From a small northwestern observatory…

Finance and economics generally focused on real estate

ACCRE Mid-Month Report

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We started ACCRE back in 2017 with two ideas in mind. First, we wanted to “beat” the S&P 500 by 2 times. As of the end of June, a dollar we invested in ACCRE at the inception was worth $1.59. If we’d invested that same dollar in the S&P, it would only be worth $1.31. So, we’re two cents away from our goal, and that’s not too shabby. By the way, real estate in general has taking a pounding this year. That same dollar invested in the S&P Global Real Estate Index grew to $1.28 by January 1 of this year, and has now fallen to $1.03. OUCH!

Our second goal was to provide diversification and more to the point attenuate the risk in our overall portfolio. We measure that in two ways. The first way is to compute the Sharpe Ratio, which looks at the daily “excess returns” (the daily return over and above what we would have earned if we put the money in T-Bills) and divide that by the standard deviation of those returns (a common measure of risk). A higher Sharpe Ratio means that we are getting more bang for the buck when adjusted for risk. You can theoretically get very high returns if you a willing to risk high volatility, and the Sharpe Ratio accounts for that.

The next way of measuring diversification and risk attenuation is to measure the correlation with the S&P 500. In other words, does our fund move in lock-step with the rest of the market, or is it uncorrelated? Uncorrelated in this case is good — it means that we can use ACCRE to smooth out the variability in the rest of our portfolio without sacrificing returns. By the way, we compute correlation both from the inception of the fund and on a month-to-month basis.

S&P 500:
Average Excess Daily Return 0.0250%
Standard Deviation 1.3648%
Sharpe Ratio 1.8306%
ACCRE Fund:
Average Excess Daily Return 0.0455%
Standard Deviation 1.1412%
Sharpe Ratio 3.9850%
Overall Correlation 56.515%
Monthy Correlation, June, 2020 60.394%
ACCRE Metrics as of June 30, 2020

As you can see, we’ve consistently beaten the S&P 500 both on raw average daily excess returns but also on the Sharpe Ratio. Note that the standard deviation — the measure of volatility — is significantly lower for ACCRE than for the S&P. The correlations are positive, but considerably less than 100%, which suggests that while both have benefitted from this long Bull Market run, the two have followed somewhat different paths to profits.

These are complicated times for real estate. That said, a well selected and properly curated real estate portfolio, either in hard assets or securities, can provide above average returns, diversification, and risk attenuation. If we can answer any of your questions, or you just want to chat, please let me know.

Written by johnkilpatrick

July 16, 2020 at 12:10 pm

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Commercial Real Estate 2020

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Can anyone disagree that it’s been a truly lousy year for real estate in general? That said, those with carefully curated portfolios are doing better than expected, given the recession and the pandemic. It may be helpful to get into the nitty-gritty.

The chart data comes to us from the good folks at the National Association of Real Estate Investment Trusts (NAREIT) and specifically the FTSE Indices, which span about $1.1 Trillion in market capitalization of REITs by sector. Most REITs had a great year in 2019, with some notable exceptions. Regional Malls were already in some trouble, and self-storage was a bit of an underperformer. However, single family home REITS (which primarily invest in rental houses), timber, infrastructure, and industrial all had a banner year last year.

This year, and somewhat expectedly, data centers and infrastructure are still doing well, showing positive returns. The work-at-home and school-from-home has put double duty on the nation’s internet infrastructure. Add to this the increased burdens of Netflix, Amazon Prime, and the like, and you can immediately see that if trends continue, the revenues and profits from those sectors have significant growth prospects.

Retail is a mixed bag. In my own observation, many retail establishments are doing “OK” — those which serve necessities (groceries, pharmacies). Historically, “big box” hardware (Lowes, Menards, Home Depot) did well in recessions, because flat-line home sales led to people fixing up the homes they already owned. However, this has changed a good bit this year. The breadth and depth of this recession has put pause to all but the most urgent home repairs. Other sorts of discretionary shopping (clothing, furniture) are at a near standstill.

