Monday brought a huge market downturn, with the Dow dropping a record 1,175 points. Tuesday morning didn’t look much better, with the market dropping an addition 567 points at the opening bell. Things calmed down as the day went on, with investors rallying to end the day up 567 points. With everything going on, I wanted to share my thoughts on the recent stock market volatility, what it means, and where defensive investors might look to shift their capital. Chris Woida, co-Chief Investment OfficerWe don’t see the equity market volatility over the last several days as a signal of a larger economic contraction as much as it is a correction in the equity market. Typically, in the case of a greater recession, we’ll see credit spreads widen prior to seeing a drop in the stock market, which is not happening right now. Instead, this looks to be an equity correction combined with a flight to quality in other markets.   This volatility has been driven primarily by the movement of an overheated equities market back to fair values and private credit strategies are looking increasingly attractive.  Accordingly, TIPS, Agency MBS, and US TSY should provide stability if the equity markets continue to fall.  If inflation emerges as the ultimate market bogeyman, TIPS are preferred over the others on this list.  For investors looking to stay in stocks and ride out an erratic market, low volatility ETFs become an attractive place to invest your portfolio, while equities with high recent price momentum become largely unappealing. REITs have significant exposure to the equity markets, and they also tend to have exposure to interest rates. If investors expect deflation or a falling interest rate environment, REITs perform well as income-producing assets. In a recession, REITs may in fact be more defensive than stocks as their earnings, and thus much of their value, are tied to long-term leases that remain in place regardless of market volatility. For investors looking to be particularly defensive, residential apartment REITs become more attractive while office and industrial park REITs become less desirable. And a shameless plug: AlphaFlow’s AOP product is a great hedge against volatile equity markets.  Contact us to learn more.
Disclosure: All data presented here is for demonstration purposes only. Past performance is not indicative of future returns. Nothing in this article should be construed as a solicitation or offer, or recommendation, to buy or sell any security. Investors should consult with their own legal, financial, and tax advisors. While AlphaFlow strives to make the information in the article as timely and accurate as possible, AlphaFlow makes no claims, promises, or guarantees about the accuracy, completeness, or adequacy of the contents of this article, and expressly disclaims liability for errors and omissions in the contents of this article.
 

About the author:

Chris Woida, CIOAs CIO of AlphaFlow, Chris is dedicated to finding systematic alternative investment solutions for all investors. He is on a mission to deliver cost-effective and transparent solutions to real estate and other private market investors. Prior to AlphaFlow, Chris was Managing Director, Head of Index Solutions, at Axioma where he led the expansion of its multi-billion dollar AUM index business into ETFs and equity options. Before Axioma, Chris was at BlackRock as a founding member of the FactorBased Strategies Group and the lead investment strategist for its flagship style factor hedge fund. During his tenure, Chris helped build the company’s smart beta and factor-based investing platforms and contributed to the design of the company’s first systematic fixed income ETF and alternatives mutual fund.

 
I Want a Fully Optimized Portfolio
 

Amazon Headquarters

With the recent announcement that Amazon will be constructing a second headquarters expected to bring 50,000 highly paid jobs to a major American city on the Eastern side of the country, real estate investors have started to pay attention. That’s because a major employer like that is bound to cause an impact on the local housing market. With America’s aging housing supply and relative lack of new construction, this means the fix-and-flip market is going to see a major surge in demand in any city that is selected as a destination. In an article originally published on Business Insider, Miles Deamer, Director of Investments at AlphaFlow, provided some interesting facts and figures with relation to the top city choices for Amazon. Here are the five that seem the most likely given today’s housing and business environments.

1. Pittsburgh, Pennsylvania

If there was ever a city that combined the resources Amazon will need with the housing supply that will be demanded by an influx of new workers and an environment like the home headquarters in Seattle, it’s Pittsburgh. Located on the western side of Pennsylvania, it is geographically centralized. The fact that it is inland in a Great Lakes state means that there is little to block growth in the city, and the success of other tech giants’ satellite offices in the city makes it a likely candidate. As Sturm points out, “The influx of well-paying jobs has contributed to a hot real estate market. Brookline, a South Hills community with easy access to the city’s subway line, has transformed in recent years to house both working professionals and students.”

2. Cincinnati, Ohio

Located a bit further south than Pittsburg, near the border of Ohio and Kentucky, Cincinnati is home to 2 million. It’s also one of the most affordable large American cities to live in, which would make it easy for incoming workers with competitive salaries to purchase. The median home value currently sits at just $152,500, and that is in a town where over half the real estate lies above the $100,000 mark. Other notable firms in town include Proctor & Gamble and Kroger.

3. Atlanta, Georgia

Atlanta has become known as a destination city for Millennials because of its lack of natural boundaries to growth, its investment in infrastructure, and its vibrant cultural events and offerings. The city invested heavily in new parks and light rail, but a housing shortage has been plaguing the area for the last couple of years. Almost half the housing stock costs more than $200,000, but employees in the tech center are likely to be able to afford that price, and the city’s investments closely mirror those that Amazon has pushed to achieve in Seattle.

 4. Austin, Texas

Another destination city popular with younger and more educated workers, Austin is also home to the famous South by Southwest festival, which combines music, art, and tech culture in a large-scale annual event that has come to be known as the destination for people looking to get a start in the tech industry. Building permit filings are up about a third over last year, too, so not only will there be a workforce ready to take on the challenge of staffing Amazon’s second headquarters, there will also be a housing market ready to handle the influx of new homebuyers.

