Risks That Come With Real Estate Tokenization and the Ways to Avoid Them

As of November 2021, tokenized real estate market cap was more than $29,900,000, with a trading volume of around $75,000. Every month, it shows a significant rise and becomes an even more interesting option both for investors and issuing companies. Although tokenized real estate is one of the most low-risk and safe types of investments, it still has its peculiarities. The Stobox team, which helps customers to tokenize any kind of assets, explains in this article the risks of tokenizing real estate and how to avoid them.

Current risks of real estate tokens

To begin with, let's define the types of risks that can be faced by issuing companies that are looking for investments.

Low-quality real estate or unreliable management

If the owner of the property does not invest enough in the worthy maintenance of the property, it becomes unattractive to people and falls in value over time. The location of the object, infrastructure, and other aspects are also of great importance because no one wants to invest in a property that does not look promising. Property owners need to better prepare for STOs and offer properties that can actually generate income for investors.

Weak business model

Offering a high-potential real estate object is only half the battle. The business model also matters – how the company plans to make a profit and share it among investors. For example, leasing commercial real estate is more nuanced than residential real estate. If you plan to tokenize your property, you should immediately decide on a business model and correctly describe it for potential investors.

Risks associated with market fluctuations

The market is always subject to global macro and microeconomic trends. Suffice it to recall the financial crisis of 2007-08, when the real estate market in the US rose and fell. During the Great Recession, many mortgage-backed securities (MBS) and derivatives dropped in value dramatically. Such crises can be global and local, so investors and issuing companies should be aware of all the news and be able to analyze it and see trends.

Low liquidity

One of the advantages of tokenized real estate is higher liquidity compared to non-tokenized assets. And yet, the risk of low liquidity is present. For example, investors may consider real estate a long-term investment and do not sell tokens. In this case, the sale of real estate becomes more difficult since there is no active market. However, in the case of narrow liquidity (low trading level or few funds in the liquidity pool), the asset's value will be affected by the exit of a large investor.

How to reduce the risks associated with real estate tokens?

Now that we know about the main risks that can come with tokenized real estate, we can find ways to mitigate them.

Thorough due diligence

Due diligence is a mandatory step before investing in both tokenized and traditional real estate. Your company needs to be ready for any kind of scrutiny: you should open up data about your team, work experience, property management, business model, and so on. Also, you should be prepared for the fact that the investor will want to study all the conditions of a potential investment and will take their time to make a decision.

Regulatory compliance

As you prepare for real estate tokenization, you should look into regulation nuances in your region. This issue is one of the biggest obstacles for companies. Consultation with experts who deal with client real estate tokenization will help avoid licensing and reporting problems. It is also necessary to comply with KYC and AML requirements and ensure that mortgage lenders and other counterparties understand what asset tokenization is and do not oppose it.

Value proposition

As with other types of investments, you should interest potential investors in tokenized real estate. A clear business model, good property condition, a turn-around plan to support the value of the token in case of a crisis, as well as competent marketing – all this will make you more attractive in the eyes of investors. Expert companies such as Stobox can also help with the latter.

Summary

Tokenized real estate is one of the most exciting investment opportunities today. However, both investors and issuing companies may face some risks. By carefully preparing for real estate tokenization, studying all the legal intricacies, and making a valuable offering, you will be able to succeed and receive funds to construct new facilities or renovate existing properties.