30 MIN
Apr 3, 2023

Transcript: Blockchain and Real Estate - Is It A Match Made in Heaven To Unlock The Future of Property Investment?

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Welcome to our new AMA episode 12, today we have Nick Halaris, who is President of Metros Capital a West Hollywood based real estate investment and development company. They have properties in Southern California, Nashville, Atlanta ranging from Luxury Housing to family housing. He is responsible for developing investment and development strategies.   

Previously, as a founder and president of AH Capital, Nick worked together with John (Metros Capital Chairman) to develop an impressive track record of investing in distressed residential and multifamily assets in the aftermath of the Great Recession. While at AH Capital, he directly supervised all of the firm's investments, arranged equity and debt financing, managed support function activities and oversaw property management operations at Sycamore Property Management, AH Capital's property management subsidiary.  

Here are the topics we discuss in this AMA: 


Pratik Wagh: Nick, thank you for accepting our request to do a guest AMA. I have been following your work on Real Vision for over a year. I subscribed to the Real Vision Channel in the middle of the Covid crisis and started seeing guests on the platform. You are one of the experts in the real estate industry, so I kept following your work. Eventually, I saw you do a series on the intersection of blockchain and real estate. I became intrigued, and now I'm doing some research for my company, Coin Change, based on the real-world applications of blockchain space, including real estate. I approached you, and you agreed, and I'm really glad we are here to talk about real estate and blockchain and how they work together.

Nick Halaris: Thank you, Pratik. It's great to be here. Thanks for reaching out, and I'm excited to have this conversation. I'm still interested in this space despite everything that has happened in the crypto world in the last 12 months.

You are an established player in real estate investment with your company, Metro's Capital. What got you interested in the blockchain space? What was the moment when you thought, "Let me explore this whole space and interview a bunch of people and learn about this space?"

Nick Halaris: My crypto genesis or origin story goes back to 2015 when I got invited to an exclusive investor conference that Raoul Paul had put on in the Cayman Islands. It was a cool group of people in the room, and we met for two days to share ideas. Several people in the room were pro Bitcoin, and although I had heard about Bitcoin by then, I had never taken it seriously. However, two gentlemen articulated a thesis that Bitcoin is a real, super cool technology for all these reasons, but put all that aside, it's either going to go crazy high for one of two reasons: either it's real and people start adopting it, or it's going to be the greatest speculative mania of all time. They argued that any prudent investor willing to take the risk should buy some. Bitcoin was literally $200 then, so I bought some. I had been following it since 2015, and when the technology started to advance and people started talking about the intersection of these technologies with more real-world things, I got really interested. That was during the middle of the Covid crisis when real estate tokenization got into the forefront of people's minds. A lot of companies were started, and venture funds were all over the place at the time. It just happened to coincide with that period when I was doing work with Real Vision.

Can you give an overview of how does real estate work on blockchain? Is it the process of buying that's changing or, the ownership is reflected, selling experience is better, fees are different. What is the process of real estate on blockchain?

Nick Halaris: To understand why people are excited about real estate tokenization, we should first talk about what happens now in the world of real estate investing. There are few companies attempting to tokenize real estate because it's not easy, and the landscape around crypto has changed dramatically in a short amount of time. But there is a use case. In the traditional world of real estate investing, if you're an investor or developer trying to raise money, you form a general partnership or limited partnership and try to attract investors. This can range from syndicating investors from high net worth individuals to attracting private equity companies. The idea behind real estate tokenization is to streamline this process by making it possible for investors to purchase fractional ownership in a property through a digital token, creating more liquidity in the market.

The structure of the investment process is the same, with a general partnership and a limited partnership investing in deals using a waterfall system, and it works efficiently in the American market. However, it is inefficient in terms of transaction costs because finding new investors is difficult and it becomes illiquid almost instantly. Tokenization is a potential solution to the liquidity problem and a way to attract new investors, especially crypto native investors or through crowdfunding. Before crypto, crowdfunding platforms such as Realty Moguls and Fundrise had already tried to solve this pain point, which marks phase one of the innovation.

Pratik Wagh: Okay, Nick, you addressed three of my questions in the same answer. There are different ways we can explore this topic. 

Considering whether solving liquidity issues makes real estate investment more speculative is important. If investors can buy and sell quickly, it may attract speculators. Would increased liquidity lead to greater volatility?

