Whether you’ve been investing in real estate for years or you’re just getting started, you’ve probably heard about the importance of portfolio diversification. A diversified portfolio can benefit you as an investor in a number of significant ways, but you might not know exactly how to put the principle of diversification into practice.
Thankfully, there are some simple tips and methods that you can use to diversify your portfolio and improve the profitability of your real estate investments.
Diversification is a method used by investors to distribute capital across various different types of investments. In the case of a traditional investment portfolio, an investor who wants to diversify might distribute their capital between various stocks, bonds and mutual funds, rather than putting all of their money into a single investment option. This enables the investor to hedge against potential losses in the event that one of their investments lose value.
Investors who want to diversify their real estate portfolio can do so by investing in various different types of properties in different markets. Instead of investing in several single-family residential homes in the same neighborhood, an investor who wants to diversify might invest in single-family residential, multi-family rental properties and commercial properties in different areas, to minimize risk and maximize the potential for profitability.
Benefits of diversification
There are several reasons why you should diversify your real estate portfolio. For one thing, diversifying is an effective way to minimize your risk as an investor. If all of your properties are clustered in the same market, any change in the local economy, demand for real estate or other factors can take a toll on the entirety of your portfolio. When you have your capital divided between various different types of properties in different areas, you won’t be as affected by market fluctuations or changes in demand in a single market.
Another important benefit of diversifying is that it enables you to develop your experience as an investor. When you purchase and manage various different properties, you cultivate new skills and experiences that make you a better investor. Exposing yourself to various types of real estate investing can broaden your horizons and increase your capacity to profit.
How to diversify your portfolio
In theory, diversification is a no-brainer and common sense. Putting it into practice is another story! Many times, it means exploring new investments you’re not familiar with or putting yourself out there on a deal you may not be as comfortable with. For example, if you’re a expert in single-family rentals, buying a multi-tenant commercial property will be daunting.
As with any investment, do your research and make smart decisions while protecting yourself and your investments. And, be sure to explore various types of properties in various different markets.
Investing in commercial properties is a great option if you feel like you have been stuck in a residential property rut. While it can be intimidating to invest in a commercial property if you’ve never done so before, many investors find the risk to be well-worth the reward.
Commercial properties are typically more profitable than residential properties, with higher rental rates. In addition, commercial tenants usually pay for property taxes, property insurance and maintenance costs on top of monthly rent, so you can keep your costs low and maximize your profit. There’s also less competition for investors who want to make the move from residential to commercial property investments.
As you grow your investment portfolio, it’s a good idea to invest in multi-family residential properties. Single-family residential properties can bring in a consistent income, but you risk major losses if your property becomes vacant and it takes you longer than a few weeks to find a replacement tenant. Multi-family residential properties can help you maintain consistent profitability even during months when you have vacancies.
Multi-family residential properties appeal to a wide variety of prospective tenants and you can generate continuous demand for your property to accommodate for vacancies and evictions.
If you want to benefit from real estate investing without dealing with hands-on property ownership or management, you can invest in Real Estate Investment Trusts (REITs). With REITs, you invest your capital and the company that owns the REIT handles every aspect of property management and maintenance. Since REITs bring in regular dividends, you’ll enjoy a consistent passive income by adding this option to your portfolio.
Diversify to protect your investments
When it comes to portfolio diversification, you don’t have to worry about doing everything at once. Start with small steps to broaden your portfolio and gradually build up to increased diversification. Pushing yourself outside of your comfort zone through portfolio diversification will make you a better investor in the long run. And, it’ll keep you and your investments safe in the event of headwinds or sudden downturn.