Fundrise & the Magic of Diversification
Plus Links & Listens on Emergence, Avatars, and Value vs. Growth
|Oct 1, 2020||10||1|
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Hi friends 👋,
Happy Thursday! As I’ve started to monetize Not Boring, I’ve been very pleasantly surprised by the companies that want to tell you their stories. I thought I was going to need to take bold stands and say no to advertisers whose products I don’t believe in, but I’ve noticed something cool happening.
All of the sponsors that I’ve worked with are Not Boring readers, they understand the things that I’m excited about, and they realize that if you’re reading Not Boring, you’ll probably be excited about them too. They see their products in the trends and ideas we discuss, and reach out because they recognize the alignment. These are companies I’m genuinely bullish on, and I can’t believe they pay me to tell you about them.
A couple of weeks ago, I told you about MainStreet, a company that literally gives startups free money. As a result of that post, Not Boring readers are getting over $900k back from the government this year.
Today, I’m writing about Fundrise, a pioneer in the “everyone is an investor” space and one of the smartest, easiest ways to add real estate to your portfolio.
When I wrote about MainStreet, I mentioned that it was a CPA deal, meaning that I got paid when people signed up and saved money, and that I would call out when I was doing which type of deal. This time, Fundrise is paying me a flat fee and I don't receive any additional compensation from you signing up for the platform.
Let’s get to it.
Fundrise & the Magic of Diversification
Last week, I ended my piece on Opendoor talking about my desire for new ways to invest in real estate and make the asset class more liquid and accessible. It’s been under my nose this whole time: Fundrise.
Fundrise gives retail investors access to institutional quality real estate investments without high fees and with transparency around the performance of your investments.
Having worked in real estate tech, I’ve known about Fundrise for a while, but my conception of the company was based on its earliest model in which Fundrise crowdsourced investments on a property-by-property basis. It was one of the first companies to use crowdfunding for real estate, but it’s evolved since then.
Over the past few years, Fundrise has overhauled the model to run more like a traditional real estate private equity fund, but funded mainly by its individual investors, who invest around $8,000 on average. But that doesn’t mean Fundrise itself is small. To date, since its founding in 2012, Fundrise has invested in $4.9 billion worth of real estate, to great success. Since 2014, its platform’s average annualized returns ranged from 8.76% in 2016 to as high as 12.42% in 2015. Last year, it returned 9.47%.
What’s really fascinating is that not only are the real estate funds backed largely by individual investors; the majority of the company itself is funded by those same investors. That means that Fundrise can play the long game, and avoid the trade-off between growing quickly and charging high fees to make venture investors happy, and investing patiently with low fees to make its fund investors, who also back the company, happy.
So how does it do it?
Fundrise is one of a growing list of companies that takes advantage of Reg A+ to democratize investment in asset classes that were previously unavailable to all but the wealthiest few. As I wrote about in Secure the BaaG on Monday, companies like Fundrise give everyone access to similar investment opportunities that professional investors and the ultra-wealthy have access to, and allow us to build diversified portfolios that generate better risk-adjusted returns than going all in on NKLA calls.
If you’ve been wanting to invest in real estate but didn’t want to buy and manage a portfolio yourself, or pay the high fees associated with real estate private equity, you can check out Fundrise now:
But, as always, this is all about learning, so we’ll cover:
The importance of diversification into alternative assets like real estate
What makes Fundrise different than traditional approaches
Why Invest in Real Estate? Diversification
Twitter is the best. A few days after my Opendoor piece, I was scrolling the tweets and came across this one from the SPAC King, Chamath Palihapitiya, the same guy who took Opendoor public:
Chamath pointed out that in a low interest rate environment, the traditionally suggested 60/40 Stocks/Bonds mix no longer makes sense. While many in his replies pointed out that because of the way bonds trade, you can still generate strong returns on bonds if you know what you’re doing, his larger point stands. The traditional way of building a portfolio doesn’t make as much sense as it used to.
Today, retail investors have access to a larger universe of options than we did before, and investing in uncorrelated assets creates better risk-adjusted returns than investing only in stocks.