5. Nashville, Tennessee

Long known as a destination for country music artists looking to make it in the industry, Nashville also boasts a healthy population base and a business-friendly environment that make it a top contender for Amazon. As Ray Sturm points out, it has a lot of real estate development opportunity in West End and Midtown, where access to the downtown area is leading to an increase in demand.   Read the original article in its entirety over at Business Insider.
I Want a Fully Optimized Portfolio
  What Is A Bridge Loan?   If you have been looking at the products available for commercial and residential real estate loans, you have probably encountered the term bridge loan before. Unless you’ve had to apply for one, though, you might not realize what bridge loans are or how they are used.  These are short-term loans designed to allow borrowers to: In the case of investing in bridge loans, the third reason is the most common. These are the loans mostly used by “house flippers”; real estate investors who purchase and rehabilitate properties before reselling them. They represent a great investment opportunity too, and if you are interested in getting into real estate lending as an investment, you need to know how investing in a bridge loan – or portfolios of bridge loans – can provide you with a great return in a relatively short amount of time.

Bridge Loan Features

Before deciding to take the plunge and starting to invest in bridge loans, it’s important to understand the pros and cons,  and exactly how these products work for the lender, and by extension, the investor who is investing in the loans.

Other Types Of Bridge Debt

If you are looking for bridge loan investment opportunities, it’s important to understand the diversity of the investment opportunities available. Residential bridge debt is one major category of these loans readily available to individual investors. However, there are other types of bridge loans. Some are used by real estate investors operating in the multifamily and commercial space, and others are used by companies buying and developing new facilities for their own use, or as a stopgap while other financing is sought. Each of these types of bridge debt brings with it unique risks and opportunities, so it is important to understand the specific types you invest in and to balance your investments.

The Future Of Bridge Debt

These loans have been powerful instruments allowing for economic development to a wide variety of businesses for many years. It’s not likely that will change anytime soon, but what is likely is that there will be fluctuation in the demand for basic residential bridge loans in various states, cities, and neighborhoods. That’s because residential property investment is its own business with its own very local cycles. By diversifying into a range of bridge debt, though, investors can reap the rewards of the high-interest rates while opening themselves up to more investment opportunities in any market. Advance your investing knowledge by understanding the tax implications around another investment avenue: real estate crowdfunding. Free eBook Download   Rising Rates   As of the printing of this article the Federal Reserve had raised its benchmark lending rate a quarter point. There are an additional two rate hikes projected by most analysts for 2017. While the increased rate hike is an indicator of a strengthening economy, what do higher interest rates augur for commercial real estate investment trends and how do investors evaluate the rate hike vis a vis their investment portfolios? Here are a few subplots as interest rates march upward. Rates rise in response to good news. It’s important to keep in mind that the anticipated rate hikes are in response to sustained GDP growth, improved consumer confidence, healthy job creation forecasts, and employment settling at or near capacity levels. After moving cautiously for years, the Fed’s hints of rate hikes mean a robust conviction that the economy has made a full recovery, and is operating at or near productive capacity. From this standpoint, CRE investors should not be too disheartened by looming rate hikes; strong rental housing demand, a healthy retail sector, and stimulus in manufacturing should help grow demand for all types of commercial real estate. An eye toward secondary markets. As Fed Chairman Janet Yellen noted during her February meeting with the Open Market Committee in February, there are some concerns of frothiness in high-density core markets, where inpouring of foreign investment and a glut of supply continue to compress cap rates. With a rising cost of debt capital, it may become more critical than ever to pursue opportunities in non-gateway cities. Fortunately, there are a handful of secondary markets – such as Austin, Denver, and Seattle – experiencing above-average overall population growth, driven by an influx of millennial professionals who will drive multifamily, retail, and office demand for the foreseeable future. Watch for Movements in the Regulatory Environment. With Republicans in control of the executive and legislative branches, the future of several Dodd-Frank-era regulations are in question. In particular, the rule requiring commercial mortgage-backed security issuers to retain five percent of the credit risk on issued securities. Should this rule stand, traditional lenders may be constrained, compounding the increased cost of debt capital stemming from rising rates. This could expand opportunity for hard money lenders and yield more margin opportunities for real estate crowdfunding platforms and their investors. With higher interest rates, inflation becomes a wildcard. While rising rates typically have the eventual effect of tempering inflation, it’s likely that the underlying growth and consumer confidence driving the Fed’s decision will also mean higher rates of inflation in the short and medium term – growth and a relatively high velocity of money should push prices up in the short term before monetary policy reins in growth and inflation. CRE investors should keep a close eye on price movements. Managers should be ready, able, and willing to push rents upward in response to rising interest rates and inflation. Flat long term leases are suboptimal in this environment, and won’t create as much value on a relative basis. What About Cap Rates? There’s a common misperception that cap rates and interest rates move in lockstep – in other words, that rising interest rates will have a negative effect on pricing and increase cap rates, ceteris paribus. While it’s true that cap rates and interest rates (using 10 year treasury yields as a proxy) show a modest correlation of 0.7, correlation does not imply causation – cap rates are influenced by a wider network of variables beyond interest rates, including real estate market fundamentals, investor appetite for risk, and capital flows. NPI transaction cap rate and U.S. 10-year Treasury yields   The more critical takeaway is that any corresponding increase in cap rates stemming from an interest rate hike (as consequence of increased cost of capital) is likely to be mitigated over time. The effect of an increased “exit cap rate” on return diminishes over time, as the compounding effect of net operating income (NOI) carries more weight. This is all to say that rising interest rates may have some impact on cap rates, but it should not be substantial in the long run – investors can protect themselves against the risk of rising cap rates by pursuing longer-hold projects. IRR differentials for 4 exit cap rate scenarios  

Conclusion

For investors in online real estate (crowdfunding) platforms, the chief consideration should be whether the platform’s real estate team is considering these factors, and whether the originators behind the platform’s constituent projects have experience through business cycles, and can make wise investments and management decisions in a fluid interest rate and regulatory environment.   About the author: EquityMultiple EQUITYMULTIPLE is an online marketplace for private real estate transactions. It enables individual and institutional investors to invest alongside the market’s most sophisticated sponsors in many commercial real estate assets. EQUITYMULTIPLE was launched in February 2015 and is based in New York, United States.