I would note that in most recessions, household formations continue, and this feeds into the dynamic of residential (apartments, rental housing). However, in 2010, household formations nearly ceased, causing a real hic-cup in the housing market. This year could be similar.

There is obviously more in this than meets the eye. If you want to discuss this any further, please reach out. I’d enjoy hearing from you.

Written by johnkilpatrick

July 10, 2020 at 10:33 am

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Seven Biggest Real Estate Mistakes — Part 5

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Just to bring new readers up to date, back in the winter, I began a series on real estate investment mistakes I’ve seen over the years. Partially, this was a follow-up to my new book, Real Estate Valuation and Strategy. Before Covid-19 changed everything, we’d planned on a speaking tour to promote the book, and so these blog posts would serve as the notes. Well, we see how THAT worked out!

Anyway, let’s get started. (By the way, at the end, I’ll give newbies a quick link to the first 4.)

Mistake #5 — Right property, wrong location

This is actually a two-edged sword. In some circumstances, finding such a unicorn can provide a great investment opportunity. More often than not, though I observe this as a very real investment mistake.

What makes a property “Class A”? Any sort of property can be in the top tier — offices, hotels, etc. One of the factors that dictates a Class A office, for example, is frontage on a major street in a market with other Class A offices. Think about how many top-tier firms are located in Manhattan on Fifth Avenue, Avenue of the Americas, or Madison Avenue. Now, imagine if that address was moved to a side street. This is an overly simplistic example of how location drives the investment decision.

As another example, think about market demand. How much demand exists in this market for Class A office space? Is the market in transition? Is there growing or shrinking demand for top-tier space? Where are we in the overall market cycle? Overbuilding for a site, for a city, or for a market can be a terrific waste of investment. What is worse, a Class A building, with all the fancy bells and whistles, that only commands Class B rents because of location mistakes, will quickly suffer from lack of maintenance, upkeep, and modernization. The NEXT investor, thinking about buying this property, would probably prefer the Class B building next door in good repair rather than the Class A building that is falling apart due to poor management or lack of funds for upkeep.

Now, I noted that there may be very real opportunities for investors. One of my favorites is locating a Class “C” property in a Class B or A location. Often, such properties are fully depreciated and can be purchased at a discount (thus, resetting the depreciation meter!) but throw off above-average rents due to proximity to high-end investors. Let’s say you are in a business that requires a lot of face-time with high-end, Class A tenants, but your own firm does not need such fancy office space. You may be willing to pay a premium to be in a Class C office, in the central business district, that provides you access to Class A customers. Class C properties may be owned by investors who have simply run out of steam. These properties need some tender loving care, perhaps a bit of fix-up, and can often — not always, but often — become Class B properties with a bit of effort.

Of course, there are limits to this analogy. Class “C” hotels in Class “A” locations are usually just candidates for tear-down (although there are some exceptions!). Conversely, Class “C” restaurant space in Class A locations are often candidates for chic dining establishments. Class “C” rental residential can often be kicked up the ladder to Class B with only minimal expense. Naturally, these opportunities depend on market demand and are situationally specific. However, a fulsome understanding of how properties fit into the market are key to avoiding costly investment mistakes, or on the other hand finding very real investment gems.

Now, I promised you links to the first four tips —

Mistake #1 — Misuse of Leverage

Mistake #2 — Over Paying

Mistake #3 — Not Realizing You Own Real Estate

Mistake #4 — Trying to Catch a Falling Knife

We’ll be back with #6 and #7 in the next few weeks. Until then, stay safe out there!

Written by johnkilpatrick

July 3, 2020 at 9:38 am

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ACCRE LLC, June, 2020

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Monthly statistics hardly tell the story. On a day-to-day basis, this has been an extraordinarily volatile period for all sectors of the market. Our goal with ACCRE continues to be to outperform the S&P 500 while reducing volatility and providing diversification for a broad portfolio. Over the life of ACCRE, we’ve achieved this quite handily. However, the S&P has been doing rather better the past couple of months, while real estate has understandably lagged.

