Who is ACTUALLY cash flowing with these interest rates???

[Mark A.]

With interest rates at or near 7%, who is purchasing property right now (or in recent times at these rates) and actually predicted to cash flow after expenses (mortgage, taxes, repairs, maintenance, insurance, etc.)?  

Sure, you can cash flow if you buy a property that needs a full gut rehab, but I'm more talking about small/medium multifamily that may require none to some rehab (new floors/countertops/etc). Cap rates, at least in my analysis, do not have seemed to have dropped proportionally to rates.

I have been looking in a lot of markets, and the deals are sparse and people are still seemingly throwing money at properties assuming that rates will be 5% at the end of the year and rents will continue to grow in the fashion they did during the pandemic.  

My thinking is this - there are two likely scenarios in the near term, both of which lead me to NOT buy property assuming I will cash flow better in the very near future:

(1) Rates are dropped because of a recession.   With a recession, unemployment shoots up, which will be bad for rents and vacancy.   

(2) No recession.  Unemployment stays where it's at, we'll continue to have high inflation and rates will continue to be raised.  The argument could be made that rents will continue to increase with high inflation, but the data I've seen indicates that people are maxed out right now. Everyone seems to forget that interest rates don't just affect mortgage rates and business's ability to get loans, but your everyday tenant's credit card interest rate just increased also.  Wages are also not increasing at the same rate as inflation.  And if rates continue to go up, presumably we will see unemployment go up at some point leading back to scenario 1.  

The point is, it appears that the only way inflation goes away is with unemployment going up, at least at some point.  And in that case, I don't believe you will be in a better cash flow position.  

Where is the silver lining?  What am I missing here?  Is everyone just banking on appreciation like we saw over the past 3 years or a "soft landing" (where magically, inflation goes down and unemployment stays low). 

Mark

[Vicki X.]

Quote from @Gino Barbaro:

@Mark A.

It depends on what market you're looking in. You need to be looking at a lot of deals to find the one that will cash flow. We just closed a deal that is cash flowing day one, but has huge upside once repositioned.

There's a battle between sellers and buyers, and deal volume has dropped dramatically in January, and will continue to stay flat unless sellers drop prices. Only motivated sellers have to drop prices, and if rents do start to drop, we're gonna have a lot of motivated operators.

It's all part of the market cycle. This one is just taking a bit longer to play out.

Hi Gino, I'm also in St Augustine. Appreciate your insights. Can we connect?

[Jeremy H.]

I just did a house that cashflows about $250 after PITI, PM, budgeting 7.5% for repairs, 7.5% for CapEx, and 5% for vacancy. This is at a 7.25% interest rate (free refi anytime within 3 years)

This was my lowest one so far and I was hesitant to do it - I did it because of the tax deduction, and the equity gain. I'll be all in for ~200k, house is easily worth 230k in this market. Area is up and coming, lots of new construction, tearing down old buildings etc and it's 3 blocks from the major university here. So it was a little bit of a gamble but we'll see how it plays out in the next 10 years. 

[Ika Sargeant]

@Mark A. You are spot on...I am beginning to have a stomach ache about this. What scares me is that prices of homes continue to rise, at least where I live. But reading this thread too is scary because many here believe rents and prices will continue to rise. I think if you remember all the other real estate cycles you need to ask if we are sitting on a bubble. The fact that it has not busted is not prove of its non existence as some people here seem to think. Yes the last couple of years of Free money has driven us into this. I know the demand continues to be strong with extremely low inventories- but does this mean we are going to the sky. But are these assets worth what we have paid? For haven sake people were buying digital coins and asking zero questions about what is underlying the asset they are buying. But may be the rest of us would be left crying after you all fly off in that golden parachute.

[Steve Vaughan]

Quote from @Jeremy H.:

I just did a house that cashflows about $250 after PITI, PM, budgeting 7.5% for repairs, 7.5% for CapEx, and 5% for vacancy. This is at a 7.25% interest rate (free refi anytime within 3 years)

This was my lowest one so far and I was hesitant to do it - I did it because of the tax deduction, and the equity gain. I'll be all in for ~200k, house is easily worth 230k in this market. Area is up and coming, lots of new construction, tearing down old buildings etc and it's 3 blocks from the major university here. So it was a little bit of a gamble but we'll see how it plays out in the next 10 years. 