NYC

We recently sent investors in AlphaFlow Fund 1 their first quarterly update, sharing both information on the Fund and our commentary on the market. We wanted to highlight a number of key points for all of our members:

May 2016

We are pleased to let you know that AlphaFlow Fund 1, LP (“Fund 1”) is now fully invested and earning returns. The Fund 1 portfolio now contains 77 loans with a weighted average return of 10.0% (net of AlphaFlow’s 1% AUM fee) and a weighted average LTV of 68.6%, with all loans secured by first liens on the underlying properties. The Fund 1 portfolio is invested across 5 different platforms, with investments in 20 states across the country. As such, the Fund 1 portfolio is currently more diversified than 98.5% of AlphaFlow portfolios of users invested in the real estate crowdfunding industry.

Commentary
Platforms:
AlphaFlow Fund 1 ultimately invested across five real estate crowdfunding platforms after reviewing potential investments across eight different platforms. AlphaFlow may choose to work with additional platforms in the future, but at this point we found these five platforms to have the combination of underwriting processes, risk-adjusted returns, and procedures / performance in handling delinquencies / defaults that best fits our desired investment profile.

Platforms in AlphaFlow Fund 1:
Fund That Flip
LendingHome
Patch of Land
PeerStreet
Sharestates

Market
During the course of investing Fund 1, we experienced a shift in the riskiness of loans. We had the ability to invest Fund 1 much quicker if we simply looked for 10%+ investments with LTVs at 75% or below. However, we chose to forego many of these investment opportunities, as too often we were presented with inexperienced rehabbers (often doing their first project ever) undertaking significant construction plans in competitive markets.
Given the proliferation of platforms in the space, it’s not surprising that better borrowers who last year may have paid 11% or 12% interest for their loans are now paying 8% or 9%. Ultimately, today’s 12% borrower is rarely as creditworthy in our eyes as what we saw only one year ago, so we expect to see a measured increase in defaults across the industry.
Real estate prices are on an upswing, but there are questions as to its sustainability. One way to evaluate this risk is to measure the median home price in the U.S. vs median family income. As the chart below illustrates, we’re currently above the historical average (by ~1.5 standard deviations). Compared to the last bubble, we appear safe. In financial circles this situation is often referred to as an echo bubble. That is, a belief that we’re still in safe territory because of how much worse it was in 2006, and thus believing we’re still far from a bubble, even if we’re actually in a smaller one today.

How Prices Getting Carried Away

That said, interest rates today are significantly lower than during the last bubble (both in the U.S. and worldwide). As such, higher real estate prices still look more attractive than they did in the past. In addition, with interest rates so low around the world, we expect U.S. real estate prices to be supported by foreign capital looking for relatively safe asset-backed investment opportunities. Given all of these factors, we believe we are still 1.5-2.5 years away from the housing market peaking.
Moving forward into AlphaFlow Diversification Fund 2, LP, we plan to invest more capital in lower-rate loans that we are finding to be relatively attractive on a risk-adjusted basis. The supply of these is very strong, and they generally have borrowers with significantly more experience and allow us to invest more in what we find to be attractive geographies.

Portfolio
Our aggregate portfolio in AlphaFlow Fund 1 consists of 77 loans, all of which are secured by first liens.

Maturity Schedule

 

Delinquency Schedule

 

Below is the list of loans contained in AlphaFlow Fund 1.

Fund 1 Portfolio - 1

 

Fund 1 Portfolio - 2


This AlphaFlow Fund 1 Portfolio Fact Sheet and Market Analysis is a summary highlighting key points in the May 2016 AlphaFlow Fund 1 Quarterly Updated letter from AlphaFlow Fund 1, LLC (“Fund 1”) to its investors.
This document does not constitute an offer to sell or the solicitation of an offer to buy any security, product, service or fund. This document is for informational purposes only and is not intended to be, and must not be, taken as the basis for an investment decision. The information contained herein may not be used, reproduced or distributed to others, in whole or in part for any purpose without the prior written consent of AlphaFlow, Inc. (“AlphaFlow”). Neither AlphaFlow nor any of its affiliates is under any obligation to inform you if any of this information becomes inaccurate. No representations is made as to the accuracy and completeness of information obtained from third parties. This document is qualified in its entirety by the Offering Memorandum of AlphaFlow Diversification Fund 2, LLC (“Fund 2”), which should be carefully read prior to any investment in Fund 2, a successor fund to Fund 1.
This document has been prepared for prospective investors who are legally eligible and are suitable to invest in the type of investment described herein. Generally, prospective investors would include investors who are “accredited investors” under the U.S. Securities Act of 1933, as amended (the “Securities Act”) and verified pursuant to rule 506(c) of Regulation D promulgated under the Securities Act. An investment in Fund 2 is suitable only for sophisticated investors and requires the financial ability and willingness to accept the high risks inherent in such an investment. It is the responsibility of any prospective investor to satisfy itself as to full compliance with applicable laws and regulations of any relevant jurisdiction. For a description of certain risk factors associated with an investment in Fund 2, please refer to the “Risk Factors and Conflicts of Interest” section of the Fund 2 Offering Memorandum.
Interests in Fund 2 have not been and will not be registered under the securities laws of any U.S. State or Non-U.S. Jurisdiction, and have not been recommended or approved by any U.S. federal or state or any non-U.S. securities commission or regulatory authority. Furthermore, the foregoing authorities have not passed upon the accuracy or determined the adequacy of the information contained herein.
Past performance is not indicative of future results. Any AlphaFlow Fund 1 investments listed herein are being provided for informational purposes only. Investments in real estate loans may result in the loss of principal. There can be no assurance that Fund 2 will be able to achieve the same portfolio composition and underlying loan terms as Fund 1.
These materials contain projections and other forward-looking statements. Any statements that are not historical facts are forward-looking statements that involve risks and are inherently uncertain. Sentences or phrases that use such words as “believe,” “anticipate,” “plan,” “may,” “hope,” “can,” “will,” “expect,” “should,” “goal,” “objective,” “projected” and similar expressions also identify forward-looking statements, but their absence does not mean that a statement is not forward-looking. Projections and other forward-looking statements, including statements regarding AlphaFlow’s assessment of the market, are by their nature uncertain insofar as actual realized returns or the projected results can change quickly based on, among other things, unexpected market movements, changes in interest rates, legislative or regulatory developments, errors in strategy execution, acts of God and other developments. There can be no assurance that projections and other forward-looking information will not change based on subsequent developments and without further notice, and no assurance can be given as to outcome. You should not place undue reliance on forward-looking statements, including forecasts and projections, and statements regarding the assessment of the market, which speak only as of the date referenced herein.
These materials do not constitute legal, tax, financial or other advice. The legal, tax and other consequences of any proposed transaction may differ for each recipient as a result of, among other things, the particular financial situation of, and the laws and regulations applicable to, each recipient. You should consult your own legal counsel, accountants and other advisors regarding the information contained herein and the transactions described hereby.

