The Delaware Statutory Trust has had a fascinating history for real estate investors dating all the way back to the 1970’s. How are investors using the Delaware Statutory Trust in today's economic environment?
Listen to this fascinating look at how the Delaware Statutory Trust has evolved and grown throughout the years, and how current economic conditions are impacting how investors are using Delaware Statutory Trusts for their 1031 exchange.
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- (4:00): Delaware Statutory Trust Marketplace History(Link to Transcript)
- (7:08): DST Current Marketplace State (Link to Transcript)
- (13:00): Anticipating Potential Market Trends (Link to Transcript)
Brent Wilson:
Hi everyone and thank you so much for joining us today. We're going to have a great time today on DST Essentials with Kay Properties, where we will take an in-depth look at many recurring themes and nuances to the DST investment process. In this series, we will be interviewing many members of the Kay Properties team, who each bring their own unique and valuable perspectives that they've formed over their vast transactional experience in the DST investment landscape.
Before we introduce our guest today, I am going to start with a little bit about Kay Properties. Kay Properties is a national Delaware Statutory Trust investment firm. The KPI1031.com platform provides access to the marketplace of DSTs from over 25 different DST sponsor companies. This includes custom DSTs only available to Kay clients, and an active DST secondary market. Kay Properties team members collectively have over 130 years of real estate experience, and are licensed in all 50 states, and have participated in over $30 billion worth of DST 1031 investments.
I am very excited to have our own Alex Madden on the call today. Alex Madden is a senior vice president that heads up the Kay Properties Boston office. Starting his career as a US Army Ranger, then consulting for the Department of Housing and Urban Development and Federal Housing Authority with KPMG's management consulting federal advisory practice, Alex has become a leader and specialist in the 1031 DST space, and has vast 1031 exchange transactional experience. Today, we are going to be covering the DST marketplace update, in an effort to keep our investors informed on the marketplace at large. Alex, welcome to the call and thank you so much for being with us.
Absolutely, Brent. Always a pleasure to be on, and I look forward to dive into this today.
Brent Wilson:
Fantastic. Before we jump into current events, can you give us a little context on the Delaware Statutory Trust marketplace leading up to today?
4:00 – Delaware Statutory Trust Marketplace History (Back to Top)
Alex Madden:
Yeah, absolutely, and I think that's always so important. We want to take a holistic view as we're going to talk about what's going on today. It's obviously very helpful to know what has preceded this and understanding how we got here. So briefly, I think it's important to realize that investors have been using Delaware Statutory Trusts for 1031 exchanges since the '60s and '70s, frankly. But back then, it was largely done with a letter from an investor's CPA or an attorney saying, "We believe that this is eligible for 1031 exchange." But it wasn't until 2004, the IRS actually put this in the internal revenue code, the Revenue Ruling, 2004-86, always worth going and taking a peek. This is where the IRS officially blessed off on DSTs as eligible for 1031 exchange.
And of course, there was a little bit of a slow start, and then things really picked up. And of course, we all remember what happened in 2008, the great financial crisis, just like all real estate, the DSTs saw a contraction, certainly in terms of volume of business and transactions, and then, just like other types of real estate, the DSTs have seen significant growth over the years coming out of the great financial crisis in 2008, until it became a multi-billion dollar industry that it is today. Seems like every year the DST industry is growing in leaps and bounds, both from the perspective of overall volume sales transactions, also from the number of DST sponsor companies that are in the space, the number of different asset types and asset classes that are in the space. And so, I think that this is great, it's given investors a lot more options.
It's also complicated things, and I think it's really important to understand what the DST landscape is. So oftentimes, investors may find a DST that's potentially going to look really interesting, but might not be with a very reputable sponsor company, it might not be with a group that has really been doing this for too long. And so, I think it's a larger industry, it's also a slightly more complicated industry in some ways than what it has been, and so it's also a more competitive industry. And so, there's pros and cons that come for investors in a more competitive type of environment. So we've certainly seen a lot of growth, but that's the prelude of where we are today.
Brent Wilson:
That was fantastic. Thank you for giving that overview. Let's talk a little bit about this year. What have you been seeing at large in the DST marketplace?
7:08 – DST Current Marketplace State (Back to Top)
Alex Madden:
Sure, sure. Well, again, when we dive into the economic factors and that sort of thing, just looking over what has happened in, economically speaking, for the DSTs, the underlying economics of these deals, and I think understanding what happened in real estate, particularly over the last three years or so, of course we had the pandemic, we saw the 1031 exchange was actually extended. They had an emergency declaration back in 2020 so that there was some additional time for some investors exchanging in that year. And then, counterintuitively, as the pandemic progressed, we saw just an incredible boom in real estate values, and we saw a lot more money being injected into the US economy in various types of stimulus packages and lower interest rates.