Probably the best measure of this is to compare ACCRE to the S&P Global Property Index (total return) which simply fell out of bed after the onset of the recession. As you can see, it tends to track the S&P 500 fairly well, and hence provides less diversification than ACCRE. Thus, in the last three months, both of these benchmarks have regained some of their lost ground. Conversely, ACCRE has stagnated somewhat since the March sell-off, and had a particularly rough June. However, we continue to dominate both of the benchmarks, both on a life-of-fund basis as well as over the past six months. Thus, I think we’re where we want to be right now.

I hope to have some volatility metrics, Sharpe’s Ratio, and other portfolio data around the middle of July. Stay safe!

Written by johnkilpatrick

July 1, 2020 at 11:01 am

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Commercial real estate — MAYBE some good news

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All of us in real estate know that some commercial property and investment sectors have been hit pretty hard. Our ACCRE fund-of-funds avoided those sectors (several of those were already over-valued before Covid hit) and has held its own, and continues to perform well against its benchmarks. Note, of course, that ACCRE is a carefully curated fund, and we’ve continued to monitor the portfolio.

Conversely, offices, hospitality, and retail are really at a cross-roads. A lot of equity had disappeared from those sectors and from funds which were heavily weighted in those sectors. However, are the fundamentals sound? That is, are we looking at cyclical downturns or are we going to be left with a lot of marginally worthless property when this all ends?

One signal – and it’s not at all a perfect one — comes to us from the Exchange Traded Funds (ETF) sector. Specifically, I’m looking at the iShares CMBS ETF, which purports to invest in high-grade commercial mortgage backed securities. This fund has had a very real bull market tear since late 2018, in no small part due to a solid yield in the face of an inverting bond curve. Since late 2019, it’s been extraordinarily volatile, and indeed its 50-day moving average has cycled twice in the last 3 quarters. However, for the past month or so, it’s been solidly up. This does not suggest that traders and investors think that the coast is clear for commercial real estate — far from it. However, it does suggest that the market thinks there is enough equity underpinning these loans to continue making mortgage payments.

Graphic courtesy iShares, as of mid-day, 6/26/20

Now, this all needs to be taken with several grains of salt. For one, the market as a whole has regularly proven itself fickle, if not outright wrong, several times in the past few months. Second, going into the last recession, Residential Mortgage Backed Securities (RMBS) were doing just fine until… well… they weren’t. However, this is a useful and potentially important data point that shouldn’t be missed by savvy investors.

On the other hand, what do we do with securities when markets peak?

Written by johnkilpatrick

June 26, 2020 at 12:11 pm

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Nice quote this morning…

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… in an article by Geoff Williams in U.S. News and World Report.

https://money.usnews.com/money/personal-finance/spending/articles/smart-ways-to-spend-1000

Of course, the interview was a but longer, and I noted that the thing that might be the best for the individual (socking the money away in the bank for an even rainy-er day than now!) might not be the best for the economy as a whole. If you really want to use “stimulus” money to stimulate the economy, then it needs to be spent, locally, on job-creating things. Money spent in that fashion quickly multiplies thru the economy. The local barber spends money to get his kid’s teeth fixed at the dentist, and then she uses that money to shop at the local car repair mechanic, who in turn buys from the local farmer’s market.

Best wishes, everyone, and stay safe!

Written by johnkilpatrick

June 22, 2020 at 9:08 am

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Another one bites the dust (maybe)

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Now I read, today, that Tailored Brands (TLRD) is meeting with bankruptcy consultants. If you’re not familiar with them, you may be more familiar with the stores they run: Men’s Wearhouse, Jos. A. Banks, and K&G. They’ve been strong players in the clothing biz for quite a few years, and while bankruptcy doesn’t necessarily mean going out of biz entirely, at the least it will mean some painful restructuring of complex webs of contracts, debt, and banking relationships. My interest is in the real estate side.

