crowdfunding and the interest in the space from young, tech-savvy real estate students was incredible. Below is a scratch list of things happening in the real estate crowdfunding world that I’ve found interesting.

Scaling Real Estate Crowdfunding Platforms

One of the biggest questions facing real estate crowdfunding platforms is, how will they scale? A few things are going to happen:

  • Due diligence will be reduced to set of algorithms
  • Shift toward pooled assets
  • Standardization of deals across platforms; docs, fees, structures
  • Liquid secondary market
  • Gravitation toward products that lend themselves to be scaled; debt and preferred equity

While we’re beginning to see this shift, I think a number of challenges exist.

  • There are groups working on automating the due diligence process through complex algorithms, however they’re not perfect and still require a significant amount of manual input. I think it’s going to be a while until we have enough quality, real-time data to streamline the DD process.
  • We’re seeing a shift toward debt crowdfunding models. These portals are basically online lenders backed by individual investors. However, I haven’t seen much of a difference made by the faster technology and data-driven efficiencies of these portals. How long will it be before the increasing competition in this popular, but still nascent market, lowers loan fees?
  • While “liquid” secondary markets will be established, there is an inherent flaw in calling it a liquid market; it’s easy to sell shares when the market is improving, but it’s hard to sell when the market is in decline. By definition liquid entails not just the ability to sell, but the ability to achieve a price equal to or close to the last price. What kind of impact will these markets have on the real estate industry?

Increased Transparency/Online Track Records

One of our early motivations behind crowdfunding our deals was the belief that private real estate investment firms need to be more transparent. We’re doing high quality deals and executing in an institutional fashion. Therefore, we want our track record to be public, allowing potential investors to see verified returns versus our initial underwriting. While I’m not exactly sure how this will play out, I’m seeing a few things unfold:

  • Real estate crowdfunding portals are creating operator pages which will show the performance of past deals they raised on that platform.
  • Crowdfunding investors are discussing deals in a public forum. For example, one of our investors recently launched CrowdDD, where he openly discusses the returns on the 50+ deals he’s invested in across a number of platforms. His insights clearly show the varying quality of deals across the different platforms.

Innovation in Real Estate Crowdfunding

There are a lot of exciting innovations happening across the crowdfunding space.

  • Investor Perks: By having a large captive network of investors, connected through an online portal, unique opportunities present themselves. Fundrise is currently offering its members a chance to win tickets to the U.S. Open if they invest in a deal or invite other investors to join the Fundrise network. This is a cool platform perk, but I think we’re going to start to see deal-level perks as well.
  • Direct Mail: I know it seems crazy to be listing ‘Direct Mail’ as innovative, but with everything moving online, there is less noise in old school high-quality mailers. Portals are geo-targeting accredited investors within certain submarkets when raising capital for a local deal. It’s a great way to capture the attention of local residents and provide them the opportunity to invest directly in their community.
  • Managed Fund Products: As portals scale through increased deal flow, established track records, and a history of execution, they will begin to attract institutional capital and deploy it through a managed fund product. Just like P2P lending sites such as LendingClub, portals will offer investors the opportunity to spread their capital across a diversified set of deals, professional managed for low fees.

Reg A+ was Approved

Real estate crowdfunding platforms are excited at the prospect of tapping into the 97% of the U.S. population that is unaccredited. Reg A+ was approved, meaning sponsors will be able to more easily raise money from unaccredited investors.  There are still a lot of barriers, but opening up the crowd to private real estate deals is a complete game-changer. I’m eager to see how creative real estate developers utilize the new Reg A+ rules.

What have you been seeing in the real estate crowdfunding space that has piqued your interest?

  • Great points Joe. One concern I have about a ‘liquid’ secondary market forming is that private real estate will become financialized; i.e. subject to market mood swings and therefore lose its function as an alternative asset category whose correlation doesn’t go to one every time Janet Yellen (or Jim Cramer) reaches for the microphone.

    Seems like at that point all you’d own is a single asset REIT and what would be the investor’s advantage in holding that vs. a more traditional REIT? As soon as people started arbitraging new deals vs. existing it will be the beginning of the end and when you can put a hit on a deal with a CDS it will be game over.

  • Giovanni, great comment as always. You likely know more of the subject than I do, but I actually don’t see the secondary market playing out as you described. The investors will still get the benefits of direct real estate investment (cash-flow, appreciation, and tax-benefits) unlike a REIT structure.

    I think, in the near-term at least, it’ll be more of a low-volume market for those who need liquidity. It may even be platform-specific exchanges. As I mention though, the inherent issue with liquidity is that it’s easy to sell when a market is improving and hard to sell when a market is in free-fall.

    Thanks for the continued support.

  • Joe, good point about the benefits of owning real estate directly or through a fund like your. As long as Wall St. trader types don’t get into those real estate secondary markets and start doing what they do. They’re like sharks though, always moving, hunting for new markets to exploit and manipulate. I really don’t want to see real estate deals become tradable in the same way that stocks, bonds, etc. have gone from being investments to ‘trades’ and leveraged ones at that.

  • RE: easy to sell in up markets- Howard Marks recently wrote about that saying No
    investment vehicle should [or in reality can] promise greater liquidity than is
    afforded by its underlying assets.

    This leads to what I call Marks’
    Corollary: In a crisis liquidity often goes to zero.

  • graham1776

    Joe-What are your thoughts on the underwriting side of crowdfunding. I get the feeling that many of the crowdfunding platforms are more tech-talented than real-estate talented. I think a scaling challenge is going to be for the platforms to be able to quickly scrutinize (“underwrite”) deals as the deals multiply in size and quantity.

    Do you think there is any opportunity to create a third party business that provides third-party underwritng / valuations for crowdfunders. A specialist that can quickly provide underwriting guidance would be able to help these platforms see more deals. As an associate for a large institutional developer, intelligent underwriting of our deals is key, and I wonder how the crowdfunding platforms are the same or different. Thoughts?

  • Hi Graham, I think you’re right. Real estate crowdfunding platforms can’t efficiently underwrite deals and they need to automate that process in order to scale their model.

    There’s definitely an opportunity to create a 3rd party site, but there’s really no shortcut to underwriting a deal. I always advise investors to underwrite the sponsor first – http://astudentoftherealestategame.com/10-questions-crowdfunding-investors-should-ask-sponsors-before-investing-in-a-deal/

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