San Diego Real Estate 2018 - What is your 5 year plan?

[Keith Meyer]

Hi All,

Like all of us trying to wrap our heads around how to get involved in the San Diego residential real estate market in 2018, I am trying to weigh the pro's and con's of where I see the market currently and where I see it headed in the next few years. I am hearing more consensus recently that San Diego is much more likely to experience a cooling off than a crash in the next 5 years, even with record high median home prices. Much of this is attributed to some unique aspects of our market, namely the "landlocked" nature of the county. We've also seen the economy grow and diversify in the past decade, and foreign investment is very strong here. There doesn't seem to be a glaring weak spot which would throw the supply/demand situation into a radically different state than it is now.

We seen for years now that supply is not keeping up with demand here, and I've not yet heard a solid proposal to solve this issue. I can't blame developers for focusing on high-end new construction, given the risk and unbelievable headaches they must go through to get anything accomplished. It's been interesting to watch our Median Sale Price / Median Monthly Rent ratio slowly creep up to ~20. Many San Diego investors I've talked to have also taken note of this metric, fearing the ROI on rental properties does, not justify current prices. Some investors, such as myself, are choosing to rent their primary residence in San Diego and invest their capital in other markets, due to the low cash flow returns in SD, and the relatively low rent prices for a primary residence.

That said, I am huge fan of the lifestyle in San Diego, and I'm still looking for ways to put down roots in this city that I love while not completely sabotaging my investment ability for the next 10 years. Fortunately I have access to some solid databases for finding good off-market properties to target, and have ramped up my yellow letter efforts in the past month. 

I'm sure many of us have heard that the typical investment rules don't apply to San Diego/California markets. I've heard from multiple brokers/lenders recently that we could expect current home values to double in the next 15 years, then re-double again in the following 15 years given anticipated appreciation rates. Theoretically that could be right (though inflation and accessing that equity need to be taken into account), and I hate betting on appreciation anyway. 

Since my strategy involves looking to be an owner-occupant, I'm willing to bend the investment rules a little bit and get creative with my strategy. I have a partner lined up to go in with me on a small MFH for us to occupy and rent the remaining units, if we can find one which makes sense. I would love to get the opinions of those who are looking to actively invest in SD on how they are planning to approach the market in the coming years. Are you taking a "wait and see" approach, and are you really confident that we'll see any solid devaluations coming within the next 5 years? If you're renting your primary residence currently, do you think it's still worth throwing that money away for the next couple of years to see where the market heads?

This is a very important topic to me, so I'm happy to get on a phone call with anyone who has strong opinions one way or the other. The more inputs I get the merrier in my opinion. Thanks in advance for your contributions. 

[Dan H.]

A few years ago I was very confident of continued rent and property appreciation.  Today I only claim to be confident of continued rent appreciation.  The OP hit on a lot of the reasons I expect on-going near term rent appreciation but one implied, but not out right stated, is that the rent to value ratio is not where it traditionally is at.  This is because in times of high property appreciation, the rent appreciation, while very significant, lags the property appreciation.  Some other items, in addition to those pointed out by the OP, that point to continued rent appreciation include increasing minimum wage, increased interest rates making it harder for first time home purchasers, near best climate.  So I am confident of continued rent appreciation.

The RE prices I could make a case for any of the 3 scenarios (depreciate, appreciate, or stagnate) but the one I think is most likely is mild appreciation (much less than the last 6 or 7 years).  If I am correct then the property appreciation, in the short term, will not provide a good return on the investment.

Does this imply that I am not looking for purchases in San Diego?  No, I am still looking but I would like a property that is at least close to cash neutral and has a decent and low risk value add.  If it does not have the value add I want it to have better cash flow at purchase that I would expect to increase via the rent appreciation.  I am not expecting much property appreciation but it would be bonus if there is. 

Assuming no state-wide rent control ...   Long term, I would expect the San Diego RE to have property and rent appreciation far in excess of appreciation and close to the top in the US.  It has been this way for over 50 years and I see nothing fundamentally to change this.  In addition, with Prop 13, the property tax remains relatively fixed.  The interest rates, even with their recent increase, still are historically low.  Long term San Diego RE investors have done exceptional and I see nothing that changes this other than the possibility of a state-wide rent control.