AlphaFlow
This piece was originally published by Lend Academy HERE.

Real estate crowdfunding has absolutely exploded since opening up to investors in 2013 (see Part 1 here). I see that growth – 150% per year the last 3 years! – continuing and with that comes amazing innovation and challenging consequences. I wanted to share 5 important things you’ll see come to real estate crowdfunding in the next year:

1. Automated Underwriting

A number of platforms raised enormous rounds of venture capital in 2015. Many of these rounds were much larger than their performance metrics might garner in other industries. Fintech is hot right now though, and P2P/crowdfunding is on fire. However, large rounds come with similarly big expectations. If real estate platforms are to hit hyper growth, as Lending Club did around 2010 and Prosper did soon after Aaron Vermut and Ron Suber took the helm in 2013, you’ll see one big change. Specifically, I think you’ll see many more companies adopt some form of automated underwriting that allows them to evaluate exponentially more applications without growing their headcount proportionally. PeerStreet is a leader here, utilizing sophisticated data analytics that co-founder Brett Crosby honed at Google. To truly demonstrate the “tech” in fintech and not simply build real estate companies with websites, more platforms will move towards automated underwriting.

2. Auto-Invest

While Lending Club and Prosper offer very different products than the real estate platforms, they are nevertheless the world leaders in P2P investing. As such, many of us studied them closely in our earliest days as we looked for the roadmap to success. Most investors on these platforms that I know – at least those not in the P2P industry – choose to use automated loan picking instead of pouring through thousands of loans themselves. As the real estate crowdfunding market has started to pick up and sites have increased volume, many have begun to launch their own versions. Actually executing this in real estate is proving to be much more difficult than many founders expected though. The real estate platforms are working with tiny statistical sample sizes and long feedback loops compared to the massive wave of loans Lending Club can pour through in developing its grading system. Add in a lack of standardized metrics between platforms, and it’s going to be a tremendous challenge. For those who pull it off though, it could produce an inflection point in the ability to quickly fund deals! I’ll think you’ll see many try in the coming year.

3. Defaults

There’s a Pavlovian influence to growing up in a bull market, and many founders haven’t seen the ugliness of a true down cycle. Instead, they’ve been rewarded for taking risks over the last few years and felt most burned by the investments they did NOT make. The result is some platforms underwriting deals at risk levels (i.e. LTV) you’d never see experienced real estate lenders touch. At a certain point, even in a bull market, the law of numbers kicks in and defaults happen even in the best of circumstances. How the industry handles these will be key.

Experienced investors understand that not all deals go well. When deals fall behind or go into default on any of the industry’s major platforms, I tend to get the announcement forwarded to me from a number of our customers. Their reactions are typically tied to one very important item: transparency. Platforms who openly and continually communicate with their investors tend to earn patience. Letting investors know exactly what’s going on, why the situation came to be, and what the platform will do to maximize their recovery can go a long way to building loyalty.

Unfortunately, this hasn’t always been the case, as some platforms – even some of the more popular ones – have seen defaults pile up. Many of these defaults will help to sharpen underwriting in the industry. That said, in a venture-fueled environment where growth may be paramount to performance in the short-run at some platforms, I’m reminded of Upton Sinclair’s quote: “It is difficult to get a man to understand something, when his salary depends upon his not understanding it!”

4. New Distribution Channels

As we discussed in Part 1, there has been a proliferation of real estate crowdfunding platforms, with close to 230 in the world today! I’m hearing about customer acquisition costs at platforms moving north of $5,000. Ridiculous numbers like that simply aren’t sustainable, and so platforms are looking to new distribution channels. With investors so fragmented, it wasn’t difficult to convince a number of top platforms to publish their deals on AlphaFlow, and today we have a healthy waitlist of those looking to connect.

You’re also finding new ways to invest. In November 2015, Fundrise launched a new investment vehicle – dubbed an eREIT – to invest in commercial real estate. Non-accredited investors can also participate, opening up an entirely new market of people who now have access. In February, AlphaFlow launched the industry’s first multi-platform fund, giving investors a way to passively build a portfolio of 75-100 deals with one investment. I think you’ll see a number of additional funds announced in the coming year as platforms work to expand beyond early adopters who were eager to actively invest, and tap into the majority of investors who prefer to participate passively.