Real estate usage changes over time. We think of these changes as slow, but in fact they can come fast and furious. For example, the 1920’s was a decade of explosive growth in the “built environment”, and many of the downtown city street facades date to this period. The depression put a halt to the 20’s growth, only to see suburbs explode after WW-2. The baby boom gave rise to shopping centers, neighborhoods anchored by elementary schools, and commuting on superhighways. Even though the “great recession” of 2009-10 was centered on real estate imploding, we really didn’t see a seminal change in the way people live and work. Home ownership went from about 69% to it’s historic, post-WW-2 level of about 64%. Shopping malls hung on for dear life, and the continued construction of big-boxes was unabated. If anything, real estate experts sat around wondering when, if ever, the Amazon phenomenon would catch up with brick-and-mortar stores. To an extent, the continued prosperity after 2010 put pause to any major changes.

Now, I’ll drop the other shoe. This year marks the fiftieth anniversary of Alvin Toffler’s Future Shock. Yeah. I know. If there is one resounding theme in Toffler’s work, it is that in the future, change will come at an increasingly fast pace. Hence, it should come as no surprise that the first six months of 2020 seem like a decade. So, with that in mind, a few observations…

First, the resurgence of downtowns in prosperous cities (Seattle comes to mind) assumed that people were willing to suffer with small residences (usually apartments or condos) in trade for a vibrant social scene on the streets and in restaurants, bars, entertainment facilities, and such. Last week, the AMC Theater chain announced that they probably could not survive the Corona Virus Pandemic. A significant number of people — not everyone, but a lot — will opt out of the social scene. I’m not suggesting we will become a nation or world of hermits, but three things are coming together to hit the reset button on this utilization model: a long time for people to “catch up” on discretionary spending after this nasty recession, a heightened sense of the risk of lending or providing credit to restaurants and bars, and an overall reluctance to rub elbows, at least by some folks.

Second, it’s not just retail, but it’s all the other stuff that supports brick-and-mortar retail. Every time you buy a pair of socks at Jos. A. Banks (and yes, they have very nice socks), someone had to deliver those from a warehouse. Now, of course, you are at least marginally likely to buy those socks from Amazon, and yes, they have warehouses, too. However, Amazon and their network of small businesses tend to be a bit more efficient than most brick-and-mortar retailers, and as such need less space and fewer people. Further, until the aftermath of this recession is over, it’s a simple fact that people will buy fewer socks, and fewer Ford F-150s, and fewer Weber gas grills. Not withstanding my previous jokes about Captain Morgan sales, reports have it that distilled spirit sales in America have been hit so badly as to endanger many famous liquor brands. Add to this the fact that “necessities” (e.g. — groceries, health care) are skyrocketing in cost, and you can quickly see that merchants focused on discretionary goods may have problems.

Owner occupied housing is nearly at a standstill. Real estate “listing” agents are having to be terrifically clever to sell homes. A lot of sales come from transfers, and there is little of that happening this summer. People are hunkering down, taking down the for-sale signs, and trying to keep their powder dry. By the same token, home builders, who have never fully recovered from the past recession (a story for another day) are now sitting on inventory they can’t sell. It’s not nearly as bad as 2008/9, but it’s not good, either.

A lot of construction happens by governments, both for new buildings and for public infrastructure. You can imagine that the brakes have been hit solidly on that. Transportation projects, which are often dependent on fuel or transportation taxes, are probably hitting the skids right about now.

There are some bright spots. Working from home demands a lot more bandwidth. Connectivity providers are doing what they can. If this trend continues, we’ll also see a marked demand for more cloud storage, which despite the name actually happens in places that look like warehouses full of computers.

Finally, and this is not entirely obvious, but existing rental units with tenants will do just fine, but new rental units will see longer periods to rent-up and get to stabilized levels. Why? Mainly because there will be less moving around and greater tendency for increased tenure in rental units. Existing landlords will increasingly cut deals to keep tenants in place, while new, vacant spots will have trouble competing for those tenants. In the residential rental space, this will be ameliorated a bit by the noted probable decline in home ownership. In the commercial space, even for industries that are doing fine, there will be difficulty competing for new tenants.

