Lecture One: Real Estate Investment Decisions (MS PowerPoint)
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Lecture One: Real Estate Investment Decisions (MS PowerPoint)

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  • 1. Real Estate Finance and Investments: Lecture 1 Real Estate Investment Decisions
  • 2. Investment Analysis
    • Immediate sacrifice; possibility of future awards
    • More opportunities than resources
    • Incomplete information
    • Rank in terms of least expected risks
    • Real estate earns presence in financial investing world in 1950’s and 1960’s
    • Currently, computerized modeling helps make more informed and risk-hedging decisions in real estate investing
  • 3. Others Who Invest in Real Estate
    • Institutional Investors
      • Pension Funds
      • Real Estate Investment Trusts (REIT’s)
    • Foreign Participation
      • Exchange Rates
      • Relative Interest Rates
  • 4. Why Invest in Real Estate?
    • TWO FORMS OF VALUE AND RETURN TO INVESTING IN REAL ESTATE:
    • Periodic Cash Flow
    • Market Appreciation / Equity Build
  • 5. Why Invest in Real Estate?
    • Price Determined By:
    • Amount and timing of anticipated cash flows
    • How much will be received, and when
    • Degree of confidence with which expectations are held
    • Investors’ tolerance for bearing risk
    • Attractiveness of alternative investment opportunities
  • 6. Basic Types of Real Estate
    • Residential
      • Multi-Family, Single-Family
    • Commercial
      • Land (All Types)
      • Retail
      • Agricultural / Industrial
      • Office
      • Special Purpose
  • 7. Types of Investors
      • Passive
        • Can make NO operating decisions
      • Active
        • Make operating decisions of the underlying assets
      • Equity
        • Purchasing asset for expected cash flows and market appreciation
      • Debt
        • Purchasing debt for expected streams of income (interest from debt service)
  • 8. Types of Investors (examples) Debt (streams of interest) Equity (cash flow & apprec.) Active (makes operating decisions) Passive (makes no operating decisions) Shares in real estate corporation Limited partnership shares Equity REIT Pass-through certificates Mortgage REIT’s MBS’s – Residential and/or Commercial Direct ownership of rental property; purchase or development Loan Origination; Construction Lending Permanent loans Loan purchases on secondary mortgage market
  • 9. Performance of Real Estate Investments
    • Data sparse and contradictory
      • Yield indices computed quarterly by appraisal estimates
      • Indicators smoothed; eliminates true measure of volatility
  • 10. CREF’s and REIT’s
    • Commingled Real Estate Fund (CREF) – “Real Estate Pension Fund of the 1970’s”
      • CREF acquires real estate and monitors its operation on behalf of institutional investors
      • Brueggeman, Chen, Tibodeau: Real estate outperformed S&P 500 and Ibbotson Assoc between 1972 – 1983. After adjusting for risk, real estate found to be better on yields.
      • Gilberto compared 1,200 large REIT’s w/ S&P’s 500 for 1978-1989; found advantage shifted to common stocks
  • 11. Real Estate Finance and Investments: Lecture 1 Key Definitions and Concepts
  • 12. Market Value
    • Most probable price at which a property would sell for in a competitive market as of a specific date , had it been exposed to the market for a reasonable time prior to that date.
    • --The Appraisal Institute
    • --Informed Buyers/Sellers
    • --No Duress Situation
  • 13. Most Probable Selling Price
    • Most likely price at which a property will sell, given the market conditions then prevailing and the financing arrangements available
    • --Used in determining Transaction Range
  • 14. Transaction Range
    • Price range within which a transaction can occur and leave both the buyer and the seller better off than before (win-win situation)
    • Lower End: Present owner’s investment value
    • Higher End: Prospective Buyer
  • 15. SELLER Perspective V p V s $490,000 $475,000 Most Probable Selling Price > Minimal acceptable price to Seller Most Probable Selling Price (market set) Minimum Acceptable Price to Seller
  • 16. BUYER Perspective V b V p $510,000 $490,000 Maximum acceptable price to Buyer > Most Probable Selling Price Maximum Buyer will Pay Most Probable Selling Price (market set)
  • 17. Transaction Range V b V s $510,000 $475,000 Maximum Buyer will Pay Minimum Acceptable Price to Seller
  • 18. Investment Value
    • Worth to a present or specific prospective owner; unique to the individual and need not be closely related to most probable selling price
    • Reflects an investor’s assumptions about the asset’s future ability to produce revenue, about the likely holding period, selling price, tax consequences, available financing, etc.
  • 19. Real Estate Finance and Investments: Lecture 1 Investment Decision Process
  • 20.
    • EQUITY INVESTOR
    • DEBT INVESTOR
  • 21. Steps in Investment Decision Process
    • Estimate the stream of expected benefits
    • Adjust for timing differences among expected streams of benefits flowing from investment alternatives
    • Adjust for differences in perceived risk associated with the alternatives
    • Rank alternatives to the relative desirability of perceived risk-return combinations they embody
  • 22. Value of Expected Benefits Stream
    • Benefits expected to be received in the far distant future add less to a property’s investment value than do those whose anticipated receipt is more imminent.
      • Time Value of Money
      • Expected benefits: Periodic Cash Flow, Future Sale (market appreciation recognized)
    • Investment Value = Present Value of Equity Position PLUS Present Value of the Debt Position
  • 23. Investment Decisions
    • Purchaser’s investment value > acquisition cost = Increase in Purchaser’s net worth
    • Market Value > Seller’s investment value = Increase in Seller’s wealth position
  • 24. Real Estate Finance and Investments: Lecture 1 Investor Objectives and Risk
  • 25. Investor Objectives and Risk
    • Minimize Risk and Maximize Return Potential
    • Investors seek financial return as a reward for committing resources and as compensation for risk
    • Emotion: Risk takers vs. Risk avoiders
  • 26. Attitudes Towards Risk Risk Return Risk Neutral Risk Averting Risk Seeking