Real estate investment has been sketchy for the past 8 years, as property values soared with a booming market. Traditional “buy and hold” investors had lost their paradigm and were trapped into sitting back and watching, having only rare occasion to pick up a strong long-term hold opportunity. But times change.
If you are a long-time reader of the Tallahassee Real Estate Blog, then you know I am not the typical “now is the time to buy” real estate agent. You know the type. In 2006, when the market was beginning to drop like a rock, all the NAR cheerleaders were screaming “interest rates are low, now is the time to buy.” That common theme is prevalent in most of the real estate marketing around the country.
I like to focus on the numbers. After all, if you want to invest in real estate with a buy and hold strategy, then you most likely are doing it to create wealth over a long period of time. And you most likely have an understanding of purchasing income producing properties to reduce risk and maximize your return on investment (ROI). This was very difficult as property values increased and rental rates did not follow.
Pay Attention To Cost Versus Value
The reason that investors are getting back into purchasing real estate investments is because we are at a point in the real estate cycle where properties are selling far below the cost it would take to replace them. This does not mean that buying below cost is a good buy relative to another purchase that can be made, it just simply means that the investor has a long-term safety net if a few assumptions hold true:
Assumption #1 – Over the long term, our population will continue to grow. Tallahassee (and the US) has seen steady population growth for many, many years. There are growth cycles that come and go, but ultimately I believe Tallahassee will be more populous in 20 years than we are today. Different political climates will come and go, but ultimately Florida is going to be a destination state as long as people value sunshine and a great year-round climate.
Assumption #2 – Over the long term, the cost to create new homes is going to rise. We have already seen a large increase in minimum wage last year, and this will affect the production costs of all of the materials that go into building a home. We might have a tough economy now that is creating some deflationary pressures on material costs, but in the long run, prices for “sticks, bricks, and labor” are only going to rise.
Assumption #3 – Normal rules for supply and demand will dictate value movements in the real estate market. Currently, with a glut of homes for sale in Tallahassee, property values are falling. Prices will continue to fall until the balance between supply and demand is restored. This is something so crucial to real estate investment that I publish a table of housing supply and demand each and every month.
Buy Low And Sell High
As simple as it sounds, this is the aim of the buy and hold real estate investor. And this is the reason that many have been sitting on the sidelines the past 6 or so years. You could not buy low. But thanks to the imbalance between housing supply and demand, buying low is possible again. And there is a simple way to think this through.
Using our 3 assumptions outlined above, the buy and hold investor is going to buy when homes are selling below the cost to produce them. They will purchase properties that generate the cash flow required to carry debt, thus creating a leveraged advantage (a little money can control a larger asset). They will hold the property until the market is such that they can sell at or above the cost of replacement. It is that simple.
The buy and hold investor knows that the market recovery will occur, he just does not know when. So he prudently acquires property during the buy cycle (values are trading below cost of replacement) and he patiently waits until the market shifts. My projections for the shift to a “sell cycle” are 7 to 10 years, based upon current supply of homes and developed lots.
The shift in the cycle could take even longer, but the buy and hold investor does not have a planned sale date, rather he has a planned sell cycle. If the hold is 15 years, so be it. The key is to acquire the property with the right amount of leverage to increase ROI, but not so much to risk failing to cover the debt service.
The real estate chart above is based upon a current property analysis that I am doing for a client. It shows an investment of roughly $40K which is expected to yield an annualized return on investment (ROI) above 25% over the next ten to fifteen years. These types of investments are abundant right now, just choosing the right property, in the wisest locations, is all the buy and hold investor needs to do to win from the current cycle of the real estate market. If this is something you would like to know more about, just drop me a note and we will schedule a time to answer your questions.