Why Diversifying into Alternative Real Estate Sectors Makes Sense
The "big four" commercial real estate sectors – industrial, multifamily, office, and retail – have long held the spotlight. However, concentrating on just one or two real estate sectors can add unnecessary risk to an investment portfolio. To achieve true diversification among real estate holdings, many have begun to consider alternative property types when evaluating investment strategies.
The Dominance of the Big Four
The big four have their merits, but we believe that over-reliance on them can lead to limitations and drawbacks. For instance, economic downturns can significantly impact office and retail properties, as we saw during the pandemic. And while multifamily and industrial have been solid performers, we believe that several other sectors may also be positioned to perform well.
Real Estate Sectors Growing in Prominence
Alternative real estate sectors are gaining traction for several compelling reasons. Let's explore why self-storage, medical office buildings, senior housing, and student housing are worth considering and why they may be positioned to perform well going forward.
Self-Storage: Embracing the Demand for Extra Space
Self-storage facilities have ascended in prominence in commercial real estate as demand for additional space remains steady. The downsizing trend, fueled by changing lifestyles and urbanization, has significantly contributed to the resilient nature of this market.
But what truly sets self-storage apart is its non-cyclical nature. That means self-storage is not as affected as other sectors by the four phases of the real estate cycle - recession, recovery, expansion and hyper-supply. A principal reason for that resilience is due to common life events and demand drivers known as the “Four D’s” – Divorce, Death, Downsizing and Displacement.
Intriguingly, the rise of e-commerce has further bolstered the self-storage sector. As online retail thrives, individuals and businesses seek secure storage options for their inventory and possessions. With relatively low operating costs and the potential for high occupancy rates, we believe self-storage properties present a compelling strategy.
Medical Office Buildings: A Pillar of Stability
The healthcare sector has been a pillar of stability in the real estate market. People will always need to see a doctor or schedule an operation. With the high cost of building a ground-up medical office space, most office buildings are generally secured with long-term leases by quality tenants, providing stable occupancy and the opportunity to increase rents regularly.
And as our aging population continues to grow and the trend toward outpatient verses inpatient care increases, so can the need for more healthcare facilities. We expect this sector to remain well-positioned to provide stability and the potential for long-term growth.
Senior Housing: Driven by an Aging Population
Demographic trends are a powerful driver for senior housing. With the aging U.S. population, the demand for senior housing options is only expected to increase. According to the Urban Institute
“The number of Americans ages 65 and older will more than double over the next 40 years, reaching 80 million in 2040. The number of adults ages 85 and older, the group most often needing help with basic personal care, will nearly quadruple between 2000 and 2040.” 1
We believe the potential for recurring rental income and the integration of healthcare services within senior housing communities makes this sector an attractive strategy. As the baby boomer generation continues to age, demand for higher levels of assisted living, memory care, and skilled nursing in senior housing facilities can keep resident occupancy rates high, helping to sustain this sector.
Student Housing: Capitalizing on Education
Student housing properties have catered to a relatively steady tenant base driven by the consistently strong enrollments most top schools experience.
Even during economic downturns, institutions of higher education often see little decline, if any, in enrollments. For example, according to the State Higher Education Finance (SHEF) Report noted by Bankrate.com
“During the Great Recession, college enrollment increased rapidly, peaking at 11.65 million students nationwide in 2011.” 2
Advantages of Alternative Sectors
Diversifying Beyond the Big Four
Investing in alternative real estate goes beyond diversification; it's about embracing opportunities aligned with evolving societal trends. While the big four asset classes remain essential components of many real estate strategies, we believe that integrating alternative sectors can help mitigate risk while potentially increasing returns.
Non-Correlation and Stability
We believe one of the significant advantages of alternative sectors is their lower correlation with the big four asset classes. These assets can act as a diversifier and stabilizing force, potentially buffering against market volatility.
Today, it’s important to understand the range of private real estate investment strategies available. The alternative real estate sectors discussed above represent only a few of the options that we believe could be meaningful additions to crafting a balanced investment strategy.
At Inland, our 55-plus years’ experience in successfully assisting financial professionals with real estate investment strategies offers you the assurance that we know where opportunities reside in the private real estate industry.
The views expressed herein are subject to change based upon economic, real estate and other market conditions. These views should not be relied upon for investment advice. Any forward-looking statements are based on information currently available to us and are subject to a number of known and unknown risks, uncertainties and factors which may cause actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements.
Some of the risks related to investing in commercial real estate include, but are not limited to: market risks such as local property supply and demand conditions; tenants’ inability to pay rent; tenant turnover; inflation and other increases in operating costs; adverse changes in laws and regulations; relative illiquidity of real estate investments; changing market demographics; acts of God such as earthquakes, floods or other uninsured losses; interest rate fluctuations; and availability of financing.