Where Should I Invest?

[Derek Elliott]

Hey everyone. 

My name is Derek Elliott. I'm a screenwriter living in Los Angeles. Brand new to REI. My journey began with a book called A Happy Pocket Full of Money. That led me to Rich Dad Poor Dad, which got me interested in rental property investing, which obviously then led me to BiggerPockets.

I've been very committed to learning / doing my research. I'm all over the Real Estate Rookie podcast. I've read a few of Brandon Turner's books. Currently on David Greene's about out of state investing.

My goal is to close on one property in 2023.

I'm ultimately interested in out of state single family buy and hold properties, in the $100k range. I'm getting to the place where I feel ready to start looking for leads and analyzing deals. The thing I've been bumping up against though is figuring out where to invest. Zeroing in on a specific market feels a bit overwhelming, and has been preventing me from making progress.

Does anyone have advice on how to make the process of searching for and ultimately choosing an out of state market feel less daunting?
I would love to hear about everyone's experiences when they were first getting started with investing in out of state markets. And if you'd be willing to offer your personal preferences or suggestions on specific markets to start looking into that would be incredibly helpful as well.

Thanks for your time!

Derek

[Eric Fernwood]

Hello @Derek Elliott,

It is wise to focus on where to invest. Location is the most important investment decision you will make, not the property.

I am assuming you want to get off the treadmill of a daily job and stay off it. Getting off is the easy part. You can buy properties anywhere, and as long as they collectively generate sufficient income, you are off. Staying off is the tricky bit. The reason staying off is more difficult than getting off is inflation. I will explain.

Suppose your groceries cost $100/Wk (lots of luck on that one). With 6% inflation, in five years, that same basket of groceries will cost you $134. In ten years, $179. Inflation constantly decreases the buying power of the dollar. However, as long as you have the additional dollars you need to offset inflation, you can maintain your standard of living. The only way you will have the additional dollars is if your rent increases faster than inflation. The location primarily determines the rate of rent growth.

It is About Elimination

There are thousands of potential investment locations. It would be impossible to evaluate them all. A better approach is eliminating locations that are unlikely to provide the dependable long-term income you need to stay off the treadmill.

You can eliminate unlikely locations using a set of filters. Below are a set of elimination filters. The filters are ordered by how easy they are to implement.

Start with Wikipedia’s list of metro locations with a population >1 million and apply each successive filter. The result will be a short list of cities.

1. Population > 1M - Small towns may rely too much on a single business or market segment. Wikipedia
2. Both state and metro populations are increasing - Do not buy anywhere if the state or metro populations are static or decreasing. Wikipedia
3. Low crime High crime and long-term appreciation and rent growth are mutually exclusive. Jobs, and people with sufficient funds, leave high crime locations. Companies will not set up new operations in such locations. Do not invest in any city on Neighborhood Scouts' list of the 100 most dangerous US cities.
4. Low or no state income taxes There are many websites with comparative information. Here is an example. Just because a state has no income tax does not mean it does not have a high overhead.
5. Low operating costs - High operating costs can turn what appears to be a profitable property into a money pit. The two most apparent are property taxes and insurance. Insurance - ValuePenguin, Metro Property Taxes - LendingTree
6. Economic health - A good indicator of economic health is a rising median household income. The best source at the county level is St Louis Federal Reserve. Here is an example, Clark County, Nevada.
7. Natural disasters risk - Almost every month, I read an article where a tornado, hurricane, tsunami, earthquake, or some other natural disaster that destroyed a city. If your property was in that city, it was most likely destroyed. If you maintain proper insurance, they will rebuild your property and pay you market rent until it is rent-ready. The real problem is that jobs, stores, and everything else were also destroyed. With no jobs, stores, doctor's offices, or anything else, there is no reason for anyone to remain and rent your property. Restoring a city could take years, or it might never recover. Your property will remain vacant for a long time, but your mortgage and other costs will continue. No one can afford this situation. Homeowner insurance costs are the most reliable indicator of the likelihood of a natural disaster. If homeowners insurance costs are high, the odds that your property will be destroyed are also high. Do not take this chance.
8. Metro rent and price growth rate - To have the additional dollars you need to pay for inflated prices, rents must rise faster than inflation. Therefore, a critical location selection metric is that rents and prices are rising faster than inflation. Rents follow prices, so you can use the location appreciation rate if you do not have historical rental data. Only consider 2013 through 2020; COVID distorted markets.
9. Landlord/tenant rules and regulations - Some states and metro areas have implemented rent control. Rent control may prevent you from increasing the rent fast enough to keep pace with inflation. It may limit your property manager's ability to select the best tenant. It may make evictions of non-performing tenants difficult or impossible. Never invest in any location with rent control. The only source for this information is a local investment team.

Once you have a short list, make a final selection based on whether you can find a good local investment team. The problem is that everything you learn in seminars, podcasts, books, and on websites is general information. You will not buy a general property in a general location. You will buy a specific property in a specific location, subject to local rental regulations. The only source of hyperlocal information is a local investment team with years of investment experience. Their experience, processes, and resources cannot be replicated.

If you follow the above process, your odds of selecting a location that will get you off and keep you off the treadmill are very high.