NEWS: Weathering The Storm

Whether you are a novice investor or a long-time pro, occasionally you get stuck having bought at the wrong time in a real estate market, and before you know it, the home is worth less than what you paid for it. This is always such a disappointment. Even though our market here in New Mexico is doing pretty good and so far none of my clients New Mexico investments are having this problem, many of my clients, friends, and associates are having this issue with their investments in some of the other good long-term markets, so it is worth addressing.

Buying Bad
Generally as an investor has been doing this for a while, they start to recognize patterns and those patterns help them avoid getting into properties which may turn upside down on them. However, even seasoned investors sometimes get lured into seemingly great deals and before they know it, they are on what seems to be a sinking ship.

Evaluate
Immediately when you see this happening, you need to evaluate the investment and your financial position. Can you hold the property through a bad-time? Most of the time, people will say, “No”. However, the answer is almost always “Yes”. You almost can’t afford not to. If you can’t, you may be in trouble. If there is no way you can hold the property and rent it out during the slowdown, then PRICE IT TO SELL IMMEDIATELY. Most of the time, slow downs are augmented by undercutting by new construction homes with their great builder incentives, buyers with a lot of equity that can easily cut into that equity to sell quickly, and foreclosures and that brings values down. If you need to sell, you need to price it to sell and get out of it quickly at a price that will get rid of it quickly.

Why Hold
Holding real estate in a slow market does not seem very fun or even profitable. What most don’t realize is that slow real estate markets have some good upsides. If you have bought your property well within the market, when a slowdown hits, you will likely be ale to rent the property faster and for more money. When the market slows down, many would-be buyers get scared and decide to sit on the sidelines by renting. This increases demand for rentals and drives up rental prices. So the cash-flow portion of your investment often gets even better during slow markets. Why would you want to sell?

If you can weather the storm, real estate will eventually pick back up and you will be able to sell the home faster and for more money when it does. Don’t sell in a buyer’s market, wait for a seller’s market again.

Buy High, Sell Low
Though I have just explained this principle the general trend of the new and un-informed investors seems to sometimes be, “Buy High, Sell Low”. Even though they don’t mean to do it, it happens much more than it should and here is how it works:

Joe Smalgane has several friends who have found a good market to invest in and they buy a few investment homes. Being the cautious person Joe is, he waits to see what happens. As Joe watches, his friends do really well over that first year. Joe checks the internet for news on the real estate market that Joe’s friends have invested in and finds articles on just how wonderful everyone is doing in that market.

Joe decides it is time to get off the bench and jumps into the market. He find what looks like a nice home and before he knows it, the market begins slowing down. Because Joe got into the market late, he doesn’t have the gains that everyone else has and before he knows it, the neighboring homes for sale are being lowered below what Joe just paid for his home. Many of Joe’s friends and family tell him he needs to sell the home quickly and get out before things get even worse. Joe’s friend Tom tells him to rent it out and weather the storm and things will be alright. Joe begins to despair and decides to follow what most have told him and puts his home up for sale. He puts his home below the other homes, lucks out, and sells it quickly. He congratulates himself that he got rid of the home before he lost any more than he did and decides that real estate investing is too risky and will not try it again.

This scenario is unfortunately too common. Though real estate (in the good long-term markets) has its ups and downs, over the long-term real estate always does well, very well. Though Joe may know this intuitively, Joe doesn’t have enough experience or insight to look past the short-term and therefore he has in effect “Bought High and Sold Low”. Joe’s friend on the other hand has been investing for a few years and before getting into investing did some research and made some good contacts that helped him learn the principles of real estate investing and avoid Joe’s mistakes.

Buy Low, and Don't Sell
Joe’s good friend, Tom Richman was one of Joe’s friends who bought early. Tom had done his research on the market and saw good indicators of what was happening. He then found a good real estate agent that was in-touch with the local market and where some good investment areas may be. Tom then made several good purchases. During the next year, Tom enjoyed higher than normal gains and watched his profits grow. Though he contemplated selling during this high-point, Tom decided that he would hold the investment through the slowdown that must be coming.

As Tom predicted, the slowdown did come. It came a little quicker and more sudden then he expected. Never-the-less, when everyone else was panicking, Tom sat back chuckling a bit to himself, “Everyone complains about how bad this market it. I was just able to increase my rents by $100 per month. What could be bad about that”? Tom knew that when a real estate market slows down, often times rental prices go up, creating an even better cash-flow for those who stick out the slower market.

Three years later, Tom has increased rents a total of $150 dollars per home and has been enjoying the better rental market that usually accompanies a real estate slow-down. Tom decides to give his real estate agent a call and finds that prices are finally on the rise again and are up $30,000 from the high-point a few years back. Tom hangs up and almost calls his friend Joe to tell him the good news, but remembers that Joe sold his home during the slowdown and the recent increases may be seen by Joe as bad news. So Tom, itching to tell someone about his good decision, decides to take the family out for dinner to celebrate.

Fiction and Fact
I hope this fictional story helps illustrate a very real truth. Being in real estate investment for the long-term is the only way to do it. It is good to find investment that look like they will do well in the short-term and long-term. However, in the short-term many times the investments don't turn out quite like you hoped. Over the long-term (in a good long-term market) you should do very well.

Jared Murphy
Real Estate Advisor