All Forum Posts by: Immanuel Sibero

@Toby Bounnarpha

OPM is neither good nor bad. It's how it's used. It's a sword with two edges. It makes good things better and bad things worse. So find a good thing first, then use OPM to get it.

Cheers... Immanuel

If you think buying a personal residence is a waste of money, try renting.

Don't lose sight of the fact that investing (real estate or not) is a means to an end, not an end in itself. So what's the "end"? Lifestyle! I don't invest for the sake of investing, I invest to achieve a lifestyle. The house I bought to live in is not a liability nor is it an asset. It's a lifestyle, it's why I invest. Why do you invest?

Cheers... Immanuel

@Jinyu Shao

I use IRR which is a metric that's designed to measure performance/profitability. A better performing property is one with higher IRR. But then again IRR only measures RETURN of an investment, it doesn't tell you anything about the RISK associated with the investment. So an investment with the highest IRR is not necessarily the best one if the investment carries higher risks.

Cap rate, on the other hand, is not designed to measure performance/profitability, hence a poor metric at that. Cap rate is more of a valuation metric.

For a 20% CoC in Waco, TX I would question the quality and the demographics of the area (i.e. the RISK part of the equation as referred to above).

Cheers... Immanuel

@Paul Camuto

I’m suggesting that cap rate is a terrible metric to analyze residential properties across markets because:

• Different markets have different fundamentals and different prevailing cap rates. The fact that residential properties are valued using sales comparables as opposed to cap rate comparables further skews the calculated property cap rates in different markets. Everything else being held constant, you would be comparing apples and oranges because a 12 CAP in Indy is not necessarily a better performing property than an 8 CAP in NJ.

• Cap rate is a metric calculated using ONE year's worth of NOI. Unless you are investing one year at a time, wouldn't you want to know how the property is expected to perform during your entire holding period?

IMO, a metric such as IRR is far superior and would address the above issues. I realize I'm not really answering your original question. Sorry about that, maybe this should be a different post :-) It's just that I'm faced with the same problem. I'm in the Dallas market that's overpriced and overheated where the deals are not penciling out so I started looking in other markets but cap rates are nowhere in my worksheets.

Cheers… Immanuel

@Paul Camuto

I'll take a stab. There has been no replies maybe because cap rates are irrelevant in residential properties. There is no correlation between cap rates and price in residential properties.

Cheers... Immanuel

@Dan Bernstein

Thanks for clarifying Leverage Adjusted Cap Rate. I’m a relative newbie, cap rate has been one metric that I have spent a bit of time learning, partly because of the various definitions of it and the occasional misconceptions surrounding it.

The formula I see all the time is Cap Rate = NOI/(Purchase or Value) which does not include leverage. So by definition leverage never affects cap rate simply because leverage is nowhere in the formula. As a matter of fact Cap Rate is a metric which deliberately excludes items such as leverage because it aims to measure strictly the worthiness of the property (i.e. how much value can be created by "operating" the property). You can technically operate a property without leverage (i.e. by not borrowing) and without CapEx (i.e. by deferring it), but you can't operate a property without collecting revenues and paying for operating expenses. This is the reason why NOI, as it is used in the definition of Cap Rate, should only include operating items but should exclude debt payments and capex.

I see that you may have used the term "Leverage Adjusted Cap Rate" as a substitute for COC which is a metric that does take leverage into account. I have just never heard of "Leverage Adjusted Cap Rate" so this may just be my lack of understanding your terminology. Also this is way off topic, probably should be a different post on a different day… 😊

Cheers... Immanuel

@Matthew Haase

Will you be out exactly zero cost? No money down does not always mean zero cost. Any closing costs? Renovations? Repairs? Updates?

If your cost is truly zero then any positive cash flow is essentially getting something out of nothing and that's always a good performing investment in my book... lol. The question is will you have consistent cashflow (i.e. no deferred capex, etc). Also, with VA loans are you not required to live in one of the units which reduces cashflow.

As @Mike Dymski pointed out, use IRR. It's a better measure of performance and can be used to compare dissimilar investment opportunities (i.e. mutual funds, bonds, etc). The question of how much cashflow one should expect from a property is a popular one but can only be answered by knowing the investor's situation (i.e. what other investment opportunities are available to him and his level of risk tolerance). IRR is a great tool for this.

@Ryan Ingram

The OP is dealing with a 4-unit property. Aren't the sales comparables of this property more relevant than NOI or cap rates when it comes to valuation?

@Dan Bernstein

"...and once you consider leverage, your cap rate increases"

Does leverage affect cap rate?

Cheers... Immanuel

Newbie here... Thank you gents for a great primer on notes. I suspect this is just the tip of the note iceberg.

Cheers... Immanuel

@Nathan Angles

I see that you're looking at this from the single family vs. multifamily perspective and conclude that "comps" should be used for single family and "income approach" for multifamily. Unfortunately, for valuation purposes, the industry uses a different perspective which is residential vs commercial. In this case residential properties are valued using "comps" and commercial properties are valued using the "income approach". Also, somehow someone a long time ago decided that "residential" properties were defined as 1 to 4 units and "commercial" properties were 5-unit or more.  That's just the way it is.

I'm curious about this as well, why 4 unit as the cutoff? What's the big difference between a 4-unit and a 5-unit that one is valued using "comps" and the other using "income"? My guess is this has to do with owner occupiers. We all know that investors would invest in anything that spits out income whether it's an SFR or 500-unit apartment. So they're buying NOI and therefore only have one way to value the property which is NOI. On the other hand, owner occupiers are generally in the market for 1 - 4 units only but they buy the properties to live in them so their valuation calculus is different. They look at how big the yard is, which school district, whether it's in a cul-de-sac, the view, etc. The point is they don't value based on NOI but instead on various other variables including qualitative variables.

Cheers... Immanuel

Agree with @Steve Babiak

Residential properties (1 to 4 units) are valued using sold comparables, not NOI. Steve brought up a good point about the valuation issue on the lending side. Also, if you are selling a package of rental houses then you're more than likely targeting investors. As an investor why would I pay higher than comps? If anything I'm looking to pay LOWER than comps - isn't this the holy grail of residential rental investing?

I'm a relative newbie so someone can chime in here and correct me, but in general, when it comes to residential properties the comps values are usually higher than NOI/Cap values especially in a hot market. I have looked at a couple of these packages of SFR's for sale. The SFR's are actually priced slightly below comps. The motivation to sell as a package is more about saving on transaction costs (i.e. commissions, etc) than about getting a higher price.

Cheers... Immanuel