How to invest a considerable amount in RE

Question

I’m an experienced RE investor who lives in San Diego. In a year I will be selling an single yet expensive beachfront investment property I own. I own it outright without a mortgage. I am looking to replace this property with another investment property that will be a long term buy and hold. It seems like the rentals around here don’t produce a worthwhile ROI. Looking for suggestions on where to invest and park my money long term. I’m willing to consider other areas/states. I will consider buying land and developing, multifamily unit building…perhaps buying large piece of land, subdividing and reselling. Even considering flipping multiple single families at the same time. Any suggestions would help.

Thanks

Dan H. · Answer

San Diego has historically produced one of the best ROI for long term investors.  Case Shiller has it as 3rd highest return for this century.

If you had indicated the initial cash flow is poor you would be correct. However , there is a poor correlation between initial cash flow and long term cash flow. This poor correlation is not happenstance. RE markets are efficient. The price in a given market is based on numerous factors. 2 of the primary factors are perceived risk and perceived appreciation. The perceived appreciation is both the property appreciation and rent appreciation. The implication is initial high cash flow markets are so because they typically have low expected appreciation. You can think of the high initial cash flow markets as being similar to value stocks and the high appreciation properties as being similar to growth stocks. You can make money in both, but if the growth stock performs to expectation it can produce a return far in excess of the value stocks. To see this, look at the highest valued companies (Amazon, Google (Alphabet), Tesla, FB (Meta), etc).

Good luck

Account Closed · Answer

One thing I will admit is that I am definitely a slow learner where I think I know enough (not everything) about doing the math for real estate and then several years later found out how wrong I was and wished I had some genius broker watching my back. The problem I encounter is in my entire 50+ years of investing I had only one broker who was capable of doing the math for real estate investing and who watched my back at the same time. That was 21 years ago and I still never learned the math well. So, for the past few years, I have been studying the math and putting together a database full of calculations charts and educational information.

Here is the serious problem! If you can't do the math, or if you don't do the math, or if you rely on a broker or someone else to do your research for you then it will be very difficult for you to see properties for sale that are goldmines.

I find it to be more important to do the math so I know what not to buy. This gives me more time to focus on finding the best of the best deals. A super high percent of investors go out-of-state to purchase properties because the properties are cheaper, but as everyone knows, there is aa huge difference between between purchasing something that is cheap and something that is less-expensive. I live in California where the prices are super high. Just like you, I've been telling everyone that prices are so high in California I can't find properties that don't make sense.

In March 2021, I purchased a 6-unit apartment building in Hawthorne California for $191,000 per unit and I thought I made the worst decision every for paying such a high price. But, it the past 9 months my net profit on that building is about $320,000. Not too bad! My son is in college in Ohio and we did a little work on the property and made it so maintenance-free we only collect the rents and do minor plumbing repairs.

By not doing the math, just two weeks ago I got a call from a broker who had a 10-unit for sale in Torrance California for $1,900,000. I told him the price was too high, sent the listing to a broker friend and he jumped all over the building and it is currently in escrow.

Below, is the math showing the mistake I made for not doing the math and for thinking the prices are too high. I put in a rough number of $2750 per month for the mortgage paydown, did not include the benefit of tax depreciation and for a $537,000 down payment my friend will make far more than $1.5 million in 10 years because I put my projection number on the lower than expected rent increases.

David Ginn · Answer

@Yosef ItavSell everything you own, liquidate it. Pull to a cash position and go into lending or flipping, those are your two best options. The market is gonna correct and fall down, DO NOT buy a house right now. Do not buy multifamily, don't buy anything. You're at the top of the market and it’s going to correct and fall, don't do it. Sell everything you got, pull over cash position and start flipping properties.It's critical right now that you take your cash and put it into lending with people who are flipping. DO NOT lend to people that are buying and holding investing. Lend to people that are flipping who know what they're doing, and are very experienced. Those who flipped a hundred homes, fifty or even twenty, and could show you their performance, and their ROI. The other thing is you have to pay attention to RAW LAND. Raw land is very risky in investment, it can be a great investment if you are in an upcycle, but as the market starts to crack backstay away from raw land. Raw land has no income-producing capability because the minute the market corrected back and no one needed a lot anymore, there was no way for me to generate income from it.