In his seminal paper on the topic, “Engineering Targeted Risks and Returns,” Bridgewater CEO Ray Dalio wrote about his hedge fund’s Post-Modern Portfolio Theory approach, an evolution of the Yale Endowment’s Modern Portfolio Theory. He describes different approaches to get to a target 10% annual return. In the traditional approach, an investor needs to put most of his or her portfolio in equities, which typically generate higher returns than cash, bonds, or real estate, but at a higher level of risk. Being so heavily concentrated in one, high-risk asset class is a riskier way to generate returns than he’s comfortable with, so he recommends another approach, that boils down to a few ideas:
You can generate a similar risk/return profile to equities by using leverage in other asset classes.
Diversification into uncorrelated assets -- both of asset classes (beta) and the managers who invest in those asset classes (alpha) -- produces better risk-adjusted returns than high concentration.
By leveraging non-equity asset classes to the same risk/return level and diversifying across more uncorrelated asset classes and managers, you can hit your 10% target with lower risk.
For our purposes, the specifics are less important than understanding this key concept: allocating money across a diversified portfolio has historically generated better risk-adjusted returns than concentrating in just stocks, bonds, or even the traditional 60/40 split.
Which brings us back to Fundrise. Investing in real estate as part of a diversified portfolio should theoretically produce better, less risky returns over time than whatever your portfolio looks like today. Fundrise makes it easier than ever for retail investors to do that, at a lower cost.
OK, so adding real estate to your portfolio is probably smart. How do you do it? Traditionally, there have been three main ways to invest in real estate:
DIY: This is the original way to invest in real estate. Buy a house and live in it, buy a house to flip, buy an apartment building and rent it out to generate income, buy an office building and rent it out to generate income. The list goes on and on, but all of them have two things in common: they require a lot of cash and they’re a lot of work.
Real Estate Fund: Give your money to professionals, have them do all the legwork (or coordinate with third-parties to do the legwork) and generate returns after fees. This is a great approach - if you could have invested in Blackstone’s real estate funds over the past thirty years you would have made a lot of money - but access is typically reserved for the ultra-wealthy.
REITs: In 1960, Congress established Real Estate Investment Trusts (REITs) to give retail investors access to investments in income-producing real estate. An investor can buy nearly 100 publicly-traded REITs or an ETF containing a portfolio of REITs, like Vanguard’s REIT ETF. Publicly traded REITs appear to be low fee, but by the time it gets to you, many parties will have taken cuts for their piece of the process, from sourcing to management.
Fundrise is different.
Fundrise is a Natively Integrated Real Estate Fund that raises money from retail investors like me and handles the whole real estate investment process, from sourcing to rehab to management, using technology to remove layers and lower fees.
Here’s how it works. Investors go to Fundrise, set up an account, and choose how much to invest. You can invest as little as $500, although investing over $1,000 gets you access to its Core product, which allows you the ability to allocate across all of its funds, and $10,000 gets you access to its Advanced product, which allows you to choose the funds into which you invest.
I’m not a huge regulation nerd, but Fundrise uses the one regulation that I absolutely adore to make an asset class traditionally reserved for accredited investors available to anyone: Reg A+. Reg A+, passed as part of the 2012 JOBS Act, lets companies raise up to $50 million per year from non-accredited investors. It’s the regulation that enables companies like Rally Rd. and Otis to make cultural items like cars, art, and sneakers more easily investible. I don’t think it goes far enough to open up new asset classes (that’s for another post), but it’s a great first step in democratizing access to better diversified portfolios. Fundrise is a leader among Reg A+ companies, so much so that it appears on the Regulation A Wikipedia page.
Through Reg A+, Fundrise also lets certain investors in its funds invest directly in the company itself through its internet Public Offering. Since its Series A raise of $38 million in 2014, the company has been primarily funded by the same people who invest in its funds. In 2017, for instance, it raised $14.6 million from 2,300 Fundrise members. That feels like a testament to its customers’ love for the product.
It also creates a strong alignment between fund investors and the company itself. Cadre, another real estate investment startup co-founded by Jared Kushner, Josh Kushner, and Ryan Williams, has raised $133 million from venture capitalists. With that investment comes the expectation of rapid growth and strong profitability, which could lead to lower underwriting standards and higher fees. Plus, Cadre does not avail itself of Reg A+, and focuses only on accredited investors who can put up the $50k minimum investment.
