THE MOST IMPORTANT ASPECT OF REAL ESTATE INVESTING, IT MAY NOT BE WHAT YOU THINK
August 15, 2017 By Larry Arth
I am often asked to write articles for magazines and blog posts talking about the most important aspects of real estate investing. While most of the comments people write about on the subject are of course, more opinion based than scientific fact, it does warrant some serious consideration for you.
As every investor has their own investment objectives, investing style and investment strategy, it goes without saying that there may be a variety of thoughts on what is the most important aspect of real estate investing.
My take tends to be a little different
Many people have their own most important aspect and most often they are different from mine, until they think about it from a big picture perspective.
The big picture perspective to me is the most important aspect of investing. It is sustainability of the investment. It is common to say top cash flow, or top appreciation or low maintenance or a variety of other things that are important to you as an investor. Sustainability of any one of these aspects however is paramount to the big picture.
Big cash flow year one that gets destroyed in year 2 due to a large unexpected expense may absorb much or all of your cashflow in year two. Large appreciation trends that do a rapid about-face will deprive you of your equity growth goals. I think you get the picture. Without sustainability you have nothing.
How do you know if an investment is sustainable?
While there are no guarantees in any investment, when you actually stop to think about it there are a number of things you can look at that will give you very good indications of what the sustainability of the investment is. They are fairly simple things when you think about it. For years you have heard everyone talk about pro-formas and evaluating structures, and creating great exit strategies and structuring great deals. No one has mentioned buying sustainable investments.
Let’s look at some sustainable investment drivers
Pay close attention to “local market dynamics”… Seasoned real estate investors know it is paramount to understand what is going on within the local market. With real estate being all about location, you must understand what the best location is for you as an investor to buy at the current point in time. Market conditions are a moving target and successful investors know they need to stay in tune with the local market conditions. Knowing local market dynamics will offer you the clarity you need to make a good investing decision.
GROWING VERSUS DECLINING MARKETS:
At any point in time there are local market forces putting upward or downward pressure on market dynamics.
Case in point, a real estate market like Detroit, Michigan experienced a decade ago has had a declining population due to the auto industry moving out. The flip side of the coin is when a suburb of San Antonio opened a new Toyota manufacturing plant. They hired 2000 new employees. Needless to say many people moved into the area to work these jobs. All these new families need housing. You know what happened to the housing industry there? Indeed it grew, but more importantly, it was sustainable growth.
With population growth comes needs for more gas stations and strip malls and police force and fireman, etc. exponential growth kicks in creating sustainability.
If you are looking for resources to identify where there is growth potential, watch where the D.O.T. (Department of Transportation) is building highways, widening interstates and building on and off ramps. They spend millions researching the need for increased infrastructure and population growth is always the prime factor. This population growth tends to have great successful investing opportunities around them.
There is no such thing as a national or even state real estate market.
Know the difference between national and local information. National real estate stories always give a picture of average market dynamics across the country. These reports are important to read as they will provide you with a snapshot of the national average.
What seasoned investors know is they want a local real estate market with dynamics that are more impressive than the national average. For example if national average unemployment is 6%. A real estate market that only has 3, 4, or 5% unemployment suggests that this market has more sustainability toward job stability which in turns provides income to pay rents and mortgages.
Another powerful comparison is affordability rate. If nationally it takes 30% of your income to buy a median priced house, you want to invest in a market that takes less than 30%. Do you know there are markets that only require as little as 15% of the area’s median income to pay for the median priced home? Which market do you think provide the best sustainability for growth and cash flow?
As you can see when you look at the big picture and think about it these things all make great sense that an investment can provide for better sustained cash flow and appreciation potential if you ride the wave of each area’s economic prosperity. Ride all the up waves and then reposition your assets when you reach a sellers’ market. Then 1031 exchange your assets to the next emerging market, riding the upward surge and repositioning before the down cycle will always provide you sustained cash flow and appreciation.