5. Mobile Technology

Like everything in technology, you’re seeing real estate crowdfunding going mobile as well. In Q4, Access launched an app that they’re calling “Tinder for Investments.” In 2014, mobile overtook desktop usage. It’s moving slower in real estate crowdfunding though for two primary reasons: (1) the demographics of the investors today are skewed towards those still using desktops over mobile for actually transacting, and (2) given the size of these investments, they’re not often quick decisions made while sitting at a Starbucks or between meetings on your phone. I think mobile will start to make a dent, but it will come more in reporting and monitoring than in actually transacting.

Conclusion

As one of the early founders in the space, I can say that I couldn’t have imagined we’d get where we are as an industry this quickly. I continue to be impressed with the growth, innovation, and most of all, the people in the industry. I think you’ll see some growing pains this year, but real estate crowdfunding is ultimately poised to continue its meteoric rise. I’m excited for the day when we look back and wonder how real estate wasn’t in everyone’s portfolio, when crowdfunding makes it so easy!

AlphaFlow This piece was originally published by Lend Academy HERE. As one of the founders of RealtyShares, I remember the dawn of real estate crowdfunding in 2013. There were only a handful of real platforms and simply getting people to sign up for our websites – never mind actually investing – was an enormous struggle. Oh how things have changed! Launching AlphaFlow last fall gave me the opportunity to step back and start to look at the industry as a whole. From the number of platforms, to the tremendous growth in crossing $2.5 billion of crowdfunded dollars last year, to the world class founders like Jilliene Helman and Brew Johnson leading incredible companies, it’s exhilarating to see real estate crowdfunding begin to truly make an impact! Looking back on the industry, I wanted to share 5 observations from what’s happening in real estate crowdfunding today. 1. Multiple platforms reaching new heights In the industry’s early days, we often needed weeks or months to fund a property. In our first six months at RealtyShares, we barely crossed $500k in total crowdfunded dollars. In the next six weeks, we doubled that and took off with much of the rest of the industry. Today, at least 4 real estate crowdfunding platforms have entered the “Century Club” after having funded more than $100 million: Realty Mogul, Sharestates, Patch of Land, and RealtyShares. A number of other rising stars like PeerStreet have quickly built incredible investor demand and will be there soon. 2. Big Investments As real estate crowdfunding exploded, so did investor interest. Venture capitalists saw what is clearly an enormous market – the annual real estate market is about $500 billion – and poured massive investments into the space. About a year ago, LendingHome closed a $70 million Series C. A few months later, Realty Mogul announced a very impressive $35 million Series B. In early 2016, at a time when every headline seemed to announce the end of venture capital and proclaim that the era of large raises is over, RealtyShares announced a $17 million Series B. Good businesses will always get funded, regardless of the venture environment. Silicon Valley’s top venture firms have made it clear that they’re believers in the promise of real estate crowdfunding. Large rounds come with enormous expectations though. Many skeptics believe the industry is in fact overfunded. I agree with Mark Suster in that overfunding early is dangerous, but it’s ok once product/market fit happens (insider tip: when you see a platform launch all sorts of complicated new products while not really winning with any of them, it’s a good sign that they’re overfunded and don’t have the discipline that comes with a tight budget). Only time will tell how these investments pan out. 3. Proliferation of Platforms A growing industry supported by significant venture capital interest will always attract new startups. While total crowdfunding dollars grew about 6x from 2013 to 2015, the number of platforms grew ~10x during that same 3 year period to over 230 platforms worldwide. In other industries, you might say these new players are all “me-too” copycats. You might even say they’re “fast-followers.” I believe it’s more nuanced here. When you dig into the real estate industry, you realize that the space is inherently fragmented. In mortgages, for example, the top player (Wells Fargo) only has about 12.5% of the market. In fact, the top 10 players only have 40% combined! These new players have one big trait in common though . . . 4. The Emergence of Specialization New platforms aren’t trying to do what we did at RealtyShares, where we offered both debt and equity and a variety of asset classes from our earliest days. Conversely, you’re seeing specialization in new players like Fund That Flip, which has tremendous experience in underwriting single family residential debt. Others like Apple Pie Capital bring expertise for those looking to invest in franchises. Patch of Land has expanded beyond its early short term debt product by expanding to include medium-term products – a thoughtful evolution rather than revolution in its offerings. Real estate crowdfunding may prove to be the exception, but the rest of the real estate industry tells us that you won’t find a winner-take-all anyway BUT that the industry is large enough to support multiple giants. 5. Institutional Capital Like with Lending Club, the early mission of real estate crowdfunding was to give access to a new asset class to the masses. Those managing institutional capital though are paid to find great investment opportunities, and as the industry gained both size and a tremendous track record, hedge funds came calling. In the industry’s early days, you saw a few institutional deals announced but those firms have told me that most of their capital was never actually deployed. That’s not the case today. In February, Sharestates announced a $60 million partnership with an east coast private equity firm. The news came just weeks after Patch of Land signed a $250 million forward flow agreement with a credit fund. Institutional capital has also helped break records, as Realty Mogul executed a $49 million bridge loan with Elite Street Capital in November. Conclusion Real estate crowdfunding has come a long way since a handful of us launched platforms in 2013. Given the size of the industry though, the industry certainly has more opportunity in front of it than behind it. In Part 2 we’ll take a look into what’s next for real estate crowdfunding and what you’ll see in the coming year!

photo-1443827423664-eac70d49dd0dAs the sun rises on 2016, I wanted to share 10 predictions on Real Estate Crowdfunding for this year. Given AlphaFlow’s place in the ecosystem though, I’ll concede that these are not only predictions but also some items we plan to help bring to fruition.