Nick Halaris: That's a great question. I'm excited about the introduction of liquidity into this space, which will present opportunities for people like me who know how to invest in real estate. It'll kind of look like the early stock market when stocks started trading after the Civil War and people started investing in them. There were incredible mispricings because people didn't know what they were looking at. That's what's going to happen with these real estate tokens. I'm almost convinced of it because people will invest in a complicated deal like a development deal and decide they want to sell for X, Y, Z reasons. This trading activity will misvalue that underlying deal. Smart investors will be able to look at it and say, "The market is valuing that limited partners' stake at 20% of its true value. Let me go in and buy all the available tokens that are available for sale." So, it'll create a whole new industry of real estate token hedge funds or whatever you want to call it. If what we saw in 2020 and 2021 remains a feature of the market, I do think that will happen.

Pratik Wagh: Okay, I'd like to pursue the regulatory front in this situation. 

Are there any regulations in place for this? In the US, we have rules that distinguish between accredited and non-accredited investors. For non-accredited investors, you can only invest a certain percentage of your net worth. However, if you are accredited, then you can invest in a bunch of private funds. How does it work if everything is public and available on the blockchain for the secondary market?

Nick Halaris: It's a complicated question, but it's super important and one of the reasons why real estate tokenization hasn't taken off, even though it's the biggest actual use case for crypto and blockchain in the whole crypto world. Real estate tokenization is solving a couple of issues that investors care about, such as finding investors and liquidity.

However, the American regulatory framework is difficult to navigate, making it hard for companies to start off with publicly traded securities. As a result, many companies are starting with the idea of doing Reg D filings, which is essentially an exemption from the normal registration process.

The Reg D exemption allows skipping the costly registration process, but the downside is that the interest has to be sold to accredited investors. There is a slight carve-out where 35 non-accredited investors can invest. Although it's not completely closed off to non-accredited investors, it's basically is.

Reg D has been useful forever, even without crypto and tokenization, but there is a one-year lockup on trading it, which is the main issue. The slow movement of tokenization into this space is ultimately due to the fact that after doing the Reg D filing and getting people into the deal, they forget about it. These days, a year is a long time for people.

The rules and regulations in real estate are specific to each county, and they vary from state to state. So, how can blockchain enforce them?

Nick Halaris: If we set aside the question of the SEC, such as the Reg D we just discussed, which applies statewide, complying with federal law for a real estate token is a known entity. You just need to follow SEC guidelines and you can get it done. However, real estate complicates things from a regulatory perspective because each state handles transactions differently, with specific regulations for title records and such. So if you were to set up something like Property's NFT sales in 50 different states, you'd need to create 50 different versions due to the different regulations. While not overly complicated, a good tech team would need to do some research to program these regulations into the NFTs.

We have this issue of real estate being illiquid, and then came these solutions called crowdfunding websites. Why is that not enough? And why do we need blockchain? Why can't we optimize those solutions? It's already an internet Web 2.0 solution, and people are comfortable using it. Why do we want to push blockchain on top of it? What is the pain point that these crowdfunding companies couldn't solve that blockchain apparently solves?

Nick Halaris: It is a good question, and honestly, the answer depends on who you ask. There are a bunch of people out there who think that the tokenization part and the liquidity part are useless, and so they don't see any upside to that. And there are reasons to believe that.

The main reason I think that makes the most sense is the idea that there would be actual liquidity that would be useful to you is questionable. What I mean by that is, let's say I put together a deal in my neighborhood in West Hollywood, a five-unit luxury apartment, and I sell the LP interests and I tokenize them. For that token to make sense, you'd have to have daily trading that would value that asset in an appropriate way. And it's hard to imagine in the current world that that would happen. Right? You'd have to have a lot more. St. Regis did this tokenization strategy. They were one of the first ones. They did this Aspen property.

Okay. The Aspen St. Regis in 2018 or 2019, something like that. They took like $20 million of their limited partnership and they tokenized it, and it's been trading on tZero, which is one of these Tezos. The volume is terrible, and it's unclear whether there's any real use case. There's been some sporadic trading on it, but that's a big asset. That's an Aspen hotel property, a nice hotel, and even that can't get any liquidity. So that's what the naysayers would say.

And then the people who say, "just wait," I think their hypothesis is like, one day you get enough of good properties on there, and you will get to liquidity. And that's probably true. We live in a world where there's a lot of sophistication to the financial markets. And so if you do this right, and there's no FTX people involved in the world, you probably do get some liquidity for big assets relatively soon, even in the next few years, is my take.

