Understanding How Real Estate Investments Can Be A Great Hedge Against Inflation
Real estate investors are experiencing inflationary times as well as everyone else around the world. These market conditions of higher inflation rates are pushing investors to seek more opportunities that provide an inflation hedge and lower their inflation risk with their investments.
During periods of inflation, everyone experiences an increase in the price of goods and services. Purchasing power for these goods and services is declining whether it’s the cost of agricultural products or construction costs, energy costs, or clothing. The effects of inflation cause a painful increase in the purchase price of nearly everything.
So, what should you do? Well, the best inflation hedge can be investing in real estate. Real estate can often keep up with the rate of inflation by allowing you to raise rents. Also, remember real estate (real assets) has intrinsic value so the value can never drop to zero, unlike stocks can.
In various areas across the country, the residential single-family housing market is seeing declines in values, however, with the multifamily real estate market – not so much. Why is that? Because the valuation of commercial properties such as multifamily apartment communities is based on income, not the neighborhood sold comparables (“comps”), which is how the valuations for single-family homes are determined.
Commercial property owners can often raise rents during inflationary periods. The rent increases can help commercial property owners to keep pace with (or even outpace) inflation. As rents increase, net operating income tends to increase which directly improves the valuation of commercial properties.
Let’s take a quick look at how assets like real estate can create a great inflation hedge for your portfolio.
Rising Consumer Price Index and Interest Rates
With the events that are taking place around the globe right now, the entire world is feeling the pressure of high inflation rates. The Federal Reserve has responded to rising inflation by periodically increasing interest rates. The objective of these higher interest rates is to reign in rising inflation while attempting to maintain solid economic growth.
As a result, investors are searching for investment opportunities that will create an inflation hedge, and that will provide cash flow long-term especially as the annual inflation rate continues to be so uncertain.
This is where real estate assets can help investors create a hedge against inflation. Not all real estate assets can provide the same level of security, however. That’s why it’s so important to know which real assets may provide you with the best investment approach and why.
Many investors have decided to invest in real estate because they wanted to avoid the gyrations and shocks in the stock market and they also wanted to receive as much protection as possible from inflation, right? So, let’s discuss why this is an opportune time to invest in real estate as a hedge against inflation.
Finding Security in Real Estate Assets
Real estate as an investment has always been a key component in building wealth. But owning commercial real estate has been able to fast-track wealth for so many, and here’s why: because the income generated from the property can be relatively consistent over the longer term.
Commercial real estate is valued by the consistent net income that it produces, unlike residential real estate, single-family homes, for example, which derive their valuation from comps of like/kind properties sold in proximity to the subject property, as was mentioned earlier.
The other factor that makes certain commercial properties a good investment is how desirable the property is to tenants and occupants. For example, an office building may have a 95% occupancy rate, but a low vacancy rate of 5% doesn’t necessarily mean that it is a good investment long term because you always have to be aware of the short-term and long-term demand for that asset.
How Trends Can Change Demand
As we have seen through the era of a worldwide pandemic, office buildings may not always be considered a solid real estate investment because of such factors as the new normal of remote office workers. Office space may not be the best investment because the sector simply cannot maintain a strong demand over a long period of time.
But not all office space is the same, for example, medical office space is a great investment because of the high demand that baby boomers are placing on medical care in general. Additionally, these buildings are often built out by the tenants with state-of-the-art technology that will likely retain the tenant for a very long time. This can be an ideal investment for property owners and investors for these reasons.
An investment strategy that focuses on these types of real estate investments that are more secure helps you as the investor remain strong during uncertain economic conditions even with high-interest rates, staggering inflation rates, and an unpredictable stock market.
So how does a real estate investment hedge against inflation?
Multifamily apartment investments have remained in high demand during both high inflationary times and during times of high-interest rates. The reason being is that if renters have to downsize and tighten their belts, they will often relocate into an apartment community. This property sector usually experiences consistent, strong revenue generation even during economic downturns.
Another strong investment sector is storage units. Investing in storage units can be an excellent hedge against inflation. Historically, in good times and in bad times, storage units perform consistently well.
During good economic conditions, individuals feel like they can afford the additional cost of a storage unit and, on the other hand, during bad economic conditions, people will often downsize and will find the need for a storage unit as a result.
Storage unit facilities are fairly sustainable for these reasons and can provide investors with great passive income opportunities.
So, as you can see not all commercial real estate investments are good investments. Commercial real estate has many different sectors and different demand levels that investors need to be aware of before they jump in, but the right commercial real estate investment can really offset the damage that inflation can cause to your net worth.
Real Estate Investment Trusts or Real Estate Syndications?
Real estate investment trusts (REITs) are similar to stocks. You are more likely to see fluctuations in valuations with a REIT than you would with a real asset such as an apartment community. Real estate syndications, however, require a larger investment – usually a minimum of $50,000, but many real estate syndications can provide a more stable source of cash flow and much better tax benefits.
Alternative investments like real estate syndications can offer you access to very solid assets that can be an excellent hedge against inflation and the good news is that you don’t need to be really wealthy to own a portion of an apartment community.
Face the Future with Confidence through Strong Investments
You can’t control the Federal Reserve or economic conditions, but what you can do is educate yourself as much as possible about the best investments that are aligned with your financial goals. What that should entail is an investment portfolio that holds high-demand commercial properties that can provide you with strong cash flow.
So, isn’t it good to know that even in uncertain economic times, there are investments that can help you get through the hurdles of high inflation, ever-increasing interest rates, and even economic downturns like recessions?
With the right asset type in the right market and with the right general partnership team, you can have the confidence that your investments will help you sail through virtually any economic changes.
Note: Because we are not financial advisors and this is not investment advice. Please seek financial advice and/or tax advice from your investment professionals before making any financial decisions.
Until next time, Earn Passively & Live Abundantly!
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