Avoiding a recession: How do you know when it's coming?

Question

I've been involved in real estate in Columbus Ohio since 2014. Since then the market has only gotten better every year. The last recession came in 2007 and 2008 and it seems based on what I have heard that it happened pretty quickly.

So given that, I'm wondering for those of you or any members who have been through at least one recession in the real estate market, how did you know it was coming? What did you do to make sure you were ready when it came? How did your buying change? Did you take less risk?

We get a monthly update from our local board of realtors and obviously as inventory creeps up to me that's a sign that the market is changing but I don't think they have the reports for columbus since 2008 so I can't go back and look up some of the red flags that would have let someone know that.

Any tell tale signs? Foreclosures increasing? Inventory increasing? Properties not selling? etc. Looking for a few high correlation things that we might keep our eye on in our local market.

Nathan Gesner · Answer

I wasn't really thinking about real estate investing back in 2005 but even as an outsider I knew something was wrong. Banks were giving money away. Buyers were purchasing beyond their means. Prices were sky-rocketing too fast. I didn't know what would happen but I definitely knew it couldn't last and a lot of people would lose their homes.

I don't see that this time. I do see that we've been on an upward trend for 7-8 years and it can't keep going up forever. Not only are properties appreciating every year but rent rates have been growing incredibly fast, sometimes double digits for several years in a row. It's only natural that we'll eventually hit a wall. After every wall tends to come a correction. I don't know if that translates to a drop in property values, a reduction in rent rates, or what.

One thing I am expecting: a lot of people jumped on the rental bandwagon and consider themselves investing geniuses because everything's going well. The truth is, they are successful because the market continues to grow, not because they bought smart. Many of them are barely cash flowing and a correction could hit them hard. Many have over-leveraged by cashing out all their equity in Property A to fund Property B and they may end up losing both.

I think it's time to buy cautiously and build a reserve. Make sure you have a strong foundation and are ready for things to go backwards. If they don't, you're safe. If they do, you're safe and may be poised to pick up some really good bargains.

I think B-class properties are safest. When a correction/recession hits, people tend to tighten the purse strings and be more frugal which will hurt A class properties. C and D class get hit hard any time the market turns because they tend to be lower-income living paycheck-to-paycheck and their lives are generally volatile and flued. B class is occupied by the backbone of America working solid jobs, generally responsible with their finances, and willing to sacrifice a little and keep going when the going gets rough.

Nobody can predict the future but there aren't many negatives to preparing for the worst.

Eric P. · Answer

@Russell Brazil hit the nail on the head - the 2 main ways to prepare for recession are:

1) don’t over-leverage (buy properties in cash or put more down): this keeps your monthly loan pymts reasonable & gives you a buffer

2) maintain cash reserves: in case you have to come out of pocket to cover extra vacancies, etc

Doing both 1 & 2 are tough & will prohibit you from buying as many properties as you otherwise could - that’s kind of the point ;) Fewer properties with stronger balance sheet is key.

Months of inventory is a great way to measure the health of a market & trends in a market. Inventory is definitely piling up a bit in the Columbus area but hard to know yet if it’s a seasonal slowdown or if this will continue in the spring.

Key thing to watch is mortgage rates - higher mortgage rates (30 yr fixed rates went from approx 4% to approx 5% in one yr) mean buyers get pre-approved for lower mortgage amounts which drives down prices. Mortgage rates are still near historical lows & are projected to continue increasing. THIS might be a key factor that slows down real estate markets

Joe Splitrock · Answer

@Robert Ellis housing is not an early indicator of a recession. Housing slow down and foreclosures are a late cycle indicator. When people lose jobs, they are not buying houses and they are getting foreclosed on. That is why in 2008 economic melt down, the low point of housing really hit in 2010 or later depending on the market.

You want to watch the business cycle. Key indicators are employment, retail sales, yield curve and inflation. These indicators are all looking pretty good at this point.

Even if I could tell you with certainty that there would be a recession on June 1, 2019 - what would you do with that information? As an investor or realtor, you need to be fluid and react to changing circumstances. People always need housing.

Joan Defenbaugh · Answer

Rob,

We worked with Buyers during the dip. It's hard to imagine that we could set up 10-12 showings that all fit their needs and they still wanted to continue to look. There is a way to look up everything you need to know on the MLS.  Days on market was nuts.  I had my license from 1996 to 1999 and then got it again in December of 2007.  As soon as I was licensed again, the market started going down :)  As an investor, I know what I'm looking for based on our short term and long terms goals.   I don't think it will do a fast dip like it did before, but really - who knows.  The signs are there already. Longer days on market, price reductions, lack of multiple offers.  Pricing listings from day one at a point that will compel more than one buyer has always the best strategy.  Knowing what that point is requires time and effort to keep up on the market as well as educating our clients.  Different price ranges are having different results. One area in Powell had a 99% list price to sale price ratio between 7-12 months ago, 96% 4-6 months ago, 94% in the last 3 months.  Part of that is the time of year right now, so I'm looking at the trend for the end of 2017 to compare. During the months of Nov 2017 through Fed 18 the days on market were over 100 for the price range of $400,000 to $600,000 near Downtown Powell.  Sales prices were from 91% to 100% of list price.    If I change the criteria to a range of $200,000 to $300,000 for the same school district it all changes.  Out of 20 homes sold, about half were at 100% of list price. Average days on market was 27.

Russell Brazil · Answer

Are you asking as an agent of investor?

As an investor, dont be over leveraged. Have cash reserves, own rentals on the higher end of the class schedule in high demand areas. Lower class rentals may have a tenant base more economically affected by a recession.

If you are an agent, be good at what you do. Good agents make more in recessions. Average commissions rise as part timers leave the industry and the number of licensees shrinks.

In theory you should be trying to build a business that flourishes regardless of overall economic conditions.

John G. · Answer

@Russell Brazil short and sweet....great advice.   I unfortunately, am already seeing a drastic tenant change in the last 3 years. Except, we are in a booming market and I own smaller multifamily's (house conversions) in the city.  Our area is getting developed heavily with large NEW multifamily buildings all over the place....in turn, taking my higher clientele and leaving me to replace them with lower class.  Its an interesting place to be.  I have been learning to develop systems to deal with it and at this point will continue to invest in the highs and the lows of the market.  As long as one does their due diligence and knows the numbers I think they will be fine.  BUT, still having cash reserves you are right about being a great idea.

Avoiding a recession: How do you know when it's coming?

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