Theoretically, tokenization can improve liquidity for any fund or real estate property. However, there must be network effects for the specific platform on which the tokenization occurs. For example, if tZero is used to make the real estate liquid, but people are using other platforms, then it won't be very liquid because there must be users on tZero. Does fragmentation of liquidity occur if people use different platforms for tokenizing real estate?

Nick Halaris: The market for on-chain assets is fragmented, and while there are a few leaders like tZero and Oasis Pro markets, there is no clear dominant player like the New York Stock Exchange. A search for alternative trading systems on Google yields multiple platforms racing to become the go-to option for on-chain assets, including real estate and fund interests.

However, there is another approach to this market, which is the platform approach. For instance, Red Swan, a company interviewed on Real Vision, is building an internal platform where all deals are tokenized, and liquidity is available only within the Red Swan platform. This strategy allows Red Swan to guarantee liquidity by encouraging more people to join the platform. If you own a Red Swan token, you cannot sell it on tZero as it will be captive inside the Red Swan platform, a unique approach to this market.

Can you clarify the difference between tokenization and fractionalization?

Nick Halaris: There are several companies pursuing the strategy of crowdfunding plus fractionalization, where they split up an interest, such as Arrived Homes, which is backed by Amazon. They buy houses and split them into a thousand shares, which are sold without using blockchain, using legal contracts instead. Fractionalized interest solves the problem of high minimum investments, but there's no liquidity. These companies haven't taken that extra step to enable trading of fractionalized interests. They offer the opportunity to invest in the deal and own it until it's completed, usually when they sell the property. Essentially, waiting for the deal to mature is the only option to get out of it. That’s Fractionalization. 

Tokenization takes the fractionalized interest a step further by putting it onto a blockchain, creating a token that represents your ownership in the asset being fractionalized. This token allows for trading, making it a more flexible and liquid investment.

Is it the fund that is being fractionalized or the property itself, or do both exist? And what is the current landscape over there?

Nick Halaris: The landscape is actually mixed. The example I shared, there's more than one company doing it on a property-by-property basis. Roofstock was one of the companies that came about at the same time as the crowdfunding companies, and they were experimenting with fractionalizing individual properties and exploring the tokenization of them. At the same time, in the last year, people have also been experimenting with the idea of fractionalizing fund interests as well, and even some of the big players, like Goldman Sachs, have a project out. BlackRock also has a project out where they've taken one of their ETFs and made a token so that you can trade this token off exchange, but it reflects the value of that ETF.

In the case of Goldman Sachs, they took a fund, one of their real estate funds, and created their own blockchain. It's a private blockchain, not one of the public ones. They've set it up so you can buy and sell LP interest in that fund on this blockchain. I think it's a super interesting development. We'll see a lot more of that.

I find it interesting because pension funds and other large investors have recently tried to withdraw money from big funds like Blackstone's Real Estate Fund and even Starwood, causing the funds to close the redemption window. In their ideal scenario, they would never have to deal with these redemption requests because they want to avoid the crisis that arises when investors want their money back. When buying and selling real estate assets, having a lot of cash on hand is not desirable because it doesn't earn any returns, so the investments are tied up in illiquid projects. The dream scenario for these big players is to have so much liquidity that if an investor wants to sell their stake, they can find someone else to buy it, rather than asking the fund managers to redeem their interest. I think they are more excited about this opportunity than smaller players because they deal with much more demanding investors, including investment committees and numerous lawyers. If all decisions were made and dealt with on an exchange, it would be better for them.

Is this ground more fertile for smaller startups to disrupt, or do you think that the regulations and legal matters are so prohibitive that only the established players can tap into this and start their own side business in this space?

Nick Halaris: If you had asked me that question in 2021 when I was doing those interviews, I would have said that it's all about the entrepreneurs. However, the world has changed a lot since then. The fraud and bank failures have made it difficult for entrepreneurs to compete, especially given that crypto already had on-ramp and off-ramp issues. Now, it's an even bigger problem. As a result, I believe it has left the field open for big players like Goldman Sachs or BlackRock to come in and dominate the entire space

If you had to assign a probability to the likelihood of this space taking off in the next 10 years, do you see a majority of real estate funds being tokenized, properties being tokenized, or do you think this will remain a niche market or failed experiment, or won't even exist? Where do you think we will be on the spectrum in 10 years?

