If you're willing, I'd like to ask you, Mike Sowers, What is the BIGGEST RISK?
I think the BIGGEST RISK is that your ego gets too big, and you think you have it all figured out. Humility is, I think, the strongest asset that any company or individual can have in life, and it's one of our core values at commercial investors group, our system is working really, really well, our software is super sweet. We feel like we have a really good grasp on the market metrics. And we feel like we have the ability to analyze deals, but at the end of the day, we are always humble, and making sure that we're constantly staying in the zone of learning, and getting better, and trying to find new ways to do things that might work better and trying to stay on the cutting edge. That's the mistake, I think at a corporate level a lot of companies make is they do really well. And they're one way and they put the blinders on and they lose sight of what's happening in the market. And the markets change quickly. And so that's why during COVID, a lot of people went under, especially people in offices, and we're heavily invested in office, and we did better in COVID than we've ever done in any prior year. And I think I would attribute that to the fact that we maintain humility, and are willing to learn and willing to admit, in areas that we have issues. In fact, every single week, I spend 90 minutes with my entire management team, putting the issues on the table and working through.
Today, my guest is Daniel Cocca. Daniel is a New York corporate attorney by trade. And he co founded Alpha Investing a private capital network that connects investors with institutional real estate private equity investments. As a firm Alpha has invested in over 4 billion of real estate assets. And in just a minute, we're going to speak with Daniel about some of their investments and how they go about investing at Alpha.
J Darrin Gross
I'd like to ask you, Daniel Cocca, what is the BIGGEST RISK?
So as a, I call myself a former lawyer, I guess you're always wire risks are near and dear to my heart, right? You'll see 10 pages of risk factors in the documents that we send out. It's something we think about a lot. The over simplified answers, your question is that we look at deals really, with a matrix with two columns. One column is execution. The other column is market driven appreciation, right? Execution is something that we can mostly control. There are some things like supply chain and whatnot that may fall outside of our control. But usually, we can figure out ways to get ahead of the curve on those things. And the partners that we work with, we have zero doubt about their ability to execute. These are not newcomers to the real estate world. These are your tried and true groups with with long track records of success, right. And so that leaves the other column, the market driven appreciation, and that's the real unknown. And there are a lot of factors that go into that. But I think in this present moment today, you know, February 2, the thing that we're all thinking about is interest rates, right? And, you know, it was a day or two ago, that Bank of America shocked the world and said there's going to be seven rate hikes this year. And everyone said, like, what, like who like what's going on over there, right? And it wasn't, though that long ago, like, four or five, six months where, okay, rates are gonna hike up the middle 2022, maybe we'll see one or two. And then it was like three, and then it was like maybe three or four. And so we'll see what happens with with interest rates. Because, you know, as I'm sure your listeners know, the cost of borrowing is a very important component of pricing, whether you're a buyer or a seller, right. And in the historical wisdom has been that interest rates and cap rates move together, right? Meaning, you know, interest rates go down. So to cap rates, because your cost of borrowing goes down, you can pay more for a property, right. But what we saw and 1718, give or take, especially during that period of time, where we had seven rate hikes in a quarters was that that really wasn't the case, you know, rates were going up, but cap rates were still compressing. And I think what a lot of people concluded is that there's a lot of dry powder in real estate right now. Some of that is from the crowdfunding world, a lot of that is from no just general real estate, private equity that has record amounts of money on the sidelines. And so the real question is what will happen? You know, once rates really start to pick up, will you see, cap rates start to go up? If that does happen, I actually think would be a good thing, particularly for folks in our position, because, you know, we underwrite pretty heavy cap rate expansion into our deals. If cap rates stay flat, or compress, that means a home run, right? Investors get a ton of proceeds at exit, right? But also means it's very challenging to redeploy that capital, because pricing is so aggressive. And so there's a happy medium where you're getting really strong returns, but then you also have places to redeploy that capital, where where it makes sense, right? And what we'll find out over this year is really what happens to pricing. You know, a lot of the deals that we invest into, are you know, floating rate variable rate debt, right. And people like that type of debt over agency, you know, government, Freddie, Fannie get because there are very seldom are very small prepayment penalties, which allow us to exit much faster when you're in a rising price environment, right. But will people then transition to longer term fixed rate agency debt again, like that's certainly certainly possible. And so, that's a long way of saying not just interest rates, but the response to interest rates is, you know, the biggest risk to this space. The worst case scenario, and this isn't a bad worst case scenario, but but it is a worst case is that rates continue to move upward and cap rates stay flat or continue to compress because what that means is that when you're buying a three and a half cap today You're buying a really a two and a half cap at the end of the year, right, you know, apples to apples. And so that just starts to get really uncomfortable. there supposed to be a positive spread between interest rates and cap rates. And so, you know, if you buy, you buy to two and a half, and you have four and a half or 5% debt, you know, even a cash flowing deal effectively looks like new construction, right? Because there's no cash flow in the first year or two. And you're basically making a bet on the residual value. And so long answer to your question, probably not a particularly unique answer, but in this moment in time, February 2 2022, you know, interest rates and pricing response to interest rate change, that's the biggest risk that I see.
