Basic Real Estate Investment Concepts

The following are some very basic investment elements or concepts that anyone considering a real estate investment should be VERY comfortable with.

Yield Definition: The dollar amount earned on each dollar invested over the life of the investment.
There are a number of ways to calculate the ROR (Rate of Return), some of which are IRR, modified IRR, Capitalization Rate or Cap. Rate, and NPV (a component of IRR).
For Example: Risk averse investors may pay more for proven properties and knowingly accept a lower ROR.

An investments yield should be balanced with the safety or risk to capital. The three basic risks to real estate investors are: Loss of Capital, Loss of return on capital, and the capital lost because the investor was unable to invest it (i.e. Liquidity risk). Additionally, international investors may have Country risk as well. Country risk includes currency, nationalization, and regulatory risks among others.

This is what is attractive about real estate, but as people have recently found out in real estate, leverage can work both ways. A rational investor will borrow money to buy real estate when the ROR exceeds the costs of the borrowed funds. There can be many factors affecting the true costs including; taxation, currency risks, hedges, appreciation, depreciation, and of course cash flow.

Passive vs. Active real estate investment. Passive investors invest their money and allow others to operate the investment. Active investors want to be involved and manage many of all aspects of the investment themselves. Control issues vary from property to property and are not specifically dependent on the market.