Very honest assessment.  $30k in equity capture and $250/mo true net cf in an improving market.  What was your $ investment if I may ask?   
My price points are generally a little higher so my min equity capture of 12% is closer to $43k, but our ratio mins seem aligned. Equity capture at the buy isn’t discussed enough.
 
So I've sold most all RE (after 20 yrs) and am on the sidelines, shifting to dividend paying securities.  I've always compared returns to what's available risk-free, which is about 4% today. Until last year it was more like 1.5%, so a much easier decision. 

In general, the risk and work RE requires doesn't earn enough of a premium above risk-free couch returns to justify the effort.  Certainly not just for cashflow.  Gotta also have significant equity capture, like you have, to bother. 

[Mark A.]

@James Hamling

All solid points.

But none of what I'm saying implied that I think REI is a get rich quick scheme. I buy property to hold long term. It still doesn't mean I don't want cash flow as a defensive metric. But my point and comment on this is more simple:

Cap rates *should* increase as interest rates increase.

What it appears to me is that cap rates (at least on small multis) have not adjusted for interest rates.

It sounds like to me, you believe the housing market (and employment market and overall economy) has fundamentally changed since CoVid and that is holding cap rates down. But at the same time you are saying this is more of a “normal” housing market where you have to work for those returns. Normal to me, means that cap rates increase with interest rates.

If you believe inflation is going to be elevated at 6% for the next 10 years, sure, you care less about having a low cap rate now because your rent will continue to increase. If inflation does not continue to trend down (as it has steadily been doing) rates will continue to go up and eventually we’ll be in a recession, which will be bad for rents and vacancy.

[Jeremy H.]

Quote from @Steve Vaughan:

My price points are generally a little higher so my min equity capture of 12% is closer to $43k, but our ratio mins seem aligned. Equity capture at the buy isn’t discussed enough.
 
So I've sold most all RE (after 20 yrs) and am on the sidelines, shifting to dividend paying securities.  I've always compared returns to what's available risk-free, which is about 4% today. Until last year it was more like 1.5%, so a much easier decision. 

In general, the risk and work RE requires doesn't earn enough of a premium above risk-free couch returns to justify the effort.  Certainly not just for cashflow.  Gotta also have significant equity capture, like you have, to bother.  

I'll be all in right around 55k for 20% down and the rehab - that was the tough part ~5% CoC return. Not worth buying in cash for a 20k rehab either. So that rehab money all got left in the deal. Wouldn't work as well for a BRRRR either since the loan amount would be higher, I'd have to close twice and leave all that cash in it for at least 6 months. Typically my CoC is much better than this. It was really the equity and tax advantage combined with the location and what I believe we'll see there in the next 5 to 10 years. Put it this way - I don't have a problem doing a few like this but I would not consistently make this deal. I got it from a wholesaler before he emailed/advertised it out to the buyers list. Part of it was too - if I don't get it, I KNOW someone else will. The size, location and built in equity just made it a deal this time around.

You hit the nail on the head with the risk/workload related to RE. I invested heavily in the stock market prior to RE - it was easy and the average return over 30 years is good too. I'd agree there is certainly more to it that CF - that's part of what can make RE great (still have to make good CoC returns and CF). Buying at a discount is really where it's at. I typically try to come all in at 80-85% of market price. 80% is even hard to do. 85% is fairly reasonable, to me anyway. The the tax deductions in RE are ridiculous - that's what initially got me started. Lame part is now I have essentially built a tax deduction asset - can't deduct due to income and non REP status. But it's there to do one day!

This deal really did highlight the equity capture to me - many ways to look at a deal other than straight CF

[David B.]

I’m no expert, but I’d like to offer my two cents. 

First, I’m still finding deal that cash flow. The cash is tight, but they’re there. I also look for projects I can value add too and pull *most of my equity out. Columbus has been good for me in this area. 

I also invest in SLC, where I either house hack or flip properties. It’s not a great cash flow market, but man… appreciation is great here. 

There’s a lot of differences in these markets, but they share some similarities: 

1. They have large economic / population growth 
2. They are limited by where you can build, and therefore properties are appreciating at a faster rate cuz where else would you build? 

So these specific markets, where business is flocking too, appreciation existed before the pandemic and where I expect them to continue after the recession (eventually) are where I put my money. 

I think on a macro level - 1. It’s arguable where inflations really at. The feds official stance is six percent - and I suppose that could be true. But there’s a lot of data to suggest that inflation is MUCH higher, and we just changed how we’re measuring it. I don’t know the answer. I just know that rents are still growing in my areas and that inflation will not return to 2% anytime soon. 

