The ownership model has shifted from moms and dads to sophisticated institutional management. This in turn has seen the development of a whole new pool of real estate investment professionals, who have access to a wide variety of finance including sovereign wealth funds, pension funds and equities.
Unsurprisingly, there has been an evolution of the real estate investment format including, on the listed side, property securities, REITS and funds of funds and on the unlisted side, closed-end funds along with open-end funds such as hedge funds and private equity (for more information on the transformation in real estate see video).
There is, however, a new investment format on the real estate block. Crowdfunding is turning the traditional method of raising finance on its head. Instead of raising finance from a very small group of traditional investors, the new kid on the block is obtaining many small sums from a large group of people – the crowd.
For those unfamiliar with the concept of crowdfunding, here’s the basic idea. In an environment of tightening credit, crowdfunding was born as a new form of financing. It opens investment opportunities to a range of investors of varying size, allowing individuals to directly invest in and reap the rewards of projects or businesses that they think will succeed.
Crowdfunding is usually managed through a platform website much like a sophisticated online notice board. Campaigns for funding are launched online where a business proposition is outlined to the crowd along with the timescale, the amount of monies needed and the returns. There is no geographic limitation. The idea has been used in a range of sectors, from seed funding for start-ups (Crowdcube, Seedrs) to charitable and artistic donation-based projects (Kicksarter). More recently, crowdfunding has hit the real estate sector.
Sites like Realty Mogul and Fundrise now offer the opportunity for investors to buy shares in properties or development projects, via a company that owns each property. This allows the total investment to be split into infinite chunks and means that even individuals with little to invest can gain from investing in large real estate projects. In some cases the minimum investment is as little as US$100 making it accessible to the smallest investors out there.
How is this different from REITs? The main difference is that crowdfunding platforms allow you to see exactly which properties your money is being invested in, whereas REITs are vehicles with a broad range of properties across which the money is spread, even if they are defined by property type or location. Fundrise looks to emphasise the importance this has for local communities. By opening up investment to individuals of all levels of financial means, Fundrise allows people to invest in projects in their neighbourhood. This is where crowdfunding could be incredibly influential in the real estate sector.
Here at Trident Real Estate Capital, we firmly believe that local knowledge is one of the keys to success in real estate investment. The fantastic thing about crowdfunding is that it allows people with such local knowledge to back projects that they would like to see completed on their doorstep. What’s more, they can even gain from these projects by owning a share, which might pay them a dividend from rental income, or later through appreciation of the building or site. What could be better than people in a community choosing and financing the buildings and businesses that they see rising up around them?
Before you all rush off to an online crowdfunding portal and pool money together to buy shares of a real estate investment project, it is important to know where the Australian regulator, ASIC, stands.
Real estate crowdfunding will most likely constitute the provision of a financial product, requiring a product disclosure statement and for the operator of the crowdfunding platform to hold an Australian Financial Services licence.
Furthermore a real estate crowdfunding scheme that promises a return on investment may constitute a managed investment scheme which will require registration with ASIC and the need to operate through a responsible entity.
There are exemptions available under the Corporations Act, but given the huge numbers of investors required for crowdfunding to work, crowdfunding will not qualify for such exemptions. What this means is that real estate crowdfunding is difficult in Australia and requires compliance with regulation that is costly. It is, therefore, hard to see whole communities investing in developments in their neighbourhoods, which American site Fundrise hopes to achieve under the far more welcoming crowdfunding regulations in the US.
As with all sectors, real estate could benefit from such innovative ideas. It should, nevertheless, be pointed out that crowdfunding does offer up some pitfalls, to which ASIC has responded. Most importantly, as the smaller investors are given access to investments, so they should also be educated in the risks involved in undertaking such investments.
While crowdfunding does offer the rosy picture of people building and financing the development of the city around them, it should be taken with a pinch of salt and approached with caution. Bringing real estate investment back to a local level with direct ownership is fantastic, as is the new avenue for financing offered by crowdfunding platforms.
Yet, it is best approached only by those who are able to look beyond these factors to the other considerations, such as the financial feasibility of the project and larger trends in global markets. After all, even someone with the ability to take into consideration all of these factors can fall prey to the vicissitudes of the real estate market. The crowd should be warned of the risks involved in funding projects, even if they are on their doorsteps.
As Peter Linemann warns, ‘a small, fast raise, without high transparency has usually led…to a big scandal.’
By Dipesh Mahtani, analyst of Trident Real Estate Capital and Costa Argyrou, director of Trident Real Estate Capital. Trident Real Estate Capital publishes its own blog, which you can subscribe to by visiting www.tridentrealestate.com.au/blog. Trident can also be followed on twitter, the company’s feed is: @TridentRECap
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