The real assets sector has seen record capital inflow and for good reason. The listed equity market has seen unprecedented volatility and as result of economic slow down post Covid, governments has unleashed enormous fiscal and monetary stimulus in support of the economy and broader markets.
The record low interest rate environment before Covid looks to stay for the foreseeable future and this means real assets will be increasingly attractive in the post covid environment.
What are Real Asset Investments?
The real asset investments covers tangible or physical assets like real estate, commodities or infrastructure. These assets are physical in nature at the most basic level and characterized by consistent predictable cashflow.
More importantly as distinct from financial assets like stock and bonds are claims of future cashflow. Ownership of a real asset means you can control the cashflow compared to stocks. For example you can own 5% of a listed company but you don’t have control over the company’s cashflow. You ownership is a pro-rata share of the company. Likewise bonds are in simplest form just money and a future claim of the money with interest at loan maturity.
When investors refers to real assets in real estate, they really mean real estate investments. Real assets in infrastructure is the familiar toll roads, airport or railway lines.
How to Invest in Real Assets? – Real Asset List
The most common form of vehicle investors can gain access to real asset is through equity funds which owns a portfolio of real estate or infrastructure funds. For example most investment managers offer unlisted infrastructure funds investors can invest in or even listed infrastructure funds.
Retail investors can own real assets via owning an rental property or replicate institutions by buying listed REITs or unlisted property funds.
Top 3 Reasons Investors like Real Assets
Some of the key attractiveness include:
- Less volatile returns – Real asset prices don’t change day to day depending on investment sentiment. This creates an artificial stability in the portfolio and optically smoother returns. Some investors are attracted to long term perspective of the investment and pick choose when they realize the investment.
- Stable cash flow – Dividends are a primary form of income for stocks but real assets are defined by their contractual cash flow either from leases in real estate or concessions in the right to operate a toll road. The stability allows investors to use higher loan to value loans than otherwise through mezz loans.
- Inflation linked cash flow – In addition to dependable cashflow, the cashflow increase year or year is usually linked to inflation or fixed percentages
Downside Risks of Investing in Real Asset
Major risks investors should be aware of in the asset class.
Liquidity Risk: Since the assets are not traded there isn’t a liquid market. It takes time to sell these assets and if there is a downturn where the asset class is out of favour and there are more sellers than buyers then it will take a prolonged period to exit position and most likely not at the most favour price.
Higher Fees: It is not a coincidence the some of the largest managers of real assets like Macquarie and Blackstone are some of the most profitable investment managers in the world. The likes of Vanguard has driven fees earned on index funds almost down to zero however the private asset space has so far been immune to disruption from index funds due each asset being different to another and almost impossible to replicate financially.
Hands on management: This is linked to high fees while the underlying asset are simple, the operation management require a dedicated asset management. If you own a portfolio of stocks, you have a board of director in each company that manages the company on your behalf. If a fund own a portfolio real estates, the investment manager will have a dedicated asset management team to monitor and manage the investment which in turn require to be paid appropriately.
Are Commodities Real Assets?
Commodities has always been in a odd position in the sector. Whilst they are easy to own, most easily investable form has been through future contracts or ETFs which owns the commodities. Owning commodities through these structures introduces its own set of risks like roll risk or concentration risk as we saw in some oil ETFs post covid.
We see owning commodities directly like oil and gold as a subclass of the real asset sector. The key issues we see owning these kind of asset is that firstly they generate no cash flow and more importantly all of the returns after storage costs are based on price increases. It is simply unsustainable for a product to increase price year after year in real terms. Therefore these are more trading products which can be used to take advantage of supply and demand rather than long term investments.