Stephen Bernard · Answer

@Yosef Itav Congrats on the forward planning! It's great to think down the line. I wanted to echo what @Dan Heuschele said and offer some additional insight.

2020/2021 has been incredible for homeowner's equity, to the sum of a 20%+ gain in value. Definitely not typical and attributable to a number of the markets current drivers (namely, low interest rates) causing bidding wars on every house that hits the market. As the frenzy calms, you can expect two things:

1.Homeowners can rest easy knowing appreciation will still rise 5%+ year over year. There is a fundamental supply shortage that has not been addressed. This past year zoning was actually eased across the county to encourage developers to construct larger multi-unit properties in an effort to meet demand. Again, owners of single family detached homes get the big win. A recent study by porch projects another spike in SD's median home price to the number of 24% which will price it at about $1 million!

2. There is an inevitable increase of interest rates on the horizon. First time home buyers are going to be priced out of affordable housing. The following scenario is based on the purchase of a $600,000 home in SD (below the median home price)

-at 2%: Monthly PITI is roughly $3200

-at 3%: Monthly PITI is roughly $3500

-at 4%: Monthly PITI is roughly $3800

To place that into consumer perspective, a military E-7 (a relatively senior Non-commissioned Officer) receives an allowance of $3225 per month for housing. Anything above that is paid out of pocket. They are in a relatively privaleged position while buying due to the powerful opportunity of the VA loan. But, with nominal increases in interest rates, even they can't afford to buy. The fed expects to begin interest rate hikes as early as Q3 FY22.

All that to say, buying and holding in this market yields massive advantages. Even though, short term, you don't cashflow here and now, it doesn't mean that buy and hold is a bad idea. Markets across the country are in a similar position, where the 2% rule simply doesn't exist as it once did. Even the 1% rule is hard to come buy. In my opinion, if you have the means to buy and hold now, you should. Now, why San Diego over another, cheaper, market? Simply, your gain in appreciation and loan paydown is astronomically different in this market than others. Where, in [insert name here] Indiana, you may gain $100 in equity every month through loan paydown, you get that number in thousands in San Diego. Moreover, as the buyers dwindle due to lower purchasing power, you can expect market rates to increase. Anecdotally, my friend was renting his downtown apartment for $2800/mo. He received orders, and ended his lease. The next month, the PMs had placed the unit for rent for $4000 and received 15 applications the first day.

Although the cashflow isn't immediate, it is a medium-to-long-term guarantee. Through appreciation and loan pay down, the impact to your overall net worth is far more positive in San Diego than in competing, more 'affordable', markets.

Brad Larsen · Answer

You want to look where the population is moving. Texas is general and San Antonio is particular is seeing a huge influx of people moving in. This is means increased rents, while home prices are still low. If you have any questions about the San Antonio market, feel free to message me, my company manages nearly 1000 investment properties.

Paul Moore · Answer

Hi @Yosef Itav. I would consider either a passive syndication or a well-placed AirBnB/VRBO property with a management team.

If you go the syndication or fund route, do a lot of diligence on the sponsor and spread your funds around.  Use @Brian Burke’s book The Hands-Off Investor.

If you go the ST rental path, PM me and I’ll tell you about a guy who sets up investors with mountain cabins that cash flow incredibly well.  With debt, they can provide 60% cash on cash annually (on your equity).   Happy Investing!

Eric Fernwood · Answer

Hello @Yosef Itav,

In my opinion, if a property cannot generate a positive cash flow on day one and have a high appreciation rate, you need to look somewhere else. I have never understood buying an investment property and operating at a loss.

Location

When you are considering an investment location, select a location that meets all the following criteria.

