Incorporating CRE Into Your Broader Investment Portfolio: Insights from Tad Fallows
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At the 2024 Best Ever Conference, the premier commercial real estate event for passive and active investors, Tad Fallows, co-founder of Long Angle, delivered a comprehensive presentation on integrating commercial real estate (CRE) with other alternative assets.
His insights offered valuable strategies for high-net-worth investors looking to broaden their portfolios, achieve greater diversification, and potentially enhance risk-adjusted returns.
As the investment landscape continues to evolve, understanding the role of alternative assets alongside traditional CRE investments becomes increasingly important.
The Rise of Alternative Assets
Tad began by addressing the growing appeal of alternative assets among high-net-worth investors, pointing to two key factors:
Diversification
Alternative assets often have a low correlation with traditional investments like stocks and bonds. Tad cited examples such as arbitrage strategies, energy trading, and catastrophe risk, which are less affected by overall economic conditions.
Potential for Higher Returns
Tad noted that while public markets quickly arbitrage away alpha, private markets can sustain outperformance. While public markets average about 10% returns annually, private markets have historically pushed closer to 20% a year.
Types of Alternative Assets
Tad outlined three main categories of alternative assets:
Private Equity
Approximately 50% of Long Angle's syndicated deals fall into this category, which includes venture capital, search funds, and mid-cap buyouts. Tad highlighted search funds as a particularly interesting area, noting that these micro-cap strategies have yielded 30-35% annual returns since the 1980s.
He also pointed out that private companies often trade at lower multiples, with an average Enterprise Value of about 10 times earnings, compared to more than 20 times in public markets.
Private Credit
Tad discussed the growing appeal of private credit in the current economic climate. He noted that current market conditions allow for 10-12% returns on lower-risk deals, with the potential for 15% or higher in niche markets.
Other Alternatives
Tad touched on more esoteric options such as commodities, litigation finance, and revenue shares from professional athletes. He used whiskey aging as an example, explaining how a barrel of newly distilled whiskey bought for $1,000 could sell for $3,000 five years later.
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The Importance of Sponsor Selection
Tad emphasized the critical role of choosing the right investment sponsors. He noted that in private markets, top quartile funds can return 25% annually, while bottom quartile funds may destroy value. He stressed the importance of due diligence and accessing top-tier sponsors.
Regulatory Considerations and Investor Qualifications
Tad outlined the three main investor categories and their implications:
Accredited Investors: Net worth over $1 million or high income
Qualified Clients: Over $2.2 million in investable assets
Qualified Purchasers: Over $5 million in investable assets
He explained that these categories determine access to certain types of investments and fee structures. Tad also noted that the $5 million threshold for qualified purchasers is based on gross investable assets, not net.
Current Market Opportunities
Tad highlighted several areas he finds particularly attractive in the current market:
Private Credit: Safe returns of around 15% are achievable, with some publicly traded private credit funds yielding about 12%.
Secondary Shares: These often trade at significant discounts, up to 50% of underlying asset value. Tad noted that secondaries become particularly attractive when IPO markets are slow.
Small-Cap Private Equity: Tad discussed the potential of search funds and small-cap roll-ups, which benefit from multiple arbitrage.
He also mentioned energy investments, noting that many operators have posted 40-50% IRRs over the past five years, partly due to institutional capital leaving the market due to ESG concerns.
As Tad concluded his presentation, the potential of alternative assets in a diversified portfolio became clear. These investments offer attractive returns and diversification benefits, but they are not without challenges. "Success in these markets depends on accessing top-tier sponsors and truly understanding each asset class," Tad emphasized.
For investors willing to venture beyond traditional CRE, alternative assets present opportunities to enhance returns and manage risk. However, as Tad's insights revealed, it's a landscape that rewards careful consideration, thorough due diligence, and a willingness to explore new investment strategies.
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