We created the CrowdStreet Blended Portfolio (“CSBP”) to give investors an easy way to make one investment and get exceptional diversification and quality across a spectrum of commercial real estate deals–effectively building a well-constructed portfolio in a single step. CSBP invests in qualifying deals like any individual investor, putting forth varying amounts of capital from as little as $50,000 to $750,000+ per deal. Many investors (and In commercial real estate, the sponsor is an individual or company in charge of finding, acquiring and managing the real estate property on behalf of the partnership. The sponsor is usually expected to invest anywhere from 5-20% of the total required equity capital. They are then responsible for raising the remaining funds and acquiring and managing the investment property’s day-to-day... More) have asked, just how are those allocations determined? The answer: an algorithm.
Our proprietary algorithm consists of a series of rules that evaluates past CrowdStreet Marketplace offerings along with a set of predefined constraints and targets 30-50 investments per series. The algorithm determines an allocation for each investment, ultimately building a diversified commercial real estate portfolio. The goal is to easily and repeatably mirror the makeup of the CrowdStreet Marketplace as a whole, but with a single, affordable investment minimum.
To be considered for an investment from the CSBP, an offering must first qualify for acceptance on the CrowdStreet Marketplace. This is managed through a quality control process run by the CrowdStreet Investments Team. This review process ensures that both the sponsor and the deal meet the Marketplace requirements. While the link above goes into greater detail, the review process touches on three main factors:
- Sponsor vetting
- Deal screening
- Offering review
Once an investment opportunity has been approved for the Marketplace, the CSBP algorithm is applied to determine if it’s also eligible for CSBP investment.
It’s important to note that the algorithm is not ‘picking winners.’ Being included in CSBP doesn’t make a deal any better than one not included. The algorithm is designed to allocate investments efficiently and systematically across eligible Marketplace offerings in order to give investors exceptional diversification in just one fund.
When an offering is analyzed, it is assigned a score based on a wide range of factors including:
- Market/metro size
- Investment risk profile
- Property type
- Sponsor experience
- Various return projections
As the algorithm is designed to build a fund that is a balanced reflection of the Marketplace over time, types of projects that are less common on the Marketplace receive a higher score, and projects that are more common receive a lower score. This score is used in tandem with the total amount of an offering’s equity capitalization to determine the exact amount that will be invested. The algorithm initially targets investing ~2% of the total equity capitalization of the offering (starting at $200,000 of $10 million, for instance) and then adjusts that amount upwards or downwards to achieve a target allocation.
Once the model has finished its analysis of a given offering, it makes one of the following recommendations:
- Invest at the targeted average investment amount
- Invest at a lower allocation
- Invest at a higher allocation, or
- Reject investing in the offering at all
Another key factor is timing. Let’s say a CSBP series closed in December with $10 million ready to invest. The algorithm may determine it should invest no more than $2,500,000 (25% of investable capital) into self-storage properties. Coincidentally, let’s assume the Marketplace launched ten self-storage offerings in the first half of the year (and they are essentially identical in all other respects). With an average allocation size of $250,000, this series might invest its $2,500,000 across all ten deals. Then, should another self-storage offering launch in August, the algorithm might recommend a reduced allocation of $100,000 in order to avoid over-exposing the fund to the self-storage-–even if the projected returns of that latest deal were more attractive than any other deal so far. These checks and balances ensure that the algorithm constructs a portfolio that is truly a reflection of the broader CrowdStreet Marketplace, as opposed to an active management strategy that might otherwise focus on achieving a specific return objective.