And so, this all translated into a more inflationary environment where people are looking to place more funds into hard assets that produce income, which is to say, real estate, amongst some other types of assets as well. But real estate saw a massive growth. And so, I would say probably about this time last year, we were at an incredible cap rate compression. We were seeing a lot of DSTs that were maybe having potential cash on cash returns, starting in the threes, potentially. Believe it or not, we saw a handful that were below three. And so, that's just a mathematical calculation where, if you buy a property for, all things being, you'll buy it for a very high price, there's going to be a lower potential cash on cash return.
And so, now what we're seeing is an increase in interest rates. We've just undergone, and might potentially be coming to the end, of one of the steepest increases in interest rates in American history. The Federal Reserve has been attempting to slow down the US economy in many ways, because inflation had really increased through all of the various stimuluses, and looking just to put a little bit of a wet blanket, so to speak, over the roaring fire that was the real estate markets and other markets. We all heard the stories of houses going all cash, $100,000 over asking price, things were getting a little bit frothy at that point. And so, the Fed has substantially hiked interest rates, and so that's where we find ourselves today.
And so, the economy is more or less responding how the Fed has expected it to, which is to say we've seen lower transaction volume over maybe what we had in some of the frenzy days, like I was just talking about, $100,000 over asking price, all cash offers, that sort of a thing. But we're still seeing a lot of movement. We're seeing quality properties that are correctly priced still seem to be moving. And then, we also see, as the interest rates are going up, we see the cap rates on some of these various properties are also increasing, which can possibly translate into higher cash on cash returns. So we're starting to see that cap rate expansion, that cash on cash return potential increasing.
I think it begs the question of, okay, well, where are we seeing that? And probably the largest cap rate expansion that we've seen is in the single tenant net lease side of things, commercial type properties, we've definitely seen some growth there. And then, with the apartment buildings, I think that, for right or wrong, the market has priced these as the more stable types of assets, with the thought process being, and I completely understand this, but the thought process being, hey, everybody needs a place to live, but they're not always necessarily considering factors like supply, increased supply in certain metros, and that sort of a thing. But nonetheless, we've probably seen the least cap rate expansion in apartment buildings, and so they have moved the needle a little bit, but I would still put those at the lower end of what we're seeing from a cash on cash return perspective.
Looking ahead, we can potentially speculate about what's coming, but it would be just that. I tell all the investors I work with, "If only I had a crystal ball." We certainly would love to know what's coming next, but any discussion about that would be purely speculative. But we can dive into that a little bit if you'd like, Brent.
Brent Wilson:
Yeah, certainly. It sounds right now like there are some positives. Overall, I imagine that people are feeling this and they have their own ideas, but it sounds like there's some positives. But I also imagine that there's a little bit of risk. So given what you're seeing so far, can you dive into how you're walking your investors and encouraging them to pay attention to certain aspects of what is going on right now? What are you seeing specifically?
13:00 – Anticipating Potential Market Trends (Back to Top)
Alex Madden:
Yeah, absolutely. This is something we're speaking in depth with investors about. I think a lot of times, people think that the next recession is going to be just like the last recession. And of course, we did have, in real estate, speaking strictly in real estate, we did have the COVID recession, but it was more like a lights off, lights on, kind of thing. It was very short-lived, and then it came back roaring in the real estate markets.
So when we talk about the last recession in real estate, we're really talking about the great financial crisis, 2008 timeframe. And so, this current environment, from a real estate perspective, does not really look like things did back in 2008, and particularly what I mean by that is, back then, we had NINJA loans, no interest, no job loans. People were getting four, five, six houses with no money in the dirt, so to speak, very little equity invested in those properties.
And what we just lived through, as I have said a couple of times now, the all cash offers, the $100,000 over, waiving appraisals, and that sort of a thing, the reality is, whether or not people bought overpriced assets, they have a lot more money in the dirt. And so, there's the potential for increased stability there, just because there's a lot more equity, people are less likely to walk away from houses, from real estate, even if there is a little bit of a dip in the value potential. And speaking to that, as we've seen substantial growth, some markets have seen 30% to 50% value growth over the last few years, last five years maybe, which is really phenomenal. So as interest rates increase, in some circumstances, there could be a potential dip, but we have not been seeing the value going back to what it was even two, three years ago.
And so, there's still a lot of value potential there that I think is baked into the new post pandemic pricing model. But we're really encouraging investors to limit the amount of debt they take on. I think these are still historically low interest rates, normal to low interest rates from what we're experiencing right now. The reality is that we've just, the last decade or so, we've had incredibly low interest rates, historically low interest rates, so now, as we get back to something that's more normative, it just feels high. So we still have access to credit, or at least most people have access to credit, and so we are suggesting limiting that amount of debt, also to stay debt free whenever possible. I think for a lot of our investors, they've spent a good chunk of their lives getting debt free, paying off a mortgage, maybe paying off all their debts. So as they're considering a potential lifestyle change, getting into DST investing, more passive real estate investing, we strongly recommend against taking on all sorts of debt.
