1. CFAspace CFA Level II Private Real Estate Investments Part I CFA Lecturer: Zhaoyun Ji a Provided by APF Academy of Professional Finance 专业金融学院

2. Map Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Real estate investments Basic forms Characteristi cs Classification s Private real estate Reasons to invest Principal risks Role plays in a portfolio Commercial property Due diligence Indices Financial ratios Valuing real estate properties Cost approach Sales comparison approach Income approach

3. Learning Outcome Statement a LOS a: Classify and describe basic forms of real estate investments. Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Figure is adapted from: 2014 CFA Kaplan Level 2 Study Note Book 4

4. Learning Outcome Statement b LOS b: Describe the characteristics, the classification, and basic segments of real estate. Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Real estate characteristics HeterogeneityHigh unit valueActive mgt High transaction cost Depreciation and desirability Cost and availability of debt capital Lack of liquidity Difficulty in determining price

5. Learning Outcome Statement b Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Real estate property types Residential Single family Multi-family Non- residential Commercial properties others

6. Learning Outcome Statement c, l LOS c: Explain the role in a portfolio, economic value determinants, investment characteristics, and principal risks of private real estate. Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com LOS l: Explain the role in a portfolio, the major economic value determinants, investment characteristics, principal risks, and due diligence of private real estate debt investment. Reasons to invest in real estate Current income Capital appreciation Inflation hedgeDiversificationTax benefits

7. Learning Outcome Statement c, l Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Principal risks Business conditions New property lead time Cost & availability of capital Unexpected inflation Demographic factors Lack of liquidity Environmental issues Availability of information Mgt expertiseLeverageothers

8. Learning Outcome Statement c, l Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com  Role of real estate in a portfolio Bond like: periodic rent pmts Stock like: capital appreciation of the property fluctuates with market.  Role of leverage in real estate investments Given the condition that the investment return is larger than the debt interests, using leverage can increase returns.

9. Learning Outcome Statement d LOS d: Describe commercial property types, including their distinctive investment characteristics. Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Comerical property types officeGross leaseNet leaseindustrialRetailMulti-family

10. Learning Outcome Statement e LOS e: Compare the income, cost, and sales comparison approaches to valuing real estate properties. Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com  Valuation approaches:  Cost approach: a buyer would not pay more for a property than it would cost to purchase land and construct a comparable building.  Sales comparison approach: buyer would not pay more than others  Income approach: present value of future cash flows

11. Learning Outcome Statement f, g LOS f: Estimate and interpret the inputs (for example, net operating income, capitalization rate, and discount rate) to the direct capitalization and discounted cash flow valuation methods. LOS g: Calculate the value of a property using the direct capitalization and discounted cash flow valuation methods. Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com  Income approach  Direct capitalization method: capitalizing the first year NOI with a capitalization rate.  Discounted cash flow method: PV of the future cash flows using a discount rate

12. Learning Outcome Statement f, g Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com  Net Operating Income (NOI) & Stabilized NOI Rental income if fully occupied + Other income =Potential gross income - Vacancy and collection loss = Effective gross income -Operating expense =Net operating income (NOI) +/- Temporarily Income/Loss =Stabilized NOI

13. Learning Outcome Statement f, g Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com  Capitalization rate  Discount rate (the required rate of return) = risk-free rate + risk premium Cap rate = Discount rate – Growth rate = r-g Property Value = NOI 1 / r-g

14. Learning Outcome Statement f, g Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Upfront premium % = (CDS spread - CDS coupon) * CDS Duration price of CDS (per $100 notional) = $100 - upfront premium % Example is adapted from: 2014 CFA Curriculum Level 2 Book 5

15. Learning Outcome Statement f, g Academy of Professional Finance 专业金融学院 Copyright © CFAspace.com Answer: Example is adapted from: 2014 CFA Curriculum Level 2 Book 5

16. CFAspace