In many cases, portfolio diversification can help support a successful investment strategy. The right moves can help potentially spread risk and generate steady returns. The idea behind portfolio diversification is that investors shouldn’t put all of their investment eggs in a single basket (in other words, avoid investments in similar investment vehicles).
This is where real estate investments can be effective. But direct investment in one or two real estate properties doesn’t really support the idea of diversification. One way to use real estate as a diversification tool is to invest in a Delaware Statutory Trust (DST).
The DST is a legal entity structured under Delaware law. The DST is in business to buy and hold titles of one or more income-producing real estate properties. Here’s how investors are involved:
In other words, the trust buys and owns the real estate. The investors, in the meantime, are the beneficiaries of that trust (rather than the direct owner of the properties).
Because of DSTs’ fractional nature, they can help investors create and maintain an effective portfolio diversification strategy.
DSTs can provide portfolio diversification advantages in two ways:
Quality Investments
One potential DST benefit is that it offers greater access to quality institutional property types that might otherwise be outside the price range of small investors. For instance, with a minimum dollar amount of $100,000, an individual could invest in a DST and benefit from potentially high-performing properties that might otherwise be outside that price range.
Along these lines, investors can “swap” physical real estate property into DST fractional shares (as long as those shares are of greater or equal value to the relinquished property). According to the IRS, DST interests represent viable replacement properties under the 1031 exchange.
Real Property Variants
DSTs offer undivided fractional interests. And those fractional interests don’t have to represent the same property. Nor do they have to come from the same trust. DST investors have an opportunity to take ownership of different properties and asset classes that are rented to diverse tenants, and which are situated in varying geographic locations. It’s also possible for investors to invest in multiple trusts.
For example, an investor with a stake in multiple DSTs that own apartments, hotels, and retail properties in the Southwest and Midwest could spread the risk across portfolio, while potentially increasing overall returns.
The main benefit of DST investments rests in the notion of “fractional shares.” But as is the case with any investment, DSTs require careful due diligence, an understanding of the DST sponsor’s track record, and a working knowledge of the trust’s underlying real estate. When approached correctly, investing in DSTs can provide an ideal cornerstone when it comes to portfolio diversification.