  1. Automated Underwriting: A number of platforms raised enormous rounds of venture capital in 2015. Many of these rounds were much larger than their performance metrics might garner in other industries. Fintech is hot right now though, and P2P/crowdfunding is on fire. Large rounds come with similarly big expectations though. If RE platforms are to hit hyper growth, as Lending Club did around 2010 and Prosper did soon after Aaron Vermut and Ron Suber took the helm in 2013, you’ll see one big change. Specifically, I think you’ll see many more companies adopt some form of automated underwriting that allows them to evaluate exponentially more applications without growing their headcount proportionally. I’ll write more on this soon.
  2. Make Room at the Top: I think at least 2 of the top 6 real estate crowdfunding platforms a year from today will be names unfamiliar to crowdfunding investors today. We’re in partnership discussions with a couple of large firms that I never thought would entertain crowdfunding, and I have to believe there are many more thinking about it.
  3. Consolidation? People often speculate about platforms merging. I’m not sold that we’ll see that yet in 2016. Too many platforms – even those I think are struggling to figure out an identity – have raised too much money to need to consider that path just yet. In 2017 though, Steve McLaughlin and FT Partners may be working their magic for a well-funded platform (see #7).Money-House-see-saw
  4. Do What You Do Best: In the last post, we referenced Ron Suber’s seesaw metaphor for marketplaces, in which platforms shift between having too much capital or too much product to fund. I think we’ll see more platforms focus on sourcing investment opportunities and will work with institutional capital and other firms, like AlphaFlow, to consolidate their investment sources and streamline distribution. I’m talking my own book here, of course, but we launched AlphaFlow because we think it’s the best thing for both platforms and investors in a fragmented P2P world.
  5. Lipstick Will Come Off of a Very Ugly Pig: A lawyer once described the industry nightmare not as a deal going bad, as that’s just part of investing. Rather, she said finding that a deal was backed by “an appraisal that turns out to have been written in crayon” was the doomsday scenario. I think processes at the platforms have improved a lot over the last year, but I think cutting corners on an early deal will come to light in 2016.
  6. Industry Standards: Go to five platforms and you’ll find five different ways of presenting a deal. Five different opinions on what’s important to disclose and what isn’t. Five different ways of reporting after an investment has been made. That’s a huge pain point for investors and is simply unsustainable. From more standardized reporting, which AlphaFlow is providing today, to companies like Accredify providing accreditation for Rule 506(C) offerings, 2016 is the year where the industry moves towards uniform standards. splash pot
  7. Don’t Splash the Pot: Venture capitalists are raising more capital than ever for their funds. That said, there are also a number of strategic investors (a fancy name for the venture arms of corporations) that have lots of cash and a low cost of capital. I’ve been in more than one meeting in which the investor said something to the effect of, “I get that you’re trying to raise [x] dollars. Could we just go take the whole market if we invested 5 times that amount and blow everyone away?” There’s a reason experienced VCs don’t adhere to this tactic, but I think in 2016 you’ll see a strategic investor employee just this type of rationale and over-fund some platform.
  8. Focus on What You Underwrite Best: As we dig through the numbers, it’s interesting to see how some of the biggest platforms have abysmal track records in underwriting certain asset classes and fantastic track records in others. I’m not sure if the platform themselves are even tracking these projected vs actual numbers, but our users have been and they’re noticing. While some platforms will likely continue to offer a variety of asset classes, I think you’ll see them dig deeper into asset classes where they’ve had the most success.
  9. Moving Beyond Adolescence: In our last post, I suggested 2015 might be called the teen years for real estate crowdfunding. 2016 is time to grow up, and that is going to bring a number of new opportunities for investors. Not only in where they invest, but also in how they can invest. From aggregators to investment vehicles, investors will see a new suite of offerings that give them increased transparency and more options. We’ll announce our first step in that direction soon.rsz_bonds
  10. Fixed Income Dominates: I think we’ll see a strong shift to fixed income (debt) offerings over equity deals in 2016. While some platforms are doing a better underwriting job than others (e.g. RealCrowd, led by real estate veteran Adam Hooper), from a 30,000 foot perspective, cash-on-cash returns for equity deals have usually been below what was projected (see #8). Between this and general uncertainty about fixed income in 2016, I think you’ll see a significant growth in first lien real estate debt. Firms like Patch of Land, which focus on this product, may benefit if they can demonstrate specialization as a result of their focus.

If you’ve got thoughts on what’s going to happen in 2016, I’d love to hear them – Ray@alphaflow.com. Happy New Year!

If you enjoyed this post, sharing it on Facebook, LinkedIn or Twitter with the links below is the highest form of flattery. Thank you!

About the author:

Ray Sturm, CEORay Sturm is a leading entrepreneur in financial technology, and is currently the CEO of AlphaFlow. Prior to launching AlphaFlow, he founded RealtyShares, one of the P2P industry’s top platforms for real estate investing. His early career in finance included investment banking at Bear Stearns, restructuring at Lazard Frères and private equity at CCMP Capital.

Ray has a BBA-Finance from the University of Notre Dame and a JD/MBA from the University of Chicago.

photo-1441716844725-09cedc13a4e7  

For the world of real estate crowdfunding, 2013 was perhaps the infancy period. 2014 might be characterized as childhood, with platforms making great progress but still failing to be taken seriously by the “adults.” Looking back on 2015, this year could perhaps be the teen years: fantastic growth and maturation, but also an overabundance of invincibility by both platforms and investors that created some learning opportunities.

