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Real Estate Fund Managers Facing Pressures Amid Explosive Industry Growth

Summary

Real estate is one of the largest sources of investment in the alternatives space so far this year.

Institutional investors are demanding more from prospective real estate fund managers in order to invest.

Real estate fund managers will need to rely more on technology to help them meet growing investor demands for transparency.

Real estate is one of the largest sources of investment in the alternatives space. According to a recent Preqin study, 59% of institutional investors made investments in real estate in the first half of 2018, edging out private equity as the leading alternative investment. In the first half of 2018 alone, real estate alone experienced capital inflows of over $3 trillion.

All indications signal that the appetite for real estate will continue to grow, as 84% of investors expect to commit the same amount of capital or more over the next 12 months, up 11% from the prior year. Real estate has become so popular amongst institutional investors that Preqin has even started to track those that have invested $1 billion or more in the asset class – something known as the “Billion Dollar Club”. This group has grown 13% since last year, further illustrating the enduring interest in real estate investments.

There are several reasons for the explosive growth in real estate. One factor is a “high tide lifts all boats” effect. Alternative investments have been the fastest growing category of investments since the Great Recession and real estate has seen an influx of capital inflows as a result. But real estate has grown faster in its own right because it offers investors diversification across geography, risk/return, and inflation-hedging. These benefits explain why 88% of investors surveyed by Preqin affirmed that their real estate investments either met or exceeded their expectations in 2017.

While concerns like fundraising, rising interest rates, and high valuations are keeping real estate fund managers up at night, they will increasingly feel one of the key pressures that hedge funds and other private fund managers have been experiencing: increasing investor demand for transparency. The Preqin study shows that this is already a reality with institutional investors in real estate, as transparency was listed by investors as the second highest area of concern.

The days when investors were satisfied with mere quarterly or annual communications, emailed to them as PDFs, are over. This trend of investors demanding greater transparency (something I have written about extensively)began in the hedge fund world following the Bernie Madoff scandal, and has quickly expanded to other alternative fund types as technology adoption, investor sophistication, and capital invested have increased.

But many private fund managers forget that most people have become accustomed to accessing and interacting with their financial information digitally. They have gotten used to being able to access up-to-date information at any time, on any device, where they can take certain actions in a self-service manner. And this dynamic is exponentially greater when considering a sophisticated institutional investor.

Investors have gotten frustrated with fund managers that only report sparse performance metrics in emailed PDF statements. Real estate fund managers should be wary of this sentiment with not only their existing investors, but also with prospective investors. According to a 2017 Intralinks study called “Alternative Investment Insights”, 40% of investors said they didn’t invest in a fund because of transparency concerns. This figure is surely to increase in the future.

The transparency trend affects real estate more acutely than other alternative investments because fund administrators play such a minor role in the industry. According to Convergence, 70% of real estate funds are self-administered. As a point of reference, only 16% of hedge fund managers go it alone and perform administrative activities in-house.

Fund administrators typically handle the ongoing operational burden of delivering transparency to investors on behalf of their fund manager clients. This effectively relieves the fund manager from having to place an organizational focus on addressing investor relations and in doing so, allows them to place a greater focus on generating returns and raising capital.

Given the nature and relative illiquidity of real assets, however, real estate investment managers are finding that they can deliver on investor transparency demands through the smart use of technology. In particular, real estate managers should seek out technology that delivers ample transparency to investors through a modern, digital experience, and also alleviates their operational burdens.

By choosing the right technology partner, managers can enjoy the benefits of keeping their investors happy, successfully attracting outside capital, and saving money in the process.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.