What Investment Bankers Should Know about Real Estate - dummies

What Investment Bankers Should Know about Real Estate

By Matt Krantz, Robert R. Johnson

It’s ironic that real estate is referred to as an alternative asset in the investment banking world, given that home equity is often the single largest investment position that many investors in the United States hold. Generally, though, when investors refer to investing in real estate, they’re considering any holdings beyond their personal residence.

Real estate has traditionally been difficult to invest in for several reasons, chief among them illiquidity, large minimum investment, the unique nature of properties, and monitoring and upkeep required. Investment bankers are a creative lot, and over the years, they’ve developed methods for investors to more easily access the real estate markets. The two major methods are through real estate mortgage investment conduits (REMICs) and real estate investment trusts (REITs).

REMICs purchase mortgages on both commercial and residential properties, place them in trust, and then issue interests in these mortgages to investors. Essentially, they allow investors to invest in a diversified portfolio of real estate mortgages.

The securities issued by the REMIC are called mortgage-backed securities because the collateral or backing of the securities is the real estate that the mortgages were issued on. REMICs can be designed in many different ways, and some mortgage-backed securities are much riskier than others as investors found in the recent financial crisis.

REITs are publicly traded closed-end investment funds that invest in real estate directly or through mortgages on real estate. REITs trade just like shares of stock on major stock exchanges. Investment bankers have created three types of REITS:

  • Equity REITs: Equity REITs purchase commercial, industrial, or residential real estate properties. Income is derived primarily from the rental on the properties, as well as from the sale of properties that have increased in value. Many equity REITs specialize in a particular market segment; some specialize in a particular geographic area.

  • Mortgage REITs: Mortgage REITs invest in property mortgages. They may make original mortgage loans or purchase existing loans or mortgage-backed securities. The income is primarily from the interestthat they earn on the mortgage loans.

  • Hybrid REITs: Hybrid REITs invest both directly in property and in mortgages on properties.