Nick Halaris: Yes, that's an interesting question. I believe tokenization will almost certainly become a huge market, so I'm optimistic about it. The reason is that, as I mentioned earlier, this is the only use case that makes sense for blockchain technology and tokens - they need to be attached to something real, like the real estate market or the fund market. It doesn't have to be just real estate; it could be any sort of illiquid asset. That's what they need to tie to in order to have a function, which is to provide entrepreneurs and investors with access to capital and liquidity. If you're an investor, how do you invest in something that historically lacks liquidity and now has at least some liquidity?

One technical aspect to consider is whether there is a mechanism to reflect real-world prices on the blockchain. Is it a pure discovery mechanism for those tokens, or are there Oracles that feed the live price of a fund or real estate into the blockchain space?

Nick Halaris: The pricing mechanism is yet to be determined. tZero operates with a price discovery mechanism similar to an exchange where the value is determined by volume. However, to address concerns of wildly misvalued assets, they attach data rooms to each token and include information such as the property appraisal to provide some market context. For instance, if someone was interested in investing in the St. Regis token, they could review the most recent appraisal before making a decision. As for Red Swan, it's unclear what valuation mechanism they use, but it's likely they establish a range and publish it, taking measures to prevent unhappy customers. The platform wouldn't want anyone to feel cheated after selling their LP interest for less than it was worth.

As we wind down this conversation, I'd like to focus more on what you're currently doing at Metros Capital. Are you working on this with another firm, and if so, how involved are you at this point? Also, what is your future roadmap in this space?

Nick Halaris: We are interested in tokenization and have explored the idea of tokenizing some of our projects. However, we have not taken any action yet. We have talked to white label tokenization firms such as Securitize, Digit Shares, Red Swan, and a few others, but we haven't gone forward with it.

I am still very interested in this space, and I will continue to follow its progress because I believe it's an important frontier of the real estate world, and I want to see it become successful. Our deals don't need to be tokenized because we have been fortunate enough not to have to raise money. My partner John and I have a small business, and we use our own internal capital. Therefore, we are not experiencing the pain points of finding investors or dealing with investors who want their money back before the deal matures. So we're just not in that position right now. However, we'll see how this world shakes out, and there might be a ton of opportunities for us to raise money from investors. If that's the case, I might have a different answer for you in six months if these banks keep struggling.

Can you tell us about your newsletter where we can follow the latest ideas that you come up with?

Nick Halaris: I have been writing since the start of Covid. My newsletter is named Profit Plus, and it is available on my website, I can provide you with the details, which you can include in the show notes. The newsletter covers a wide range of topics, including finance, investing, the economy, culture, politics, personal growth, and life. It has grown into something bigger than just discussing investment opportunities, and it has been a fun experience.

It seems like there are varying opinions on this technology. Some believe it's just a fad or a marketing gimmick, while others actively participate and strongly believe in its potential. You fall somewhere in between, but lean more towards the optimistic side. Dou consider yourself a rational optimist when it comes to this technology?

Nick Halaris: I think I'm rationally optimistic. What's happened with these failures and outright frauds is that it has put the brakes on people's interest and excitement in the entire space. Real estate has its own legacy of crime too. The first Ponzi scheme was a real estate Ponzi, if I remember correctly. It was in Florida real estate or something crazy like that. It's not like real estate has clean hands. However, people who are engaged in this and excited about it are serious investors and real estate players. They don't want to be associated with anything like that because it's devastating to their future prospects. That's like a big dark cloud overhanging the whole space. Even though if you take a step back from all that and say, "Okay, let's put all that aside," and you know, that's a big thing to do, it's hard to get over it. But let's get over it and look at the future. Tokenization of assets is happening and it's potentially super useful. It's super useful from the perspective of players who are in it now, such as Blackstone, Goldman Sachs, and companies like Metros Capital. But it's also interesting from the general lens of democratization of finance. In the old days, before all these frauds, everyone was excited about the prospect that not only pension funds could invest in the best real estate deals, but also individuals like me and you could invest alongside the best investors in the world. How cool would that be? So there's promise to this that I hope people don't forget, and I hope we see it continue to move forward.

Where can people find you? Where are you most accessible? 

Nick Halaris: So you can find me on my website, and I occasionally engage on Twitter @nickhalaris. Those are the two best places - the Nick Halaris website and Twitter.

Pratik: Thank you for your time. Hopefully, we can catch up in six months for a semi-annual update and see how things are going.

Nick Halaris: Let's do it. Thank you for inviting me on the show, Pratik. I enjoyed our conversation.

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