2. The housing market, generally, is extremely depressed from the lack of building we had for over a decade. Yes - there’s a bubble. But underneath that bubble very little inventory for a new generation of home buyers. And it does seem people want to buy home… look at the mass exodus of people from NY and CA that went and bought property in cheaper places across the country.

3. People still need places to live during a recession. Yes - there will be vacancies. Where and how often will depend on the neighborhood you buy in. But it doesn’t mean that every unit you can rent will suddenly be vacant. It means there may be a balancing / turn over act that needs to be navigated. The best reason for doing this is because you value the asset/ neighborhood/ market you’re buying into in the long run. 

If there is a stagflationary event, or if the housing market “crashes”, then the cash I keep on hand is designed to maximize on those opportunities as well. It’s part of the reason I’m still trying to flip… I like the strategy of being in and out on a property too. Doesn’t always have to buy and hold. There’s definitely value in being fleet footed in this market. 

There’s definitely risk right now. The best way to operate (for me) is to find off market deals I can add value to, push rents up, and refinance most of my capital out. Or - for a house hack - I’m buying in A neighborhoods where the odds these markets will collapse long term are slim.

I think people will adjust to new rates. If we get back to 5- 6% percent again, I think that will continue to drive prices up.

Commercial real estate, where interest rates have a direct impact on cap rates, and thus value, is a completely different discussion. I’d be more hesitant there. 
 
thanks for letting me share. Again - not an expert. Still learning. 

 

[James Hamling]

Quote from @Mark A.:

@James Hamling

All solid points.

But none of what I'm saying implied that I think REI is a get rich quick scheme. I buy property to hold long term. It still doesn't mean I don't want cash flow as a defensive metric. But my point and comment on this is more simple:

Cap rates *should* increase as interest rates increase.

What it appears to me is that cap rates (at least on small multis) have not adjusted for interest rates.

It sounds like to me, you believe the housing market (and employment market and overall economy) has fundamentally changed since CoVid and that is holding cap rates down. But at the same time you are saying this is more of a “normal” housing market where you have to work for those returns. Normal to me, means that cap rates increase with interest rates.

If you believe inflation is going to be elevated at 6% for the next 10 years, sure, you care less about having a low cap rate now because your rent will continue to increase. If inflation does not continue to trend down (as it has steadily been doing) rates will continue to go up and eventually we’ll be in a recession, which will be bad for rents and vacancy.

 What I am saying is what's "normal" to you, in your eyes, is wildly ABNORMAL to economics, economic theory, and the economy as a whole. 

As I said, your foundation is built on a flawed footing. Cap rates were in a "bubble" by the abnormally and unsustainable volume of insanely cheap $. That lowering of rates, well into what I think you may better understand if I call it a "Reverse-Bubble", made cap rates GROW to an abnormal level. Combine that with the rapid rate of appreciation being realized in rental rates, this created a situation where person who only have a very narrow lens or experience of just last few years, now have a very incorrect concept of what "normal" really is. 

As you have said Mark, your one of these. 

So as long as you hold this notion that you get to self define what is "normal", and the world is supposed to bend to making it so, yes, it will be an experience of consistent let-down and frustration because reality simply does not care your definition of things, nor any persons dictation. 

I suggest doing research, work to understand the market, what is "normal" and what is not. Only with the accurate comprehension can true opportunities be recognized or understood. 

[Jason Thompson]

@Mark A. Great post, Mark. I have pivoted to less conventional methods of financing my deals; I have been focusing on loan assumptions (typically better rates and terms than what's out there today) and seller financing; with these two strategies and a little creatively I have been managing to still cash flow above 8% during the underwriting and not compromising my investment criteria. I hope you reach your investment goals this year, Mark. 

[David P.]

Bumping this since it is an interesting topic and probably applies to every investor right now in real estate. When i purchased a duplex mid last year I thought 4.875% was high and I was already having trouble cash flowing. Currently I looking at making an offer on a tri-plex that is priced slightly below market and I am looking at rates in the 7-8% range. The current tenants are month to month with lower than market rents so there is room to grow. I will be almost negative 500 a month in cash after factoring all expenses.

