Want to find alternative investments that will favor you in these current market conditions? You’ve come to the right place! In this episode, Jack Krupey guides you with tips on how to identify and evaluate deals in the real estate syndication space. Get ready to take notes as he shares practical advice on where you should be investing your hard-earned money.
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How to Find & Evaluate Alternative Investments
In this episode, we’re going to talk about how we find and evaluate alternative investment opportunities. I’m going to focus more heavily on the real estate syndication space because that’s the highest volume, but I will give a few examples of some other asset classes, how we came across them, and how we made some decisions to make some investment allocations.
The first way that we’ve identified deals is through existing relationships. Having been in real estate for many years, I have developed a pretty significant Rolodex and done business across single-family, multifamily, and nonperforming mortgages, and built up quite a database of contacts. There’s no substitute for time and long-term establishment of testing and embedding our relationships.
For example, four of the projects that the JKAM fund is involved with are with a group that I’ve known for close to fifteen years. I also did business with him in the mortgage business. He had been a real estate developer and operator of multifamily prior, and moved into the nonperforming mortgage business. We did some business there. As the business has adopted, we went back and now are following his lead in these multifamily projects. That’s a great example.
Several examples are people or close business partners or colleagues that I’ve known for a long period of time. The second way is through mastermind groups. These are groups of like-minded professionals that often have significant membership fees. That leads to a pretty exclusive group of investors that can afford to be a part of these groups. They are taking the business seriously, and are successful investors.
It’s a different level than going to an airport seminar or a weekly or a monthly meeting group that has a lot more newbies coming in, and certainly some experienced people, but just the cost. Often, these are destination events. The travel is limited to more sophisticated and serious full-time investors. In those groups, many of the groups we would invest with also had other investors in the group to invest with. We’ve got immediate vetting through current investors who’ve already had success working with these operating partners.
Mastermind groups are great. Industry conferences are great as well. There are a number of conferences we attend every year. Often, there are 500 or 1,000 attendees. It’s a combination of expert speakers and sponsors, both deal sponsors that walk around the venue, and those that are getting booths to have a direct place to advertise their track record and services, as well as a lot of limited partners. Passive investors go to these conferences as well to look for opportunities and meet with many of the sponsors they already invest with.
Those are three ways that we generally came across our partners and the majority of the deal flow we’ve invested with on the real estate side. Some other alternatives to being here in Puerto Rico, it’s a mastermind of its own to some extent. There are thousands of us who have moved in the last few years. Many of us have interesting and niched business opportunities. The area that is likely to do a separate standalone show in the future is syndicating convertible loans to public companies or companies that are pre-IPO going public. This is generally done through a convertible note. We convert our investment at a discount to the IPO price. We’re out at the IPO regardless of what the price is. Generally, it’s a 30%-plus discount on the IPO price.
On top of that, we get warrants. For the next few years, we have the ability to exercise the warrant for additional profits on these deals. The overall returns have been tremendous. It’s an interesting small niche that I’ve only found because of being in a community of interesting and successful investors. I want to talk a bit about vetting. In vetting multifamily deals, there’s a lot that goes into it. It can get super complicated, but there are a few key components that we tend to do on any individual multifamily deal.
I’m going to look at what the cash-on-cash return is, the loan-to-value, the going-in cap rate or the entry cap rate, and the value-add strategy. Here’s the key component, especially in the area where cap rates are historically low like sub 5% in many cases. In some cases, even sub 4% in very hot markets. The key to the overall strategy is can you increase rents? Can you renovate apartments and reset rents to a $400 to $500 or higher amount? Are the current rents truly below market, where on renewal, you’ll be able to increase rents without renovation? What is that number?
If those numbers are right, that is probably the most important part of the deal because those are the numbers that you can control. If you get those numbers right, you’re part of the way there. Other things we take into consideration are, what are the current interest rates? What are the interest rates likely to be in a few years? We never know that, but there’s an ability to build in sensitivity analysis and look at what the deal looks like in three years out of 4%, 4.5%, 5% or 6% rate, what that doe to the cashflow, and what that does to the ultimate value of the building.
