Bay Area investing. Anything for under market value?

[Anita Ahuja]

Hi all. New to this forum. Ready to invest. Excited! I would love some advice I have 200k ready for to Pour into my first property. Thinking of single Family home with cash flow I live in Oakland , CA. My goals: Enough cash flow in multiple properties to - help family out who are struggling - retire early - travel in style! I'm a physician. Husband is in tech. We have twin 5 year olds I would like to stay in California, prefer to start in northern CA. I know the market is tight here. My question is where can I invest 200k in the Bay Area with decent cash flow. Anywhere to buy under market value here? I prefer to stay in state as I get started. Thank you! Anita

[Jonathan Twombly]

@Anita Ahuja,

I'm going to chime in with advice I give a lot, including on my own podcast and to coaching clients.  I don't know if this necessarily applies to you, since I do not know you, but I see this type of question a lot from an affluent new investor who lives in an expensive part of the country.  My investment clients often fall into this category.

Beware the temptation to invest for appreciation.  Generally, when new investors come into the market looking for an appreciation play, they come in at the top of the market.  This is because they are seeing people around them who have captured a lot of appreciation, and this looks very attractive from the outside looking in.

The problem is this:  the people who are now capturing that appreciation got into the market early.   They probably were not even investors, but bought their property to live in and were not strategic in any way.  The market went up around them, and they got lucky.  Unfortunately, you cannot replicate this luck.  New investors lured in at this point by the profits they see others taking are coming in at the top of the market and stand a good chance of getting burned.

Often times, they will pay out of pocket monthly for these properties, because the purchase price is so high that the rents do not cover the carrying costs (interest payments, insurance, taxes, maintenance, etc.)  They justify this because they believe they will get appreciation out of the property, but if they buy at the top of the market, once the market turns, they will be under water and have to wait a long time for the appreciation.  But, on top of it, they may be paying out of pocket while they are waiting.  This makes no sense.

I remember, in 2007, before I became a full time investor, and was practicing law in New York City, one of my colleagues told me she and her husband owned an investment property in the city.  My ears perked up.  I asked her how much they were making per month.  She said, "Oh, we're not making money right now, but we only have to pay $2,000/month for the mortgage because our tenant pays the rest.  And we will make a lot of money when we sell."  I was incredulous at this answer.  I had too much pity to go back and ask her what she did when the market crashed shortly thereafter.

There is a way to protect yourself in this market, but it's nearly impossible in the high-value markets.  Forget about appreciation, and invest solely for cash flow.  Preferably, you have set a relatively high hurdle for cash on cash returns to equity as a guide for when you will invest, but at the very least, make sure that you are cash flow positive after accounting for all expenses, including interest, taxes, insurance, maintenance and a vacancy allowance.  If you do this, it imposes discipline on you so you do not buy a bad deal, and it also means that, when the nominal value of the property decreases during the coming downturn in the market, you are still collecting cash from the property and can afford to hold it while you are waiting for the market to trend up again.

You don't need to worry about appreciation because cash-flowing assets will always appreciate along with the others.

I take issue with the person who advised you to buy in wealthy areas in a state like CA, as those are the ones least likely to provide you with positive cash flow.  However, if you go out of state into lower-density, less affluent areas, you cannot go wrong by looking for the best school districts.  The best renters are the ones who know where the best school districts are, and are determined to get their children into those schools, even if they cannot afford to purchase a home there.  They will move mountains to pay the rent, to make sure that their children can stay in those good schools. 

My two cents.

Jonathan