Quick guide to understand and select the best investment opportunity
It's not unusual for investors to ask us which investment should they choose. But, since we're not allowed to give advice, it's a very difficult question to answer because everybody's personal situation; including the reason they are investing and their attitude to risk; is different.
So we thought it would be useful to highlight the factors to consider when choosing from a range of possible Equity Investments.
Factors you should take into account to select the right investment
As with most property investments, investments via CrowdLords should be considered as illiquid, which essentially means that you should only invest if you are certain that you will not need the funds before the end of the term. As such, the projected term is perhaps the first place to start.
We know from experience that new investors tend to choose the shortest term possible so that they don't have to wait too long before they get their money back.
Whilst we understand this, it's worth pointing out that a three year investment paying 10% p.a. will usually result in better annualised returns than three consecutive investments of 12 months each also paying 10% p.a.. This is because of the "dead" period between investments when you are waiting for the investment to achieve target and to be processed, as the investment starts, combined with the time it can take to exit. This negative effect on the returns is usually greater than the positive effect of compounding that comes with the consecutive investments. So shorter is not necessarily better.
Ultimately, investment can be seen as being all about balancing the likely risks with the potential returns. Many investors have an idea of the level of return they would be happy with whilst others prefer to diversify their investments across a range of potential returns to create a balanced portfolio.
We highlight projected annualised returns to make comparisons between investments easier, but it can beneficial to compare projected total returns for the reasons indicated above.
Some Investors use the "Projected Annualised Returns" as a qualifying criteria – i.e. “I will only look closer at investments that have an annualised return of X% or more”. Whilst we know of others who dismiss investments with projected returns greater than a certain level, simply because they believe the risk must be too high if they justify such high returns.
These are very personal judgements and all I would say is that the projected returns available from property investments are not solely linked to the risks - the market is too immature for that. Supply and demand is also a big factor.
One of the reasons that equity investments can command often significantly higher returns than debt investments, certainly greater than the higher risks would justify, is that developers need the equity in order to secure the debt which enables the project to happen - and equity can be very hard to come by.
Income or capital gains
Before moving on to the risk related factors, a small word about tax. Some investments will pay returns as dividends (i.e. income) and others as a capital gain and as you will be aware these are treated differently for tax purposes which in turn has an impact on your net returns.
All of our equity investments have a minimum investment of at least £1,000 with the larger raises offering higher returns to people able to invest more. It may well be that the minimum investment rules out some of the options available and please bear in mind that we strongly recommend you spread your investments across multiple projects to diversify your risks.
Investment Type / Status
Moving onto risks. There are what we refer to as "internal risks" related to the execution of the project itself and "external risks" relating to things like the economy; the property market in general; legislation; etc.
We would suggest that we need to be aware of the external risks when deciding whether or not to invest in property and focus on the internal risks when deciding which investments to choose.
The level of internal risks will be linked to the type of investment being considered. A new build development will typically be more risky than a permitted development conversion of an office block into flats, for example - simply because there are more things to go wrong.
Similarly, investing in a project that does not yet have full planning permission would be riskier than an identical project where full planning exists and the acquisition has already been completed. So understanding the scope and status of the project is important.
We use the sensitivity analysis to quantify what effect a fall in the sales price or an over spend on the project would have on the actual returns as these are often linked to the net profit generated at the end of the project.
This is not a factor with our interim equity investments where the returns are preferred, meaning they get paid before the developer takes any profit, and fixed as long as the profit generated is sufficient to pay the returns.
When comparing two full equity investments though, the sensitivity analysis can be very enlightening.
You should also compare what proportion of the projected returns are "preferred". Where possible we look to agree a preferred return that would be at a similar rate to mezzanine debt for a given project. As with interim equity investments, preferred returns on full equity investments are paid before the developer takes any profit. We usually look for 4 to 5 times cover of the preferred returns within the net profit projections, so that, in the vast majority of cases, we can be confident that the preferred returns will be achieved.
Developers' Track Record
Ultimately, whether or not the internal risks will be an issue, will be down to the developers' experience and expertise. Recognising that past performance is no indication of future performance, it seems reasonable that a developer that has completed 5 projects with us might be seen as a lower risk than a developer bringing their first project to the platform – all else being equal.
We include a simple A to E risk rating for development projects to facilitate quick comparisons. They reflect our assessment of the factors and help us to guide developers on the level of projected returns they need to offer.
They are not designed to be accurate or quantitative and no matter what rating we give, we strongly recommend that you always do your own due diligence and that you seek the advice of an Independent financial advisor if you are unsure.
How do you decide what is right investment for you?
Recognising that making investment decisions is a personal thing, we'd very much like to enable our investors to share their own tips and techniques with each other. So, if you think your approach is interesting, or you'd just like to help others who are new to property crowdfunding, then contact us at firstname.lastname@example.org
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