Investors need to diversify their Sponsors. An often-overlooked fact is that the active investor IS the Sponsor. If you make a mistake on one of your properties, it might be the same type of oversight you made on many of the properties in your portfolio. Every Sponsor has their strengths and weaknesses.
If you have multiple investments with multiple Sponsors, you are diversifying this hidden risk.
Let me share an example from my experience that still makes me cringe. We made an investment with a General Partner (GP) that partnered with a property management (PM) company. It turns out that the PM was experienced, but they had never worked with the specific type of project that this GP specialized in. The GP assumed – and we did too – that this PM would be able to easily morph to handle this slightly different type of asset.
Turns out we were all wrong. The PM didn’t do a great job. There were several confounding factors. The PM initially explained it away as a change in market conditions. Honestly, we thought it was plausible too. The GP ended up giving more time to a PM that really was not right for this project. The GP eventually had to replace them. Since the GP had a deep relationship with that PM across a LOT of projects, this was a messy business divorce. It distracted the GP and the PM from their core jobs of managing renovations, contractors, and getting new tenants at higher rents into newly refinished rental units.
The turnaround wound up taking a lot longer than it should. The longer the project takes, the lower the rate of return or IRR.
Imagine you made ten investments in your portfolio, and all ten were with this GP (this GP has over 30 projects, all in the Value-Add strategy). Your entire portfolio would be at risk.
Ideally, you would have many investments with many different GPs. Each GP will have their own idiosyncratic deficiencies and blind spots, but they are unlikely to overlap!
In summary, you want to be mindful of creating a balanced portfolio across all 4 Pillars of Diversification. This is what can enable you to generate strong returns in the 17-20% annual range while having a well-managed level of risk.
Many of our readers are professionals that have invested in many years of education and working to develop their expertise. Real estate investing is its own specialty and requires the same care and time to build expertise for profitable returns. For many, building that expertise creates another part- to full-time job that they just do not have time to add into their already busy lives.
That’s why many have discovered passive investing to, essentially, hire the expert to do what they do best and instead focus on their lives and families and retire on their own timetable.
Click below to access the other pillars and if you are ready for passive, diversified investing…without the headaches, book your 15min investment review at https://irontoncapital.com/myreview to see if we can help you go passive.