The way I see it is that it is a long term play and if i can purchase a property below market then I am still good whether or not the property cash flows. In future there is many avenues to make gains and profits. If i just keep my money in the bank it is not doing a whole lot for me either. It is defintely hard to time the market and if rates were to drop the competition will also rise. For a real estate crash to happen it would require a lot of inventory to hit the market. Foreclosures seem unlikely due to everyone having equity. If a ton of people started going unemployed then I can see a crash eventually happening with people having a hard time to pay bills. For now I say if you have money to play and you have a passion in real estate and see a deal out there then the cash flow part is just a small part in the overall weatlh of owning real estate. 

[John Morgan]

Investors aren’t touching most deals because the numbers don’t work. Home owners will keep buying due to high demand and low inventory which will keep prices high. Tired landlords are still selling to wholesalers or investors to flip. This takes more and more rentals off the market. Especially affordable rentals. Where will the new inventory for available rentals come from? We’ll have a shortage of rentals for sure and not many of us are buying more rentals now to replenish this shortage. However, I see a massive shortage of rentals in the next decade so I’ll keep buying. I see market rent going up at least 5-8%/year indefinitely.

[Carlos Ptriawan]

Quote from @David P.:

Bumping this since it is an interesting topic and probably applies to every investor right now in real estate. When i purchased a duplex mid last year I thought 4.875% was high and I was already having trouble cash flowing. Currently I looking at making an offer on a tri-plex that is priced slightly below market and I am looking at rates in the 7-8% range. The current tenants are month to month with lower than market rents so there is room to grow. I will be almost negative 500 a month in cash after factoring all expenses.

The way I see it is that it is a long term play and if i can purchase a property below market then I am still good whether or not the property cash flows. In future there is many avenues to make gains and profits. If i just keep my money in the bank it is not doing a whole lot for me either. It is defintely hard to time the market and if rates were to drop the competition will also rise. For a real estate crash to happen it would require a lot of inventory to hit the market. Foreclosures seem unlikely due to everyone having equity. If a ton of people started going unemployed then I can see a crash eventually happening with people having a hard time to pay bills. For now I say if you have money to play and you have a passion in real estate and see a deal out there then the cash flow part is just a small part in the overall weatlh of owning real estate. 

 There are more chance of Bank of America going into bankruptcy rather than US landlord to sell their rentals.

[Carlos Ptriawan]

Quote from @John Morgan:

Investors aren’t touching most deals because the numbers don’t work. Home owners will keep buying due to high demand and low inventory which will keep prices high. Tired landlords are still selling to wholesalers or investors to flip. This takes more and more rentals off the market. Especially affordable rentals. Where will the new inventory for available rentals come from? We’ll have a shortage of rentals for sure and not many of us are buying more rentals now to replenish this shortage. However, I see a massive shortage of rentals in the next decade so I’ll keep buying. I see market rent going up at least 5-8%/year indefinitely.

 So I read INVN dan AREIT didn't buy house this year but they would buy more houses if interest rate going down or home price going down.

Now we know home price is not going down and there're large chance that interest rate would go down next year due to inflation would be below 3%.

Now we know that even if rate is high, home price is going higher.
Wewould also know that those REIT would restart buying home when rate going down which means prices are rising again.

In both scenario home price can only go up LOL

[Eric Gerakos]

Quote from @Mike Dymski:

Yes, the lenders are cash flowing!

 This. When rates are high be the lender. When they are low be the borrower.......

[John Morgan]

Quote from @Carlos Ptriawan:

Quote from @John Morgan:

Investors aren’t touching most deals because the numbers don’t work. Home owners will keep buying due to high demand and low inventory which will keep prices high. Tired landlords are still selling to wholesalers or investors to flip. This takes more and more rentals off the market. Especially affordable rentals. Where will the new inventory for available rentals come from? We’ll have a shortage of rentals for sure and not many of us are buying more rentals now to replenish this shortage. However, I see a massive shortage of rentals in the next decade so I’ll keep buying. I see market rent going up at least 5-8%/year indefinitely.

 So I read INVN dan AREIT didn't buy house this year but they would buy more houses if interest rate going down or home price going down.

Now we know home price is not going down and there're large chance that interest rate would go down next year due to inflation would be below 3%.

Now we know that even if rate is high, home price is going higher.
Wewould also know that those REIT would restart buying home when rate going down which means prices are rising again.

