For Smart Investors, There's No Such Thing as a "Bad" Real Estate Market

From Buyincomeproperties.com

Real Estate Clubs
For Smart Investors, There's No Such Thing as a "Bad" Real Estate Market
By Vena Jones-Cox
Mar 13, 2006, 10:31

There's been a lot of talk lately in the media about a "real estate bubble". The theory goes that, since real estate appreciation has been consistently outperforming both the stock market and inflation, the real estate market is due for an "adjustment" similar to the one the stock market experienced in 2000. But the truth is, even if such an adjustment takes place (and most real estate experts think it won't, except in certain limited markets), it won't be a disaster for real estate investors. In fact, it will be a money-making opportunity.

The thing that most commentators seem to be missing is that real estate prices are driven by a different set of economic factors than the securities markets. First, housing is always and will always be in demand. After food, shelter is the most basic of human needs. Whatever else happens in the economy, people will still need a place to live. Sure, if the worst happens, they may live 10 to a house, or they may move to more affordable properties in not-so-nice areas, but they WILL put a roof over their heads, no matter what.

Second, real estate affordability is closely related to mortgage interest rates. A couple earning $100,000 a year after taxes can afford to spend about $25,000 a year on housing, or $2,033 per month. At 6.5% interest, this couple can afford a $332,000 home; but if interest rates rise to 10%, their $2,033 payment will only buy a home worth $240,000. Similarly, a landlord buying a multi-unit building must pay less for it if the interest rates are higher, or his cash flow will be lower. When interest rates increase, sellers must make a choice: lower the price of their property, or wait longer for a qualified buyer.

Third, the housing market is not a "national" market in the way that the stock market is. A particular tech stock trades for the same price in New York, Seattle, or Des Moines-but a buyer looking for a property in Cincinnati isn't going to look at Atlanta properties as an alternative. Regional economic factors drive housing prices-and housing bubbles-to a much greater extent than the national economy. The loss of a major industry or employer, over-building, and geographic limitations on the supply of real estate all affect local markets without causing a ripple in the rest of the country.
The Houston market is a case-in-point. During the crash of the oil industry in the 80s, housing in Houston took a major hit. Entire subdivision sat empty; foreclosed properties where everywhere; sellers often found that their mortgage balances were significantly more than what the few remaining buyers will willing to pay. On the other hand, real estate prices in Cincinnati increased 5%-7% per year during the same period.

During this period in Houston, real estate investors with cash and foresight able to acquire as many properties as they could handle at rock-bottom prices. One Houston-area investor I know bought an entire, brand-new subdivision for $10,000 per 3-bedroom home; he was able to rent these homes for an amazingly affordable $200 per month and still have positive cash flow. When the market recovered in the mid-90s, he began selling them off at $70,000 each-a 700% profit in less than 10 years!

The point is, a smart real estate investor can make a profit in any market simply by adjusting his strategies. Buying when everyone else is selling and selling when everyone else is buying is one key; another is simply buying at the right price all the time. Let's say that properties in your area lose 20% of their value this year. If you paid 30% under market to start with, you can easily weather such a storm. If the rental market sags, you'll be fine-as long as you paid little enough to lower your rents or offer incentives to attract good tenants, and still have cash flow. And, even in the "hot" markets in some areas today, there are still desperate sellers who can't afford to wait for a retail buyer to pay full price. You may have to look a little harder to find them, but you can always buy a great prices or on great terms, no matter who you are or where you live.