We do the same thing on the cap rate on a sale. Where you set that number affects what appreciation in the value of the building will be along with it, what value you raise the rents to, and how much you increase the net operating income. Those are key components. Given some of the market conditions, we’ve been looking at deals that have slightly lower leverage. Because of the lower leverage, in some cases, there’s a slightly higher initial cash-on-cash return, which we like.
However, the overall IRR on a percentage basis may be slightly lower because we’re using less leverage. We’re being more conservative with our numbers so we have to put more equity into the deal. There’s potentially a slightly lower IRR, which loosely is an average annual return. The IRR is much more detailed and you would have to run it in Excel versus looking at a cash-on-cash or your total dollars, and dividing it by the number of years.
Where we are in the market now, who knows where things go long-term? I don’t foresee a 1980-style interest rate rise over into the double digits. For the next year, we may see continued rising rates. We’re coming into an election cycle as well, so who knows what happens overall? I think rates will be higher than they were over the last years too. My gut is they’ll stabilize around where they are now. If there is a hiccup or another economic type issue, the Fed would likely lower the rates again the next time there’s a real emergency or catastrophe.
The moment there are real issues, there will probably be another stimulus, another lowering of rates, or the Fed buying bonds again. The government has proven over and over again that they will step in and pump money into the system if and when they need it. We’re cautiously optimistic about the economy. I’ve said this a number of times, but we agree with the dollar cost averaging principle. Part of my overall investment philosophy is to be diversified across multiple assets in multiple markets with multiple sponsors.
If rates continue to go up and/or values, even in some cases, could pull back a little bit, we’re going to be continuing to invest in deals. We’ll invest on down as we invested on the way up. Over the course of 3 to 5 to 10 years, as long as each individual buy we make is well thought out with a strong value-add plan, we’re going to do fine. Any investor who follows that path will do just fine. As far as asset classes, multifamily is still solid to me. The best, if not one of the best asset classes, is self-storage. There is still tons of opportunity there. Self-storage and mobile home parks have had pretty significant price increases over the last few years, but probably not as aggressively as multifamily.
Some of that has to do with the financing with Fannie Mae, Freddie Mac, and a number of the non-bank lenders like Arbor and Ready Cap. The financing for multifamily was extremely aggressive, probably the most aggressive. Mobile homes and storage still had more traditional financing, slightly lower than the values. We hadn’t seen the same level of the run-up in prices on those asset classes in general. There’s still a substantial housing shortage as far as focusing on new construction, whether it’s ground-up multifamily, ground-up build-to-rent, or ground-up industrial. I’m personally involved in a ground-up industrial deal, and the JKAM fund is involved.
We’ve made an allocation to a light industrial newer construction building in Lakeland, Florida. It was a really interesting value-add situation. It was new construction. The builder sold it with only one tenant in place that has about 60% of the square footage. They still lived at a pretty reasonable discount because we need to wait probably three months to a year to lease up the other part of the space. At that point, the building would cashflow extremely well. We’ll capture the discount that we received on the acquisition.
Since the lease has stabilized, it will be great cash. We were pretty well compensated for probably taking six months of risk on leasing out the property. Our first fund is in a ground-up senior living community in Iowa that we liked a lot. The returns are expected to be close to 30% IRR in that deal. As with construction, you’re trading off no current cashflow for a pretty large upside on the backend. Risk-wise, although there’s no cashflow, if you’re confident that there’s a reputable builder and the sponsors are working, have all the funding in place, which is typically required.
If there’s a bank with a construction loan in place, all the equity for whatever the 20% or 30% of equity for the construction is typically upfront whether the land was already purchased cash and is contributed. All of the rest of the money needed for the equity portion of capital has to be raised in the bank so that the bankroll is funding the entire construction loan process. I feel pretty good about those deals. As long as the prices of materials pencil out and the project can be built for a price that’s still a discount on the final market value, new construction will continue to be a strong asset class.
That’s it for this episode. I encourage you all to subscribe and leave a review. Please also check out our YouTube channel for those who like to watch the video. Those who want to follow along with what our fund is doing, subscribe at JKAMInvestments.com. We have a mailing list for newcomers. We also put out our active opportunities to invest alongside us in deals for those that are interested in stuff. Thanks again. I look forward to having you on the next episode. Thanks, everyone.