We're generally seeing lower inventory, we're seeing some more speculative types of DSTs coming out. We're seeing a resurgence in some of those high risk types of asset classes, things like senior care, hotels, oil and gas, student housing. We also see oddball types of DSTs coming, just things that are far outside the norm that we see in the DST space. So I think it's a really important time to do your diligence, be working with reputable groups, and that's something that you can definitely speak with your Kay Properties registered representatives about, about some of the different sponsor companies and what they've done.
But I think it's really important to get back to the fundamentals right now. Don't be chasing yield when we're arguably probably over the peak, we might be on the way back down a little bit, a little bit of a correction going on, so don't try and squeeze the last drop out of this cycle, but rather look for investments that are well situated to potentially weather any storms that may be coming ahead. And debt free, real estate is arguably one of the best ways to do that, because we're mitigating all sorts of risks, no bank foreclosure potential if there's no banks involved. So yeah, I think that's great.
And then, again, coming back to the fundamentals of diversifying, we like to see investors diversify across geography, diversify across asset class, diversify across sponsor company. And so, selling one large property where investors may have a good chunk of their net worth and going into just one single DST is typically not advisable. One of the nice things is that you can diversify maybe into apartments and self storage and single tenant net lease and all sorts of different asset classes with different sponsor companies in different states, and that's one of the real potential benefits that we like to really encourage investors.
Brent Wilson:
Those are really great points, Alex, and thank you so much for digging into that for us. You gave us a lot of definitely things to think about and pay attention to for sure, as we're, some of us, potentially looking at these investments coming up pretty soon. So thank you again so much for your time today. I do really appreciate all the great information that you've shared with us. Do you have any quick final thoughts before we hop off?
Alex Madden:
Yeah, I think I hit investors with a lot of different things to think about, sometimes I speak a little bit fast, so please, I just want to encourage you, if anything that I said today piqued your interest, please reach out to your Kay Properties representatives. We could have a whole episode on any number of different small statements that I made. So we are certainly speaking at a high level today, but your Kay Properties representatives would be more than happy to speak with you about any of these things and dive into your particular situation. Because I get asked all the time, "What's the best DST out there?" And I always have to turn it back to investors and say, "What are your goals and objectives?" Because that's really going to be dictating what the, "Best DST is." It's going to be what's best for your situation, and we'll just have to talk through that and present some different options so we can understand what it is that you're looking for. So always great to just reach out and have that conversation.
Brent Wilson:
Perfect. Thank you again so much. We do really appreciate having you with us and sharing your time with us today. Everyone else out there, please log in to the Kay Properties marketplace at KPI1031.com. You can view currently roughly 20 to 40 different DST offerings from over 25 different DST sponsors. Or as Alex mentioned, reach out to your Kay Properties representative. You can call Kay Properties at (855) 899-4597, to speak with a licensed Kay registered representative who can walk you through your various options. Thank you again, Alex, for joining us, and join us next time on DST Essentials with Kay Properties, an in-depth look at various aspects of the DST 1031 exchange investment process.
Victor Coronado:
Hi, everyone. This is Victor Coronado, senior associate here at Kay Properties & Investments, and I want to thank everyone for patiently waiting and joining us on this Kay Properties 1031 Exchange DST Investment conference call. We will begin with risks and disclosures. DST 1031 properties are only available to accredited investors, generally described as having a net worth of over $1 million exclusive of primary residence, and accredited entities only, generally described as an entity owned entirely by accredited individuals and/or an entity with gross assets of greater than $5 million. If you're unsure if you're an accredited investor and/or an accredited entity, please verify with your CPA and attorney. The information herein has been prepared for educational purposes only and does not constitute an offer to purchase securities, DST properties, and/or real estate. Such offers are only made through a private placement memorandum, PPM, which is solely available to accredited investors and accredited entities.
Securities are offered through FNEX Capital, member of FINRA and SPIC. FNEX Capital and key properties are separate entities. This material is not to be interpreted as tax or legal advice. Please speak with your own tax and legal advisors for advice, guidance, regarding your particular situation. There are risks associated with investing in real estate and Delaware Statutory Trust, including, but not limited to, loss of entire investment principles, declining market values, tenant vacancies, and illiquidity. Investors should read the PPM carefully before investing, paying special attention to the risk section. Because investor situations and objectives vary, this information is not intended to indicate suitability for any particular investor. Please speak with your CPA and attorney to determine if an investment in real estate or DST properties is suitable for your particular situation or circumstance. Past performance is not indicative of future returns. Potential cash flows, returns and appreciation are not guaranteed, and could be lower than anticipated. Thank you everyone for listening in, and I'd like to turn the call over to vice president, Brent Wilson, here with Kay Properties and Investments.