So there’s that. Some random thoughts for a Sunday afternoon. Y’all stay safe out there, and I look forward to hearing from you.

Written by johnkilpatrick

June 14, 2020 at 2:44 pm

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ACCRE LLC, May, 2020

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All of us at Greenfield Advisors hope all of you are staying as safe as possible as we continue thru this Covid pandemic!

As noted last month, ACCRE continues to perform well, having recaptured most of the bear impacts. None-the-less, we made some portfolio adjustments in late May to drop a few laggards and add a few positions we felt would serve well going forward this year.

As you probably know, the S&P 500 had a great month, but still lags behind ACCRE both lifetime returns as well as performance since the Feb-March bear slump. The overall S&P Global Property Index is just back to level territory, and had a dismal May.

We’ll be back mid-month with some portfolio metrics. Stay safe out there!

Written by johnkilpatrick

June 8, 2020 at 2:25 pm

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ACCRE Mid-Month Report

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I hope all is well with everyone!  ACCRE continues to chug along, doing somewhat better than the market as a whole.  That said, this is the point in the month when I USUALLY provided the market diversification statistics, the Sharpe Ratio, and such and so-forth.  I say USUALLY because, frankly, with all the Coronavirus mess, I’ve fallen w-a-a-a-y behind in my reporting duties.  Mea culpa and all that, so let’s get started.

For those of you unfamiliar with the terminology, the Sharpe Ratio is a measure of “excess returns” adjusted for risk.  What do we mean by “excess returns”?  It is the average daily return of the security over and above what would have been earned had that money simply been put into T-bills.  (For our benchmark, we use the 13-week, coupon-equivalent rate as published daily by the U.S. Treasury.)  The average excess return is then divided by the standard deviation, which is a measure of the volatility risk.  Hence, the higher the standard deviation (volatility), the lower the Sharpe Ratio.  An investment with a high return and low volatility will have a correspondingly higher Sharpe Ratio.  We measure the Sharpe Ratio over the life of the fund (since April 1, 2017):

Accre mid-month 5 20 20

ACCRE has enjoyed both a substantially higher average excess return over its life as well as somewhat lower volatility.  Thus, it comes as no surprise that the Sharpe Ratio is nearly four times that of the S&P 500.

One other thing we monitor is the correlation between ACCRE and the S&P 500, which has been historically low — about 41% as of the end of 2019.  Indeed, the correlation for the month of December was only 4.8%.  Of course, monthly correlations of daily returns suffers from small sample bias, which is one reason why we focus on “lifetime of the fund” statistics.  With that, I would note that the correlation over the past few months has been quite high, driving the overall correlation up to about 56%.  Still, though, this suggests that ACCRE does a superior job of providing diversification for the portfolio.

We’ll be back after the first of June with our monthly returns report.  Best wishes to you all!

Written by johnkilpatrick

May 20, 2020 at 7:10 am

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ACCRE LLC, April 2020

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Wow, it is almost the middle of the month and I am JUST getting around to our April report.  Mea Culpa, everyone.  We’ve been busy.  Not a great excuse, but it’s the one I have!

April was a nice rebound month for everyone.  Since ACCRE didn’t fall very far, it comes as no surprise that the rebound was comparatively slight.  Nonetheless, ACCRE continues to dominate the comparative indices by a tremendous margin.

Accre 5 11 20

(For the new readers, these indices are based on a dollar invested as of the inception of our ACCRE fund, April 1, 2017.)

More to the point, since January 31, ACCRE is only down 1.2% ($1.66 versus $1.68).  Comparatively, since January 31, the S&P 500 is down 10.2% while the S&P Global property Index is down almost 22%.

I’ll be back in a few days with comparative portfolio stats and such.  And, as always, our newsletter subscribers get updates on portfolio makeup and any trades we make.

Best wishes, and stay safe!

Written by johnkilpatrick

May 11, 2020 at 10:25 am

Posted in Uncategorized

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