Ok, enough nerding out about Reg A+. How does the investment in Fundrise’s real estate funds work?
Regular people invest directly into a fund, which goes out and acquires, renovates, and manages properties across asset classes (residential and commercial), geographies (“Smile States” from LA, down the southern coast, and back up to DC), and strategies (income or growth).
You can check out Fundrise’s investment offerings here.
Because Fundrise is natively integrated -- using technology to integrate supply, demand, and operations and build a direct relationship with its investors -- it is able to charge lower fees than investing in a traditional REIT. You can read more about Fundrise’s fee structure compared to Vanguard’s REIT ETF here, but it boils down to the fact that Fundrise invests your money directly into properties and cuts out a series of middlemen.
Additionally, because Fundrise investments are private and non-traded, they are less correlated to the overall market than publicly traded REITs. When the market crashed in March, for example, Vanguard’s REIT ETF tanked nearly 45% even though underlying real estate prices didn’t fall that far. Publicly traded securities are subject to the short-term whims of the market to an extent that private, non-traded funds aren’t.
To whit, Fundrise’s Net Asset Value (NAV) increased 2.41% in H1 this year, not in line with historical results but still positive and significantly better than Vanguard’s.
That does come with a drawback, though. Fundrise closed redemptions during the Coronavirus in order to maintain cash reserves, protect the larger portfolio, and keep its long-term focus. That’s likely a good thing in the long-term, but in the short-term, it reduces your liquidity. It’s worth noting, however, that Fundrise has since reopened its redemption program.
Over the long-term, though, that stability has produced strong returns for Fundrise’s investors.
Since switching from a property-by-property crowdfunding model to its current fund-based model in 2014, Fundrise has generated average annualized returns between 8.76% and 12.42%.
We’re in an incredible era in which it’s now more possible than ever for normal people to build a diversified portfolio across asset classes. In addition to traditional stocks and bonds, we can invest in startups (via the Not Boring Syndicate, for example), exotic cars and collectibles, via Rally Rd., in smarter automated investment strategies (soon, through Composer), and directly in real estate funds via Fundrise.
As someone whose public market equities portfolio is heavily weighted towards high-risk, high-return tech stocks, diversifying the rest of my portfolio into uncorrelated asset classes like real estate helps me sleep at night.
But while diversification is smart, diversification alone is kind of boring. The thing I like about Fundrise is that its app and website actually let you look at all of the assets in your portfolio.
It doesn’t feel like you’re investing in “Real Estate Portfolio X,” it feels like you’re investing in an apartment building in California, a warehouse in Texas, and and office in Florida. Seeing each property, how they perform individually, and how those performances compose the overall performance of the fund is more fun and makes it easier to learn what’s going on. It’s the good parts of passive investing mixed with the entertainment and education of being more hands-on.
All of these things combined -- the product experience, low fees, and strong performance -- are why Fundrise is the only 5-star reviewed real estate investing company on NerdWallet, and why I’m excited to be able to tell you all about it today.
To check out Fundrise and see if it makes sense as part of your diversified portfolio, click the link:
Links & Listens
Dan wrote an excellent follow-up to an essay I wrote a couple of months ago on Entropy Theory, mixing in the concept of emergence and improving the whole idea. The application of coevolution to business was particularly fascinating.
Jill, a VC at Slow Ventures, imagines a 2030 in which we work and socialize through various, separate avatars. It’s a good short read that will open your eyes to a near-future that seems crazy but I think is likely to happen in some form.
One of the smartest pseudonymous Twitter accounts joins Patrick to discuss how removing friction can build huge businesses, and why investing is more about understanding strategy than historical performance. They cover a lot of the topics we discuss on Not Boring, and MP might be even more bullish on Opendoor than I am.
On Monday, I joined Not Boring reader/super-referrer Andrew Walker on the Yet Another Value Podcast. It was a blast. We discussed Opendoor vs. Zillow, the Not Boring Syndicate, and why tech is the new value.
💸 Dan McMurtie Twitter Thread on Value
Speaking of value, this thread by Dan McMurtie articulates my thoughts on why the leading tech companies are still great investments relative to non-tech.
Thanks for reading, and see you on Monday,