The best way to demonstrate how the algorithm works is to examine some hypothetical scenarios, side by side.
|Big Ben Apartments||Tower Bridge Offices||London Bridge Apartments|
|Offering Launch Date||January 1st||February 1st||November 1st|
|Targeted Hold Period||10 years||5 years||10 years|
|Investment Profile||Core commercial real estate investments are the least risky offering. They are often fully leased to quality tenets, have stabilized returns and require little to no major renovations. These properties are often in highly desirable locations in major markets and have long term leases in place with high credit tenants. These buildings are well-kept and require little to no improvements... More||Opportunistic real estate investments are the most high risk/high reward investment opportunities, requiring major development work. Opportunistic properties tend to need significant rehabilitation or are being built from the ground up. They have the chance to reach the highest rate of return for investors, but they little to no in-place cash flow at the time of acquisition and have the... More||Core|
|Leverage is the use of various financial instruments or borrowed capital to purchase and/or increase the potential return of investment. Assume a buyer puts 20% down on a $5M property. Essentially, they paid $1M to own something worth $5M. Assuming the property appreciates at 5% per year, the sponsor’s net worth would grow to $5,250,000 in a year. Had they... More||65%||82%||60%|
|The Internal Rate of Return (IRR) is the rate at which each invested dollar is projected to grow for each period it is invested. It differs from other metrics in that it accounts for the concept of the “time value of money”, or the fact that a dollar received and reinvested elsewhere today is worth more than a dollar expected... More||10.9%||31.8%||11.1%|
|Cash-on-cash return calculates the cash income earned on the cash invested in a property. It’s sometimes also referred to as the cash yield. Cash-on-cash measures the return on the actual cash invested, whereas standard ROI take into account the total return on investment.... More||8.3%||9.7%||8.4%|
|In commercial real estate, the equity multiple is defined as the total cash distributions received from an investment, divided by the total equity invested. Essentially, it’s how much money an investor could make on their initial investment. An equity multiple less than 1.0x means you are getting back less cash than you invested. An equity multiple greater than 1.0x means... More||2.4X||1.9X||2.5X|
Let’s imagine that on January 1st, at the beginning of this series’ deployment phase, The Big Ben Apartments launched on the CrowdStreet Marketplace (the first column above). The algorithm would examine the key characteristics of this offering and ensure that it is not disqualified on the basis of any of the algorithm’s investment guidelines. Given that this deal launched at the beginning of the series’ deployment phase, there is no risk of exceeding any of the algorithm’s maximum property type thresholds. So, the Big Ben Apartments ultimately receives a CSBP investment in line with the target allocation.
Then in February, The Tower Bridge Offices launches (second column). The algorithm can seek up to 30% exposure to office type properties, but since this particular offering has an 82% property-level leverage, which is above the 80% maximum leverage limit set by the algorithm, this deal is disqualified even though it may be quite attractive to individual investors.
By November, this CSBP series has invested $9.8 million of its $10 million in investable capital across 40 deals. By now, the series has hit its maximum exposure to multifamily properties (60%), so even though The London Bridge Apartments offering (third column) looks very similar to The Big Ben Apartments deal, The London Bridge Apartments will not receive an investment from the CSBP in order to avoid over-concentration in one area. Instead, the algorithm will look for other offerings of different property types that are underrepresented among its current investments, in order to ensure that the CSBP’s diversification targets can be met.
The maximum thresholds and criteria are further detailed below:
|Any one offering||5%|
|Any one sponsor||25%|
|Core-plus commercial real estate investments are known as “growth and income” investments. The cash flow is less predictable, but they often predict a higher rate of return than core investments. The term "core plus" was originally defined as "core" plus leverage. Leverage is the use of borrowed capital to purchase and/or increase the potential return of an investment.... More||50%|
|Properties are considered value-add when they have management or operational problems, require some physical improvements and/or suffer from capital constraints. By making physical improvements to the asset that will allow it to command higher rents – remodeling the kitchens in multi-family, installing more energy efficient heating systems in a medical office, etc. – improve the quality of tenants and increase... More||60%|
If you have any other questions about the Blended Portfolio, its allocation policies or the algorithm, please don’t hesitate to reach out. The Spring 2019 Portfolio is accepting investments until June 28 and you can visit the offering page to learn more and invest now.