The Investment Scientist

How to invest in real estate: Part III

Posted on: September 18, 2012

Commercial property investment

For investors who can’t stomach the volatility of real estate investment trusts (REITs), but also don’t want to get their hands dirty, there is the middle way in real estate investment, namely through a private partnership.

A real estate investment private partnership (REIPP) is a pool of investors’ money that is invested in commercial or residential properties. As an investor, you can contribute capital as a limited partner and let the general partner do all the dirty work. Sounds like the best of both worlds, doesn’t it?

It is emphatically not.

Unlike a publicly traded REIT, a REIPP is not regulated. Here are some things that could go wrong:

  1. The general partner may not report to you the true state of the investments.
  2. The general partner may siphon off money without your knowledge.
  3. The general partner may engage in real estate transactions that benefits himself.
  4. The general partner may speculate with your money in the stock market.

These problems are what economists call asymmetric information and agency risk. In layman’ term, they means the general partner knows a lot more than you do, and he is gonna use that information advantage to benefit himself at your expense. These risks can be mitigated by a trustworthy general partner who has a strong bond with you.

I personally have not invested in any REIPP, and I have persuaded a few of my clients to stay away from them. However, I may invest in a REIPP run by a friend of mine, Chris.

I’ve known Chris for almost five years now. We volunteer together and we talk about economics and investment a lot. We are friends and I trust his real estate knowledge and his integrity.

That’s the high bar you should set for any REIPP investment.

Get my white paper: The Informed Investor: 5 Key Concepts for Financial Success.

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Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC.


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