How Can Individual Investors Compete With Established Firms?

Texas_Forever's picture
Rank: Baboon | 142

Something I've noticed (and I'm sure others are fully aware of this) is that big institutional real estate investors are willing to overpay for real estate to satisfy their 1031's. How does someone that wants to start their development shop or do deals on their own with money they've saved up, compete with these big institutional investors that are happy to overpay and can outbid the smaller guys? Would love to hear some insight.

Comments (40)

Most Helpful
Jan 30, 2020

Beat them on scale or local knowledge.

My city, for instance, could really use some solid 6-10 unit infill deals that are nice but hit a middle to high middle price point - either for sale or rent. Hell, I would love to buy or rent one myself in a good location. As a MF developer though, 200-unit deals are arguably too small, let alone something that small.

The other thing is to find land from a local source, or assemble it yourself, and get to work developing. Secure the sites before big players even know they exist. Easier said than done, of course, but that's part of it.

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Jan 30, 2020

re your second paragraph, are you talking about off market deals? Hear about them from your local network before they ever reach the bigger players?

Jan 30, 2020

Yes to both

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Jan 30, 2020

At the end of the day 99% of the time the person who pays the most gets the deal, its not like 1031's are a new phenomenon or that the majority of the market is using them or if a 1031 is being used doesn't affect the price I'm willing to pay for the asset unless someone fucked up and is very close to the identifying date.

While the existence of 1031's surely lowers US cap rates by a few bps on a whole its not locking out new players who come into the market every day.

So ignoring that non-issue, how to smaller guys compete? The same way larger guys do, offer the best terms.

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Jan 30, 2020

Look at different markets and smaller deals that institutional players don't look at because they can't put out enough equity. As an individual investor you would also have different return metrics that give you an edge.

Jan 30, 2020

Is there like a sweet spot for # of units that institutional players don't look at? like 50 units and under?

Jan 31, 2020

I'd think of it more in terms of the amount of equity that can be put out vs. time spent. Roughly I'd think of it as deals in the <$15-20M range or wherever mom and pops are more likely to be sellers. Of course this depends on price per unit. Maybe <80?

Jan 31, 2020

It really depends. Even institutional players do small/boutique deals from time to time. But from an economies of scale standpoint, it is hard for real institutional-size companies to justify anything below 100 units or so. It doesn't make sense in terms of on-site property management, personnel, overhead, etc.

Jan 30, 2020

You can always niche down/get into sweatier deals/etc... + rely on better inbound deal flow to an extent.

Jan 31, 2020

It's all about having solid local market info, especially in the secondary & tertiary markets that most of the bigger firms are overlooking. If you can know where the growth in your local market is and the narrative behind that growth, you can get in there faster than the bigger firms.

Controversial
Jan 31, 2020

It's not easy. And not just in the real estate business. And it's becoming worse with each passing year.

Our banking system, despite being backed by the American tax paying public, is run to service the business and real estate oligarchies. Even Fannie Mae and Freddie Mac multifamily lending service essentially only wealthy borrowers (there are exceptions with their small balance loan business, but it's an outlier--if you want an apartment loan backed by the American public you have to be rich already in order to guaranty the loan).

Most people looking for business capital or real estate capital for <$5 million who aren't already super rich are mostly SOL. As neighborhood and regional banks get bought out by bigger institutions, it becomes even more difficult for smaller players to acquire capital. There are two key reasons for this: 1) scale--lenders do as much work for small deals as they do for big deals so why lend on a $5 million project when you can lend on a $50 million project? 2) regulation--the regulatory burden for banks with more than $50 billion in assets is absurd. They are greatly limited in their ability to lend at significant leverage and smaller players don't have the liquid capital. For example, BB&T recently quoted (insulted) me with a loan offer at 48% LTV for a stabilized retail building with a NNN lease and a 20-year tenant with a brand new lease. Why? Their regulator requires BB&T to structure a loan using 6.5% amortizing interest rate and 20-year am schedule, despite BB&T's actual quoted rate being 4.5% on a 25-year am schedule. Other lenders said our team wasn't experienced enough for a land loan with development potential, despite one of the guarantors having 15 years of commercial construction experience and me having 11 home builds to my name and us partnering with a professional architectural and development firm.

I'm convinced the reason the U.S. economy can't break out of a ~2% growth cycle is because of the atrocious lending environment. Small businesses are being stifled at inception.

Jan 31, 2020

I normally don't care about monkey shit but in this case if you're going to throw it then debate the point at hand. Show me where I'm wrong. Hint: I'm 1000% correct.

Funniest
Jan 31, 2020

Throws MS at you for being a real estate bricks and mortar cuck

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Jan 31, 2020

GSE lenders having a liquidity requirement and a balance sheet with at least the balance of the loan.

Jan 31, 2020
Sham Wow:

GSE lenders having a liquidity requirement and a balance sheet with at least the balance of the loan.

Right. The American tax payers are backing loans to mega millionaires and in some cases billionaires in order to grant loans that the private sector would happily make in the absense of the GSEs. The American system of apartment finance and regular business lending/banking socializes losses and privatizes gains, with the losers being the general public and the winners being people who are already rich. The system is actually really terrible. This type of corporate welfare might even be tolerable if the banking system didn't specifically lock out the little guy (which, numerically, happens to be practically everyone) from accessing their own deposit capital on the lending side.

Feb 2, 2020

Something similar is happening on the building side. The complexity of design and construction has increased massively over the past few decades. Building codes have gone from practically nonexistent to ludicrously complicated. Building systems that used to be controlled with simple analog devices now require computer programmers to set up and maintain. Entire new systems have been added. Building elements that used to be simple, like exterior envelopes, now have far more components and potential failure points, and new kinds of specialists have emerged to oversee them. And a more litigious environment ups the ante on every decision...

