Commercial and Investment Properties: Analysis

Characteristics of Real Estate Investments

Real estate investments are judged on return, risk, liquidity and leverage. Risk is the chance that actual returns will differ from expected returns, from vacancies, market changes, interest rates, legislation or physical problems; the higher the risk, the higher the return an investor demands. Liquidity is how quickly an asset can be converted to cash without losing value; real estate is relatively illiquid compared with stocks or bonds. Leverage is the use of borrowed money to buy property. Positive leverage occurs when the property's return (cap rate) exceeds the cost of borrowing, increasing the return on the investor's equity; negative leverage occurs when the cost of debt exceeds the property's return, reducing the equity return. Leverage magnifies both gains and losses. Real estate can also provide tax shelter through depreciation and interest deductions, and appreciation over time.