Successful Real Estate Investing
A Three-Step Approach: Property, Leverage and Management
By Noel Christopher
The housing market is at an all-time high with home prices and rental prices surging. With skyrocketing demand for property – both to rent and to buy, pressure is being felt in tertiary markets, not just urban hotspots. Is now a good time to buy property? Here is what you should know if you are thinking about getting started with real estate today.
Now could be a great time to start. Despite the fact that property values are at an all-time high, with only growth in sight, if you have the capital and a solid plan for investing, then there are a number of opportunities to be had. One solid investment comes in the form of single-family residential rentals (SFR).
In today’s extra-hot housing market though, you will need to look a bit harder for your golden opportunities. You will also need to have a solid investing strategy in place to back you up. Flying by the seat of your pants no longer cuts it with real estate investing. It is more important than ever to ensure that you are smart with your real estate investments.
Successful Real Estate Investing is a Three-Pronged Approach
What does success with real estate look like? While there are plenty of books, strategies, and approaches available that delve into real estate investing, ultimately it comes down to just three things: the property, leverage, and management.
Finding The Right Property
The average home value is currently $308,220, up 18.4% from a year ago, and property prices are expected to hold high over the next year. Zillow’s market forecast puts them on track to increase 11.8% by April 2022. Property in many markets is hot, and it is only expected to get hotter. Likewise, rents are climbing as well.
What does this mean for would-be investors? Now is a good time to consider single-family residential rental investments in secondary or tertiary markets. Apartments in downtown San Francisco might be sky high (and some may argue, even approaching bubble territory) but there are plenty of other opportunities available for real estate investors.
Single-family rentals are a great opportunity for investors today. These are properties that are experiencing growing demand – and in most cases, they are far less likely to be at risk of approaching bubble territory. There is a great deal of movement and investor interest in these properties, including the emergence of build-to-rent (BTR) SFR properties. With existing property prices surging, many investors are finding it more profitable to start turning out these properties at scale, in new developments.
Areas where investors should focus their attention include the so-called “smile states,” markets that extend almost across the southern half of the country.
For first-time investors or those who are looking to grow their portfolio now, I recommend markets that are just outside of urban hotspots which are usually hidden gems that are poised to experience strong growth. Often, it is these areas –and even popular rural locations, like vacation or second-home markets – where you can find better deals, and usually higher yields. Just make sure to look at localized economic factors to spot signs of a solid, growing market.
Now, ask yourself whether you are investing primarily for cash flow, appreciation, or both. Your goals will dictate where you will want to invest. In some booming markets, you may get less cash flow (lower net returns after expenses) – but better appreciation. In other markets, you will see higher cash flow, but less price growth. Look at historical appreciation rates on websites like Zillow to get an idea how much housing is likely to increase in the future.
Next up, run the numbers to see what type of cash flow your property is expected to produce. Two other metrics you may want to consider running are cap rate and cash-on-cash returns. Cash-on-cash returns are the net returns you will generate as a percentage of the amount of cash that you have personally invested. Cap rate, on the other hand, looks at the Net Operating Income (NOI) divided by the total purchase price. If you’re using all-cash for a deal, then these two metrics are the same.
Here is an example of running the numbers for cash-on-cash returns. If you were going to make $300 (after expenses) every month on your rental, that is $3,600 a year. Let’s say your cash investment in the property is $50,000. The $3,600 divided by $50,000 is 7.2%. Is that a good return? Again, that depends. Keep in mind that this strategy is not taking any appreciation into account, just cash flow. So, if you are buying in an area that is expected to grow, then yes, 7.2% is decent. If, however, you are buying in a rural area that does not see much appreciation, then I would recommend aiming a bit higher. The minimum amount that most investors aim for is usually between 10 and 12%.
Leverage and Structuring Your Deal
How you structure your deal will impact your returns as well. Real estate is one investment that gives you the opportunity to use leverage to maximize your returns and grow your portfolio. This means that you will be able to use the bank’s money to increase your returns. What does this look like practically? It means that instead of spending $100,000 cash outright to buy one rental property and then getting back 1-2% in cash flow, it would be better to use that money as down payments on two or three properties, and then finance the rest. This allows you to benefit from cash flow on multiple properties and appreciation on multiple assets.
Having a Plan in Place for Management
Finally, a good property is nothing without a clear management strategy in place. Even the best properties tend to go south quickly if there is no plan in place for management. While apartments or multifamily were the name of the game for easy-to-manage properties years ago, today, there are tools, systems, and services in place that make managing SFR properties, just as easy, even at scale.
There is a great deal of opportunity out there. Ensure you have a plan that will allow you to capitalize on all three aspects of real estate investing. With a great property in a good location, a deal that is structured to allow you to benefit from leverage, and a solid plan for management, you will soon be on your way to generating solid returns through SFR.
