I just read a fascinating article regarding 5 New Rules of Real Estate. The author made some interesting points in the post, and I believe, accomplished the overall goal of inspiring a solid response. The responses are quite telling, because there seems to be an overall consensus that people are afraid of real estate.
The reality, as discussed in one of my previous blogs Opportunities Abound, is that the rules of investing are not new at all. In fact it is now that the foundational concepts of supply and demand, market motivations, and market rent versus property expenses must come into play.
Supply and demand we all understand. When the supply exceeds the demand (as it does today) buyers are placed into the driver’s seat and as long as no one is looking for a quick flip they are unlikely to get hurt at today’s prices. But the real question is not a question of value. The real question is one of financing. If someone needs to borrow money to purchase a property, they are placing themselves at risk. This factor of risk was always the case, but generally, consumers ignored this risk with the assumption that the lender is the one putting up the money and the one who would suffer the loss. The real loss is that when the consumer loses their home, their creditability and esteem, the price of this foreclosure is often more than the typical borrower can bear.
The more equity a buyer can establish when purchasing the property, the better. This statement is so very obvious and yet it is amazing how many people did not seem to understand this concept. Of course the gurus will tell you to leverage your money, by carrying a higher loan to value ratio you can hold on your cash and keep it liquid; however, anyone who followed this advice has found themselves in a world of hurt at this time.
Market motivations of course refers to the reasons that potential buyers are attracted to a particular property type or location. When a property has a particularly attractive location because of its school district, or its wealth rating, or its positive economic influences, this property will generally sell before homes without these attractions. Understanding potential purchasers and their motivations will help a buyer or investor to set a price when they purchase the home.
The concept of income analysis can become quite complex and should not be taken lightly. An experienced real estate appraiser would make an excellent advisor, as would a real estate broker or property manager. The basic idea is that the debt service of the property (i.e. mortgage + taxes + upkeep + vacancy and collection loss + management costs) should be equal to or less than the market rent a property can earn. If the market rent will not support the expenses related to the property a home owner is thinking of purchasing, then their option of renting out this home, should they lose their job, has been removed from them.
Bottom line, real estate like any other investment, needs to have a very clear purchase price that takes into account the factors noted above and a very clear exit strategy. Most people make the mistake of investing without an exit strategy and the purchase price only takes into account the competing properties without considering debt service, or market rent.
In short, now is a great time to buy property as long as the buyers do not lose their common sense along the way. A real estate purchase is not about emotion or pride, it is very much about logic and gain. KISS – Keep It Simple Stupid my father used to say (not an original saying), but this method works in life and in investing as well.
See you around the water cooler!