Today, my guest is Ken Van Liew. He's a real estate investor and his career has taken him through flipping houses new construction and development and assisted living. And in just a minute, we're going to speak with Ken about real estate development in investing.
J Darrin Gross
I'd like to ask you, Ken Van Liew, what is the BIGGEST RISK?
Ken Van Liew
Yeah, I, you know, I think, you know, you can look at risk in a couple of different contexts, you know, you know, one, you obviously want to look at the risk, you know, of your personal life, and I've been in situations where I've done big projects where, you know, where I've, you know, placed all my assets in a trust and, you know, things work to go array, you know, in the sense of building projects, you know, and a lot of cases I used to have to put up performance bonds, you know, so, you know, it was a large sense of, you know, similar it's like a personal guarantee, you know, and when the bonding company steps in which you're you know, being insurance must be very familiar, you know, we used to get into, you know, sub guard policies and, you know, because you know, bonding was very expensive. The construction in the high rise we talked about before, the construction portion of it was always the highest risk, right. Some of those contractor contracts are in the neighborhood of $50 million, you're buying, you know, curtain walls from all different parts of the world, you know, I was traveling to Italy and Canada and, you know, making sure things are getting on the boat and time and, you know, all these little things, everything had to work like clockwork. And, you know, in that world, it was, it was extremely risky. And what we used to do is, you know, we would bond every single trade, if we had to, or if I couldn't bond the trades, I would have to sub guard the entire project, in order to satisfy the bank, you know, in case something happened on this, this, this mechanism was in place to save the day. You know, and, and I guess, you know, if you're just looking at an investment, you know, there's risk with that, you know, you want to make sure, you know, you're buying an asset, you know, there's not going to be this huge capital expenditure, you know, my, my expertise in building buildings, you know, I can go in and, you know, jump in an elevator shaft and tell you, you know, when the things going to, you know, you know, kind of die, you know, I can go and look at Central HVAC plants from building data centers, and, you know, what's know what's going to happen. So, you know, I think the biggest risk with with people buying existing assets, is not knowing what they're looking at, you know, and then all of a sudden, you're like, you know, shoot, I gotta, you know, upgrade the electrical service to 400 amps to get the tenant upstairs. And that means digging the road. And I had these two dentists that had the building in White Plains, they wanted to convert it, the residential, but we needed to upgrade the gas service in the water service, and they waited too long. And then they started building 400 unit next door, and I'm like, Guys, you got to pull the trigger. Now, you know, so those are the kind of risks, you know, not knowing what you don't know, or not, like we said before, recognizing what you don't know, and, and, you know, getting out of your own way, you know, because our egos, you know, I think, you know, sometimes on a personal level, so, so there's all different kinds of levels, I think all different kinds of contexts. You know, so, you know, I talked about personal existing assets, how the development is viewed and how, you know, I think that insurance aspect comes into play. You know, you know, in that in that case,
J Darrin Gross
I'd like to ask you, Kim Daly, what is the BIGGEST RISK?
So I help people take one of the BIGGEST RISK with most of their life savings for most of them that they will ever take, saying yes to their dreams to own a business. And I do this every single day. So I am very acquainted with the conversation about risk. I think the biggest risk is regret. I think that if you have the dream in your heart to do something that is out of the box that is unordinary that is extra ordinary, and you don't take the risk, you will regret it more than if you do do it. Even if it doesn't work out. The BIGGEST RISK has to be regret.