• Appreciation - The number one location selection criteria is appreciation. Inflation constantly erodes buying power; each year, it costs more to buy the same set of goods. If you buy in a location where pre-COVID prices and rents increased faster than the current inflation rate, you will continue to have the funds you need. If not, the initial cash flow will be the highest you will ever receive, and you will have a continuously declining standard of living.You may have noticed that I use rent increase and appreciation interchangeably. The reason is that appreciation and rents are tied together. If prices increase (appreciation), rent will follow, but with a 2 to 10-year lag depending on the market. What is happening with property prices today is an excellent indicator of what will happen with rents in the future.
• Population Size - Greater than 1 million. Small towns may rely too much on a single business or market segment.
• Population Growth - If people are moving into a location, many things have to be right. Never invest in any location where the population is stagnant or declining.
• Crime - People and companies will not move to locations perceived as dangerous. One source of cities to avoid is Neighborhood Scout's 100 most dangerous cities. Avoid any city on this list.
• Disaster Risk - Some parts of the country are more prone to natural disasters. The best indicator for natural disaster probability is homeowners insurance cost. I would avoid states with high insurance rates. Note, even if insurance pays for all the damage your property suffers, you still lose. When a significant disaster occurs, people and jobs move to locations where they can make money today. The location may take years to recover, or it may never recover. ValuePenguin is a good source for the relative cost of insurance by state.
• Operational Costs - Costs like property taxes, insurance cost, state income taxes, regulatory costs (ex: time and cost to evict), inspections, rent control, etc., have a tremendous impact on your return. Select a location with relatively low operational costs. Operational costs are a direct hit on profitability.

You may have noticed that I use rent increase and appreciation interchangeably. The reason is that appreciation and rents are tied together. If prices increase (appreciation), rent will follow, but with a 2 to 10-year lag depending on the market. What is happening with property prices today is an excellent indicator of what will happen with rents in the future.

Once you narrow your selection choices, look for a good investment team.

Investment Team

If you needed surgery, you would not start medical school. Also, not just any doctor will do. You want a surgeon specializing in the kind of surgery you need, not a general practitioner. The same is true with real estate investing. You want to work with an investment team that already has the skills and contacts. Good investment teams are hard to find. Start with an investment Realtor (not an "investment-friendly" Realtor). Know that even in a large metro area, there is likely only one or at most two investment Realtors. While finding an investment Realtor may take time, the cost, risk, and time savings will be worth it. See the image below for the range of skills you need to succeed.

Yosef, if you select a location that matches the criteria I listed and have a good investment team, you should do well.

Property Type

The property type (condo, single-family, multi-family, etc.) does not matter. You are buying a reliable income stream, not a specific property type. Select a property based on current and future cash flow and appreciation, whatever type of property that turns out to be. I sell residential and commercial, and I prefer residential investments for the following reasons.

Residential:

• Value is driven by market demand.
• 30 year, fixed-rate financing.
• When you sell, you have two potential buyers: home buyers and investors.
• Very stable income, people always need a place to live.
• Simple to evaluate

Commercial:

• Difficult to evaluate. Typical commercial property due diligence is 90 days for a reason. Also, in 15 years, I have never seen an investor sell a performing asset. I start my evaluation assuming the property is losing money, and I have never been wrong. The most common reasons for a property to lose money are deferred maintenance and or tenant issues.
• Commercial financing - The normal commercial lending sources offer 5 or 7-year term, 20-year amortization, 40% down, prime plus 2% to 4%, and 1% to 5% closing costs. This is expensive financing plus it exposes you to interest rate risk every 5 or 7 years when you have to refinance the property. @John Orthman, I see in your spreadsheet you used 25% down 3.20% interest rate for a 10-unit building, I would love to get in touch with your lender.
• Commercial real estate is very cyclical, so you need to be aware of the current state of the commercial market. For example, five years ago, there was only one self-storage near me. Now there are six and another one under construction. I bet no one will make money on self-storage until the local area population expands significantly. The same is true for warehouses near me.
• The CAP rate largely determines the value of a commercial property. If your rents are not increasing, your property value is not increasing.

Yosef, I hope this helps.

Doug Spence · Answer

@Yosef Itav Do you have friends or family in any other markets in the country? This is certainly not necessary, but it could give you an advantage to already have people you trust in the market you invest in. They may also know real estate professionals in the area. Regarding your strategy, you have mentioned many different strategies and asset classes. I would do some serious thinking about your long-term goals and what strategy best fits what you want. Any of them will work, but it will likely work out better for you if you pick one that aligns best with you and what you want.

Good luck and keep us updated!

Alex Cruz · Answer

We keep getting California money here in Texas. Reach out if you want to know a little about the San Antonio opportunities around STR if you have significant capital (we have a few owners moving money here under similar circumstances, and there's definitely some tips I can offer on that type of investment here or elsewhere (I love STRs and own a PM company, btw....not soliciting, more trying to encourage true investors looking for cap rates and long term ROI to invest to offset some of the bad supply out there that hurts the industry)

How to invest a considerable amount in RE

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