Diversification in real estate can mean a lot of things. It can mean investing in one region but diversifying types of acquisitions – single family, multifamily, land, commercial, student housing, airbnb…It can mean geographic diversification – investing across state lines, different cities, different neighborhoods… Not everyone diversifies. Some will specialize in one area and get really good at it. There are companies in Philly, for example, that focus exclusively on Germantown or on University City around Penn and Drexel. And there are national companies that specialize in high end student off-campus housing and build on the outskirts of college campuses across the county. What is the best approach? Well, it depends.
For the company that focuses in a very defined geo market there are clear risks of being dependent on the health of a single market. And for companies that specialize in a niche type of housing, there are similar types of risks. When your market niche gets hit for any reason, you suffer across the board.
Presumably, specialists prepare for the downside as well. But consider the recent rise in concern over the short term rental industry and its likely effect on companies that depend on platforms like AirBNB. More and more municipalities are regulating short term rentals – in some cases making it all but illegal to rent homes for short term use. The full impact is yet to be seen but if your business is built around short term rentals, you might need to re-purpose some of your holdings very soon. With that said, I wonder how many investors have purchased and renovated properties for the short term rental market without first checking not only the current regulations in the local municipality, but also the general sentiment of the local government and residents, which will likely push the industry, still in its infancy, in one direction or another, eventually. Local real estate law is highly dynamic these days.
If you are not a big player and do not have the resources and data at your disposal to navigate through tough times in a niche market, than you should probably consider diversifying.When you diversify, you need to recognize what you give up or risk. Small and mid size investors are unlikely to be able to know multiple vertical or geographic markets in depth. You may never know the ins and outs of Kensington like the developer who has built entire blocks of new homes there. And you may not get the absolute maximum return from the off-campus rentals you own like the company that develops off-campus apartment communities across the country. But you still have the power to generate healthy returns on your investments. And by not counting on any single region or type of real estate, you can mitigate the many risks that exist in real estate investing.