But complexity is best managed with scale. Big name developers who do huge, urban core projects can simply hire a big team of the top experts and throw money at them, and it will all come out in the wash since the numbers involved are so huge. Not so easy at a smaller scale. That's why people don't build many new 3 and 4 unit multifamilies anymore- there are fixed costs associated with all of the new complexities, so you are way better off spreading them over larger buildings. But the big developers are the ones who are set up to do the big buildings.

Feb 3, 2020

You cant complain about lenders and use a single tenant retail deal and a land loan request to make your point. You all but made the opposite.

Feb 3, 2020
SHB:

You cant complain about lenders and use a single tenant retail deal and a land loan request to make your point. You all but made the opposite.

Yeah, I'm sorry for not giving a full account of all examples of ultra conservative lending. Try to get any apartment loan without having essentially half or more in net worth as the entire loan, regardless of the down payment. That's crazy. That's so far outside of the historical norm. Most of the real estate billionaires and millionaires wouldn't be so today in the current lending environment. Try getting any kind of business loan that isn't an SBA loan--it's nearly impossible if you aren't an already successful business. Even so, try finding an SBA lender--like, a real one, not just one that advertises on its website that says it lends SBA deals. And when you find a real SBA lender, try to find one that lends as aggressively as the government allows--they nearly all lend more conservatively because banks live in fear of their regulators. Banks should not be in constant fear of the regulator. They should be allowed to take some risks.

Risk is an absolute essential and fundamental aspect of economic growth. Our lending environment has completely squelched risk in banking. And the core reason for this is regulation, consolidation and banks that are too big to fail. This is going to lock us in to 2% growth cycles indefinitely. That's terrible for the general public, but the rich (who were mostly made rich in prior lending environments) will benefit and continue to get wealthier, while the general public backs their loans. It's truly an immoral and economically untenable lending environment.

Feb 2, 2020

I agree with @SHB that 1031's aren't the real issue here.

Generally speaking, brokers prefer the devil they know. There are a number of reasons for this: 1) anyone they vouch for on a deal goes against their reputation when things go sideways, 2) it's less work to feed deals to people you've already vetted, 3) once you're large/active/relevant enough there's quid pro quo pressure to feed the broker fee revenue in order to secure deals you want.

So, the first obstacles faced by a new entrant all have to do with establishing credibility in your market. Do you waste people's time by exercising brokers and then not showing up to bid? When you bid, do you have your capital lined up? Do you habitually re-trade deals? Have you actually closed deals in this market? Will anyone vouch for you as a closer?

Since you're starting from zero, you also won't have as many chits to offer the broker (to be clear, I don't condone this "pay-to-play" style) since you're unlikely to be selling something else soon. But if the broker does debt placement you can win some favor by letting them arrange your acquisition financing (and paying them a fee in the process).

Long story short, it's tough and you'll be forced to the periphery of the market to start. But guess what? There are deals to be had all over the place. So, consider segmenting the market smaller and smaller -- geographically, product type, deal type, deal size -- until you can get on a broker's radar and stay there. Then, invest the time to get to know the broker and get that person to like you. Any good deal can be placed with a half-dozen qualified buyers without a marketing process, and as described above most brokers are going to default to the simplest path. So being liked helps.

To help with this kind of stuff, I built a product that lets people in CRE more effectively articulate what they do and merchandise their closed deals: https://towerhunt.com

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Feb 3, 2020
Ephs05msm:

I agree with @SHB that 1031's aren't the real issue here.

Generally speaking, brokers prefer the devil they know. There are a number of reasons for this: 1) anyone they vouch for on a deal goes against their reputation when things go sideways, 2) it's less work to feed deals to people you've already vetted, 3) once you're large/active/relevant enough there's quid pro quo pressure to feed the broker fee revenue in order to secure deals you want.

Or, to summarize - it isn't worth a broker's time to chase an additional 1-2% on the sales price, because that's a minimal amount of fee income for them. If your average broker had a concept of fiduciary duty to their clients, they wouldn't be brokers in the first place. A broker, especially in IS broker, is always going to want to please a buyer over a seller, because the buyer represents repeat business and another fee, whereas the seller has nothing left to offer once the sale goes through.

Feb 3, 2020

Sellers do the same shit though. You want to sell to people who are going to give you your next buy. In a market like today's (where finding product to buy is the hardest part) large institutional sellers will certainly steer a deal towards a similar firm in their asset class knowing the buyer will have a sale around the corner.

Feb 3, 2020

Kind of like REIT X saying "we need an institutional exit on this" is going against their fiduciary duty?

That "1-2%" isn't worth stigmatizing a deal, and re-launching it after Local Joker LLC fails to execute. Let me tell ya, will be a lot more than 1-2% off the price in that event and a lot of memos going out to investors explaining why you tried to be a hero.

Feb 4, 2020

If your average broker had a concept of fiduciary duty to their clients, they wouldn't be brokers in the first place.

I agree with the sentiment here. That said, I don't have the perspective to know whether brokers are being unfairly singled out. There are a lot of dirt bags out there in all pockets of the market. Let's not pretend the principal side is full of angels.

A broker, especially in IS broker, is always going to want to please a buyer over a seller

Depends who is who. To @SHB's point, in my experience it was a matter of who/where the next deal was likelier to come from. As a mostly arbitrary example, when you're representing BX on a sale, you're definitely looking to please them.

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Feb 3, 2020

I've heard something on the lines of this is a good strat to beat out institutional competitors.

https://en.wikipedia.org/wiki/Oklahoma_City_bombing

Feb 3, 2020
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Feb 4, 2020