In both scenario home price can only go up LOL

I don’t see the fed cutting rates for a few years unless we have a major recession. If rates are cut then home prices will sky rocket again like 2020 and 2021 due to very high demand today with very low inventory. The CPI is weighted heavily with housing as a big factor. If housing costs go way up again then inflation goes way up. So the fed needs to keep rates up high like they are now for a few years at least to help tame inflation and keep it around 3%. And if the economy crashes, then the fed can lower rates to save us from a major recession. But it looks like we are having a soft landing now and the job market is still hot so that will keep home prices solid and slightly rising in most of the country. And market rent will go up 3-5% annually. 

[Carlos Ptriawan]

Quote from @John Morgan:

Quote from @Carlos Ptriawan:

Quote from @John Morgan:

Investors aren’t touching most deals because the numbers don’t work. Home owners will keep buying due to high demand and low inventory which will keep prices high. Tired landlords are still selling to wholesalers or investors to flip. This takes more and more rentals off the market. Especially affordable rentals. Where will the new inventory for available rentals come from? We’ll have a shortage of rentals for sure and not many of us are buying more rentals now to replenish this shortage. However, I see a massive shortage of rentals in the next decade so I’ll keep buying. I see market rent going up at least 5-8%/year indefinitely.

 So I read INVN dan AREIT didn't buy house this year but they would buy more houses if interest rate going down or home price going down.

Now we know home price is not going down and there're large chance that interest rate would go down next year due to inflation would be below 3%.

Now we know that even if rate is high, home price is going higher.
Wewould also know that those REIT would restart buying home when rate going down which means prices are rising again.

In both scenario home price can only go up LOL

I don’t see the fed cutting rates for a few years unless we have a major recession. If rates are cut then home prices will sky rocket again like 2020 and 2021 due to very high demand today with very low inventory. The CPI is weighted heavily with housing as a big factor. If housing costs go way up again then inflation goes way up. So the fed needs to keep rates up high like they are now for a few years at least to help tame inflation and keep it around 3%. And if the economy crashes, then the fed can lower rates to save us from a major recession. But it looks like we are having a soft landing now and the job market is still hot so that will keep home prices solid and slightly rising in most of the country. And market rent will go up 3-5% annually. 

 Goldman says Fed would start reducing rate Q2 next year.

For me it's very easy, Fed is always trying to make 0 real rates. Since CPI is 3%, our Fed rate should be 4-5% by now.

It's just Mr Fed doesnt want to reduce Fed rate too soon that may create negative feedback to inflation. If within 3-4 quarter we keep 3% rate then it's automatic our Fed rate would be 4-5%.

It's simple math, if Fed real rate is negative 4% like today, it's the US gov. that would collapse, not us.

[Todd Jones]

Quote from @David P.:

Bumping this since it is an interesting topic and probably applies to every investor right now in real estate. When i purchased a duplex mid last year I thought 4.875% was high and I was already having trouble cash flowing. Currently I looking at making an offer on a tri-plex that is priced slightly below market and I am looking at rates in the 7-8% range. The current tenants are month to month with lower than market rents so there is room to grow. I will be almost negative 500 a month in cash after factoring all expenses.

The way I see it is that it is a long term play and if i can purchase a property below market then I am still good whether or not the property cash flows. In future there is many avenues to make gains and profits. If i just keep my money in the bank it is not doing a whole lot for me either. It is defintely hard to time the market and if rates were to drop the competition will also rise. For a real estate crash to happen it would require a lot of inventory to hit the market. Foreclosures seem unlikely due to everyone having equity. If a ton of people started going unemployed then I can see a crash eventually happening with people having a hard time to pay bills. For now I say if you have money to play and you have a passion in real estate and see a deal out there then the cash flow part is just a small part in the overall weatlh of owning real estate. 

Agreed.

In my area, “standard gray interior” flipped homes are everywhere and they want way more that what it deserves.

They advertise them as a “cash flowing property” along with expected rent in the area. With 20% down and the current interest rates, you’re lucky to get $100-$200 net cash flow
(e.g. $1500 mortgage w/out expenses for a duplex and the total rent is $1800). I know as I’ve browsed through every home in my selected areas. Want a fixer upper? Sure…but they’re on the MLS with prices like they’re turnkey/move-in ready. 

Good news is, these overpriced homes sit on the market for well over 90 days. Hopefully, this will drive prices down to realistic values.

[John Morgan]

I hope Goldman is correct about that the fed lowering rates next year like you say. Housing prices will shoot up again if mortgages go back under 5 or 6%. That’ll cause inflation to spike again which this administration clearly doesn’t want with an election coming up. My guess is the fed pauses for a couple years before they let inflation get out of control again from housing going through the roof again.