All investments, including alternative investments such as real estate and Delaware statutory Trust (DST) come with risk. Risk management is critical no matter which investment strategy you subscribe to for your investments.
March 15, 2024
By Al DiNicola, AIF®, CEPA™
DST 1031 Specialist
NAMCOA® – Naples Asset Management Company®, LLC
Securities offered through MSC-BD, LLC Member of FINRA/SIPC
DSTs are relatively new investments (since 2004) and there are common risks associated with this Alternative.
Market Risk:
RISK: Investors understand there may be cycles in the economy that may affect potential returns of any investment. The performance of real estate and associated assets are affected by market conditions. Property values may fluctuate based on economic downturns. Interest rates rising (affecting potential buyers) may also be a risk that investors may not realize.
MITIGATION: Due diligence prior to any investment is required. Not only of the investment itself but the local market as well as the overall market conditions. DST investors have access to geographic location as well as asset class. Understanding the trends (local and national) becomes a vital key to mitigation strategies.
Sponsor Risk:
Risk: The financial commitment to bring a DST to the market may be overwhelming. Sponsors need to manage the properties effectively and handle the financial responsibility entrusted to them. The sponsor or trustee will be directly responsible for the success of the DST. Failure to manage the DST will affect the returns in a negative way.
Mitigation: While past performance may not predict future success, it helps. Meaning if a sponsor is experienced and has a track record of effectively managing properties that can mitigate the risk. Sponsors may be large real estate companies with decades of experience and now entering the DST offering. We conduct due diligence reviewing the historical track records of the sponsors and their offerings.
Liquidity Risk:
Risk: Investing in fractional real estate with limited control and selling your interest may not be readily available meaning liquidity may not be available. Investors in a DST face the same limited liquidity. DST have a definite lifespan as defined in the PPM.
Mitigation: The exit strategy (AKA Steven Covey) should be defined in the PPM and the investors during the due diligence should understand the exit. If there are any restriction on the exit meaning any mandatory 721 UPREIT, investors may want to invest in a different DST.
Interest Rate Risk:
Risk: There are many items that effect the valuation of DST and a rise in interest rate is one that becomes overlooked. A rise during the holding period may affect the cash flow. At the end of the holding period high interest rates may affect the overall exit price.
Mitigation: DST that can utilize a fixed rate financing arrangement during the holding period may mitigate the rise in interest rate during the holding period. All cash DST (by design) avoid the interest rate risk. Investors should stay abreast of economic conditions including interest rate rise.
Property-Specific Risks:
Risk: LOCATIONS, LOCATION. There are property conditions related to the physical structure as well as tenant quality, lease terms and other risks, The location and what potentially appeals to tenant (and eventually the next buyer) become the biggest risk.
Mitigation: Everything goes back to due diligence prior to any investment. All real estate is local in nature. The appeal of the property to the expanding the potential list of tenants can mitigate risk.
Regulatory and Legal Risks:
Risk: Governmental changes may be an unknown risk. This may be especially true in the ESG focused environment. Elected officials may force changes to zoning, environmental changes as well as many other risks associated with a political change in leadership. All of these may impact DST performance.
Mitigation: Sponsors need to include extended due diligence in setting up the DST. Regulatory aspects of the offerings need to be an exhaustive exercise. Investors and advisors should stay abreast of local regulations and potential changes.
Tenant Vacancy and Lease Renewal Risk:
Risk: Vacancies and Tenant turnover drastically effect cash flow. There may also be lease renewal issues created by local changes, accessibility to the property among other issues.
Mitigation: Long term tenants (with stability) and long-term leases can mitigate risk (triple net leases). Responsive management to tenant needs with normal leases help in tenant retention. Multifamily property management response to tenant needs also helps to mitigate risk.
Summary:
As financial advisors we review materials and perform due diligence. The offering documents, Private Placement Memorandums (PPMs) will outline the typical risk in the offerings. We also review third party reports on the offerings. Overall market trends and economic indicators are vital to mitigate risks in DST offerings.
DST’s (Delaware Statutory Trusts) are for accredited investors only. Contact your investment adviser for additional details on how a DST may be a solution to your 1031 Exchange and compliment your financial objectives. For more information on how to properly set up an IRC 1031Tax Deferred Exchange or if you are an accredited investor and would like additional information on a DST contact Al DiNicola at 239-691-8098 or email adinicola@namcoa.com.
This is not an offer to purchase or solicitation to purchase any security, as such be made only through an offering memorandum or prospectus. Investing in securities, real estate, or any investment, in any form, involves risk, including but not limited to the potential of losing some or all of your investment dollars when you invest in securities. You should review any planned financial transactions that may have tax or legal implications with your personal tax or legal advisor. NAMCOA, LLC is a Registered Investment Advisor, regulated by SEC (Securities and Exchange Commission). Our corporate office is located at 999 Vanderbilt Beach Road, Suite 200, Naples Florida 34108. Securities Offered through MSC-BD, LLC, Member of FINRA/SIPC. 8215 SW Tualatin -Sherwood Rd, Suite 200 Tualatin, OR 97062. MSC-BD, LLC and NAMCOA are independently owned and are not affiliated.
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Social Media platforms are solely for informational purposes. Advisory services are only offered to clients or prospective clients where the advisory firm and its representatives are properly licensed or exempt from licensure. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital. No advice may be rendered by NAMCOA unless a client service agreement is in place.
