Multifamily real estate investing, like all forms of investing, comes with its own set of unique challenges, and that’s where risk management comes in. Savvy investors will know how to identify and overcome some of these challenges to give their portfolios the best chances for successful growth. Analyzing, managing, and mitigating risk are essential, and we’ll dive in to better understand these concepts.
What is Risk
Risk is the potential for loss or negative performance for an investment asset. For multifamily real estate properties, risk might refer to high rates of tenant turnover, low market rates for rent, or high supply and low demand for housing. Informed investors take potential risk into account when making financial decisions.
Identifying potential risks provides investors with a roadmap to overcoming obstacles, and there are several different types to look for when performing risk analysis, including:
- Market Risk: The conditions of any given real estate market, including vacancy rates, population growth, current housing supply, and the overall demand for housing.
- Operational Risk: Risks associated with managing a property, costs of repairs and renovations, tenant turnover, and other related factors.
- Financial Risk: Economic factors, such as properties that carry too much debt or have less-than-ideal cash flow.
There are, of course, other types of risks, and some risks can fall into multiple categories. However, these three basic types can provide valuable information when conducting an analysis. These factors can all be measured in metrics known as Key Risk Indicators (KRIs). KRIs can show the potential exposure of a multifamily real estate asset, giving investors the insight needed when deciding to buy.
Risk Management in Real Estate
Investors can manage risk by making smart decisions about which properties to add to their portfolio. Watching market trends and performing a risk analysis on an asset before purchasing can help predict potential cash flow and avoid assets that might carry too much risk to be lucrative. For example, Property A has a high vacancy rate and needs extensive repairs. Property B in the same market with a low vacancy rate and minimal repair needs. While Property A may be less expensive to purchase, it carries greater risk. Managing risk might involve spending more on the second asset to hedge against potential losses.
Mitigating Risk in Real Estate
Sometimes it makes more financial sense to purchase a multifamily property that’s a bit riskier. Investors will mitigate risk in this scenario to help prevent losses and foster growth, creating an action plan to address all concerns. If we take the example from above, Property B may carry lower risk, but Property A might be closer to local schools, parks, and public transit. With the right risk mitigation, it’s possible that Property B could be the better investment option. Mitigating risk in this situation might involve addressing repair concerns, screening potential new tenants, and creating a marketing strategy to attract new residents. By addressing and planning for these risks, it’s possible to increase the potential cash flow for the asset and overcome challenges.
What it Means for Investors Like You
Effective risk management isn’t always easy, but investors have options to help. REITs allow investors to put their money in a portfolio of multifamily real estate assets, each of which is analyzed for risk and potential profitability. A diverse real estate portfolio can help hedge against losses. Investors can also pool their money with others to invest in a single real estate asset so no one investor assumes all the risk on their own. DiversyFund offers options for accredited and non-accredited investors through its single-asset Premier Offerings and Growth Funds.