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How Real Estate Investors Can Pivot in a Tight Inventory Market

• by Nate Trunfio
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A New Paradigm in Acquisition and Disposition Strategies  by Nate Trunfio The U.S. housing market is currently experiencing an unprecedented and severe housing shortage. In 2020, the national housing inventory declined by nearly 40%—leaving 449,000 fewer homes for sale compared to December 2019, according to Realtor.com. In May 2020, the national inventory had a 4.8-month supply of homes, according to the National Association of Realtors, but that number steadily dropped throughout the duration of 2020. By December 2020, there was a 1.9-month supply of homes, the lowest number ever recorded. The Major Challenge of Inadequate U.S. Housing Supply, a recent study by Freddie Mac, estimates that 2.5 million houses need to come on the market in order to combat the shortage. In addition to the record-breaking low inventory, the country also experienced extraordinarybuyer demand. Of course, low inventory and a high demand combine to create an increase in housing prices. As of December 2020, the national median price for a home was $340,000—an increase of 13.4% from the previous year. Changing the approach to investing Simply put, the housing shortage is forcing investors to rethink the way they do business. As a result, many are being forced to find and use different deal strategies. One example of this is many investors are going into deals with multiple business plans. For example, an investor could close a deal with two strategies: renovate a home with a B.R.R.R.R. strategy where they have intentions to hold the property long term while also analyzing the profitability of flipping the property by selling it to a retail buyer. Having multiple strategies allows an investor to be prepared for any changes in the market conditions. Another route investors are pursuing is more heavy construction projects and scrape-and-builds. These approaches are typically used because the replacement costs of many homes are comparable to what the building costs are. Also, many times more value is created when you re-build a property, or expand its footprint, compared to simply doing renovations on the home. On the other hand, some investors are doing the opposite—they are doing lighter rehabs which allows them to acquire assets at higher prices to compete with other buyers. Since there is so much demand for housing, end buyers are paying premium prices for homes with lower-end finishes, so investors are cutting construction costs to keep their margins. Investors are also beginning to transition away from fix-and-flip projects, turning to new construction projects instead. One reason for this change is that investors are finding more opportunities to buy land and build a new home at a lower basis than buying an existing property that needs renovations. Also, construction costs and budgets are much more reliable with new construction than fix-and-flips. The build-to-rent market is a tremendous strategy for investors. Rather than buying rental homes, investors are choosing to build rental homes because they will rent for higher amounts to better tenants with less maintenance costs. Build-to-rent is one of the hottest trends in real estate investing, and this trend should continue for quite a while due to the rental housing shortage and desire of tenants—especially millennials—to rent new homes versus being locked into buying a property. Where are investors going? The crunch on housing inventory has also caused some investors to expand into new markets. They are growing their “territories” in order to cast a wider net – moving from primary to secondary and tertiary markets where there is seemingly less competition. Many investors are following the “urban flight” migration trends. A mass exodus from urban areas across the country during the pandemic created excellent investment opportunities in the suburbs. As a result, investors are taking deals with lower margins. (It is not ideal, and we do not suggest it. But it is happening). Investors who focus on secondary and tertiary real estate markets have been laser-focused on this demographic trend pre-and-post-COVID. The trick is to not overpay for available suburban investment property, which is difficult to achieve during a housing shortage—especially with the competition also vying for investment properties. The trend of urban mass exodus and an increase in suburban demand is also affecting new construction. Subdivisions and small housing developments are popping up on just about every available plot of land to support the demand. How are investors finding acquisition opportunities in this market? The best real estate investors know that the real money is made on the acquisition when buying properties at a discount. But whether it is a rental property, a fix-and-flip, or land for new construction, investors are having a harder time than ever trying to buy properties at a discount due to the tight inventory levels. One way that investors find properties at a discount is by marketing directly to potentially motivated sellers. Operators are trying new marketing strategies and campaigns to get in front of motivated sellers. Still, their cost per acquisition from a marketing perspective has continued to rise due to other investor and retail buyer competition. This means investors either need to spend more money on marketing or expect less acquisitions with their previous budgets.  Why and when are investors selling? Dispositions and when to sell has also changed. Many investors who previously intended to hold their properties long term are now deciding to sell since home sale prices and demand are so high. As home prices have risen, home equity has multiplied, creating an incentive to sell earlier rather than later. Some investors are on the sideline waiting out the housing shortage. Rather than continuing to invest, they are selling their assets to accumulate liquidity for future distress in the market—perhaps when eviction and foreclosure moratoriums expire. What to expect in 2021 The 2020 housing market was largely unbalanced. It was a huge sellers’ market that left little room for buyers. The real estate market always tries to reach equilibrium, but finding a perfect balance between buyers and sellers takes time. As a result, there has been larger separation of the wealth gap among real