The space is absolutely on fire, and that could mean great things for investors in the long run.  As the sun sets on 2015, I wanted to share 10 thoughts on the space:

  1. Huge Funding Numbers: As someone that remembers how hard it was to fund even a $50,000 property in the industry’s early days, I’m so proud and impressed with how many platforms are hitting huge numbers in 2015. To give some perspective, Lending Club funded just over $75 million TOTAL between the start of 2007 and the end of 2009. This year, at least four platforms have already exceeded that number. The ability to fund more capital means better sponsors, who were perhaps hesitant in the past because of uncertainty of closing, are now considering crowdfunding as a strong funding option. That means better deals for investors, and has me excited.
  2. Big Venture Capital Rounds: A number of platforms in the industry executed huge funding rounds for their businesses in 2015, perhaps highlighted by Realty Mogul’s $35 million Series B in July. It’s unclear how much of these rounds are equity vs credit lines the businesses can use to pre-fund deals. In either case, it’s capital that will help the businesses and hopefully lead to better experiences for investors. Given the numerous conversations I’ve had with venture capitalists over the last 3 months, asking for feedback and opinions on specific platforms and founders, I think we’ll see many more of these big rounds in Q1 2016. 
  3. Specialization: A few platforms like RealtyShares and Realty Mogul will still list a large variety of asset classes (e.g. single family home, office, multifamily, retail). More platforms though – particularly new platforms being launched – are narrowing their focus and working to offer their investors specialization. Patch of Land, for example, almost exclusively lists single family residential debt deals. People often debate how this fragmented industry will play out. My opinion is that I don’t see consolidation coming anytime soon (more on this next week), but in the long run I see the industry breaking down by asset class more than geography. I certainly don’t think this is a winner-take-all industry, as real estate is simply too big and crowdfunding is still only a tiny part of the funding ecosystem.
  4. Wait, some deals fail? 2015 brought maturities for a number of deals crowdfunded during the Infancy period, and that meant defaults too. Many investors expressed not only frustration, but absolute outrage when some of their investments failed.  I’ve heard it first-hand, as our users forwarded me emails from various platforms trying their best to apologize. No one wants a deal to go bad, so I empathize with these people, but experienced investors will tell you that it’s part of a normal portfolio. Even Lending Club has about a 5% default rate. To address this, platforms MUST improve their transparency. Secondly, investors are thinking more and more about diversification, which may help take the bite out of defaults (see #8).
  5. Going Offline: Real estate crowdfunding was built on words like “democratization” and “access.” The mission was ostensibly to bring deals previously reserved for institutions to the masses. However, some large platforms are now doing as much as 50% of their deals offline. Great companies like Orchard are helping to connect the ecosystem (Note: We’ve been asked a number of times if we’re competing with Orchard. We’re not, and believe we have a very different vision, and may actually become a customer in the next year). That naturally raises questions of preferences for whomever is funding the offline deals. From a finance standpoint, I understand why they’re seeking larger pools of capital to make their jobs easier. That said, I know venture capitalists are questioning the innovation of this space when so much business is now being done in what’s basically the traditional way (see #2). Much more to come on this in January, but our solution is building a platform that gives you the same power as these hedge funds.
  6. Welcome to the party, Institutions! Many of today’s real estate crowdfunding platforms were launched by great entrepreneurs like Jilliene Hellman and Jason Fritton. Like myself, neither of these two came from an institutional real estate background prior to helping to launch the industry in 2013. This year, with the business model more proven and a strong potential for venture backing, a number of platforms were launched either by institutions themselves or professionals with years or decades of industry experience. I think you’ll see much more of this in 2016.
  7. Investors Flexed Their Muscle: I once heard Ron Suber of Prosper describe marketplaces as seesaws, in which you’re constantly balancing having too much product or too much capital (Note: if you’re not familiar with Ron, google his name and watch some of his keynote speeches. He’s phenomenal.). At RealtyShares, we seemed to hit a critical mass of investors/deals in January 2014. We doubled our previous six months of crowdfunding dollars in the first six weeks of the year. Investors told me they felt like they’d discovered an unknown investment area and began to push to get into deals, and so Ron’s seesaw meant we were scrambling for more product to list. This year, I heard many investors pushing back on platforms and demanding better reporting, clearer and more timely answers to questions, and generally better performance before they’d invest more dollars. The seesaw swung, and the sites responded with lots of “invite a friend and get paid” promotions. (In full transparency, we’d love for you to invite your friends to AlphaFlow too!)
  8. Hints of Diversification: Some platforms are starting to put out more diversified offerings. From Fundrise’s “eREIT” to others offering small pools of properties, platforms are starting to embrace the value of diversification in smoothing out bad deals (see #4). We’re going to do our part to help as well.  Our members have continually asked us to help them easily invest across multiple platforms with one investment. We’ll share details on this after the new year, but we think we’ve put together something incredibly unique and powerful.
  9. Crowdfunding Overseas: Crowdfunding is already making an impact abroad, particularly in Europe, but in 2015 we found new real estate crowdfunding platforms being launched in entirely new markets. For example, PropertyShares was launched in Australia and is scaling much quicker than U.S. platforms did in their Infancy period. U.S. platforms have always talked about tapping international investors, but U.S. investors may soon find great investments around the world.
  10. The Best is Still Ahead: Within the crowdfunding world, we’re all very excited about the progress to date. To outsiders, it often seems like the platforms must be very competitive with one another. The real competition though is lack of awareness that the space exists at all. I spoke to a director of a top platform recently, and he was just back from a real estate conference in which he said he spent 90% of his time explaining what crowdfunding even means in real estate. That’s great news, as it speaks to the immense potential ahead of us.

