Real Estate Diversification

Avoiding risk is tricky if you choose to invest anything. Most of you know the relationship between greater risks and higher returns, so how do real estate investors help reduce their risk. Diversification is one method.

Real estate investment diversification is usually created with a number of methods. Some investors attempt this themselves or increasingly they seek the services of a professional independent advisor such as BCResortHomes.com.

‘Diversification is the division of your real estate investment portfolio among varied assets. It can assist risk reduction because different real estate investments rise, plateau or reduce independently,’ says Andy Harris of The BLC Group, adding that ‘In a well structured portfolio, diversified real estate asset combinations typically cancel out each other's fluctuation, therefore reducing risk.’

Individuals can diversify within a specific asset category such as resort hotel condominiums. To do this you could acquire units in different destinations. Or you can diversify your portfolio across different asset categories (hotel condominiums, early-bird ‘off plans’ buys, rental villas or ski chalets for example)

Clearly for your diversification strategy to be effective, improved performance while reducing risks is ideal. Typically we view two broad risk types when analyzing real estate investments these are known as unsystematic risk and systematic risk. Part of our job is to assist our investor clients reduce these risks.

Unsystematic risk is sometimes referred to as diversifiable risk and is specific to a real estate company, project or development. In Canada the forest fires near Sun Peaks resort in British Columbia are a natural example. The over-hyped ‘here today…gone tomorrow’ resort condo sales programs blend both business risk and financial risk. At BCResortHomes.com we find that well thought out diversification assists in reducing unsystematic risk from your portfolio. We cannot remove the risk, we can however reduce it and spread the likelihood of such risks at any one time.

Systematic risk effects everyone at the same time and accounts for most risk most of the time. Examples such as 9/11, Iraq and interest rate variations affected economies, not just a destination or real estate developments. Investors cannot eliminate such risk as it is beyond their control, as such it is un-diversifiable risk.

‘Diversification across ‘asset classes’ or different real estate types and markets helps reduce your risk by cushioning market tremors and removing most unsystematic risk from your portfolio. You get rewarded for taking market risk. We can reduce portfolio risk by excluding un-systematic risk that investors are not rewarded for.’ concludes Andy Harris of The BLC Group.

Diversification averages out asset returns within your real estate portfolio, it smooths potential ups and downs and it provides good protection against business risk, financial risk and volatility.

Good real estate diversification creates good returns.

This article is written by or on behalf of an outsourced columnist and does not necessarily reflect the views of Castanet.