If you’ve got thoughts on 2015, I’d love to hear them – Ray@alphaflow.com. Next week I’ll share my thoughts on 2016. Happy holidays from all of us at AlphaFlow!

If you enjoyed this post, sharing it on Facebook, LinkedIn or Twitter with the links below is the highest form of flattery. Thank you!

About the author:

Ray Sturm, CEORay Sturm is a leading entrepreneur in financial technology, and is currently the CEO of AlphaFlow. Prior to launching AlphaFlow, he founded RealtyShares, one of the P2P industry’s top platforms for real estate investing. His early career in finance included investment banking at Bear Stearns, restructuring at Lazard Frères and private equity at CCMP Capital.

Ray has a BBA-Finance from the University of Notre Dame and a JD/MBA from the University of Chicago.

11935355_xl

“You only find out who is swimming naked when the tide goes out.”  This classic Warren Buffet quote quickly comes to mind as many investors tout the strong returns they’ve earned by investing in real estate crowdfunding.

Allow me to say from the start that I’m a huge believer in peer-to-peer investing. As a founder of one of the first real estate crowdfunding platforms, I’ve been in the industry a long time.  It’s incredible to look back and remember that in our earliest days we’d need 3-4 week commitments to fund a simple $100,000 single family home loan.  About a year later, our customers funded a $550,000 investment in an astonishing 34 minutes!

While we were proud and excited, it also opened our eyes to the fact that many customers had stopped doing their own diligence and were simply trusting us.  I have finance and investing at my core, so while it was encouraging as a founder, it just didn’t feel right.  Today, this leaves me still excited about P2P investing, but a bit worried that the real estate crowdfunding industry may be focused on growth at the expense of proper controls.

Investors have since taken some lumps, which has brought them to ask advice on how I look at new deals around the industry.  Lets start with what is likely the most straightforward deal: first lien debt on a single family home.  These investments are really disrupting what’s more commonly knows as hard money, which according to LendingHome, represents an opportunity of about $30 billion annually.

For those unfamiliar, allow me to quickly level-set.  Hard money loans, also sometimes called bridge loans, are most often used by those flipping houses.  They usually have terms no longer than 1 year, pay interest only, command 10-15% interest, and have a first lien on the real estate.  A common misconception is that the borrowers always have terrible credit.  In reality, developers are often willing to pay this higher cost because the speed to funding (sometimes days, if they have a pre-existing relationship with the lender) allows them to command discounts from sellers for quick cash.

Underwriting a hard money loan usually comes down to three things:

  1. Property: Many hard money lenders actually focus almost solely on this item, starting with the assumption that the deal will go bad and they’ll foreclose and still be able to recover their capital and interest. This works with more traditional hard money lending, which often limits loans to 60% LTV.  With most crowdfunding sites going to 75-80% LTV, the next two factors still carry significant weight.
  2. Track Record: Perhaps the most obvious way of evaluating whether a borrower can execute on a fix and flip plan is knowing if he has previously completed similar projects successfully.  Simply having done projects before isn’t enough. Look at similar projects: neighborhoods, price range, quality, budget, level of rehab.  These all matter, particularly as LTVs creep up.
  3. Credit Score: While credit scores seem straightforward enough, this is actually a highly debated aspect of lending today. A number of successful real estate developers experienced hardships during the 2008 financial crisis. Do you consider those, or not? That’s up to you. I’d like the sites to lay out their thinking a bit more clearly on this though.

One additional note on the third point above. Many loans have personal guarantees attached to them. Unless the guarantor has an exorbitant net worth, I don’t give much value to these myself. I worry that these can be handed out to everyone and/or applied to multiple investments on the same site (for those lawyers out there, I’m reminded of law school and how these are both unsecured and unperfected).

There are three other details I look for in particular with crowdfunding sites:

  1. Investment Structure: We’ll be digging into this more deeply with our legal team in the coming months, but in short, not all “secured” loans are created equal. I put that word in quotes because, with the entrance of Borrower Dependent Notes into the crowdfunding ecosystem, that word can mean very different things on various platforms.  I won’t name names yet, but it appears I’m not the only one who thinks there are deficiencies out there in how investors are being protected.
  2. Controls: Real estate projects are susceptible to many risks, including costs that exceed projections, a drop in local comps, and even national economic risks like unemployment and interest rate fluctuations.  A similar loan made from Wells Fargo likely includes myriad controls, like periodic reporting and loan covenants.  These often function as the canary in the coal mine, alerting the platforms (and investors) if something is wrong before things get too out of hand.  Good platforms are working on integrating these into their processes.
  3. Liquidation Plan (if any): As Warren Buffet’s quote suggests, with this rising market it’s been tough to see who has a good plan for when things go wrong.  I think we’ll learn more about this soon, but some sites have been proactive in putting together workout groups / plans.

Ultimately, these loans will always be risky, which is why you’ll earn double digit interest rates when they go well.  I still strongly believe that crowdfunding will play a large role in the future of real estate investing, and I believe we’ll need great controls and transparency in order to make that happen successfully.  Have any thoughts or questions about how you evaluate these deals? Please reach out at Ray@alphaflow.com!

If you enjoyed this post, please share it on Facebook, LinkedIn or Twitter with the links below. Thank you!

About the author:

Ray Sturm, CEORay Sturm is a leading entrepreneur in financial technology, and is currently the CEO of AlphaFlow. Prior to launching AlphaFlow, he founded RealtyShares, one of the P2P industry’s top platforms for real estate investing. His early career in finance included investment banking at Bear Stearns, restructuring at Lazard Frères and private equity at CCMP Capital.

Ray has a BBA-Finance from the University of Notre Dame and a JD/MBA from the University of Chicago.

back to top