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How to Beat the Hedge Funds Buying Properties in Your Real Estate Market

by Michael Zuber on October 22, 2012 · 24 comments

  
how to beat the real estate bullies - the hedge funds

I never liked bullies.  Since I was never the biggest kid in school,  anyone who uses their size to intimidate others is certain to get my attention.

I can still remember the time a football player pushed me in the hallway because I was “In his way.”  He never knew what hit him because no one had ever stood up or fought back before.  I kicked his butt up and down the hallway until a teacher pulled me off of him.  He and his friends never bothered me again because I was willing to go to war – even if I lost – and they frankly didn’t want the hassle or the embarrassment of losing to a smaller foe.

This brings me to hedge funds and their goals of owning rental properties and pushing smaller investors out of the market.  I say “Bring it on.”  

Real Estate Investors: This is how you compete with a Hedge Fund:

First: Appreciate their strengths but don’t fear them.

Hedge funds have a lot of capital and if they can show a model that produces a decent return of ONLY 7-9% they will get more capital to continue their acquisition spree.  In addition, hedge funds can leverage technology to the hilt, so they will have more applications and databases than you can shake a stick at, but remember bad data fast is still bad data.

Another reality of their size is their need to buy lots of property quickly.  When they move in for the kill they will buy large pools of properties in short periods.  However, as a small investor, I can focus on a single purchase to add to my portfolio instead of having to find 10, 20 or 50 properties to buy. I have no idea how these buyers can stay up to date with 50 escrows, repairs, and rentals, at one time.  In the end – appreciate their need and ability for frequent acquisition.

Second: Understand their purpose and goals.

Hedge funds are great at taking advantage of market dislocations.  They use their tremendous capital base to buy distressed assets (of any kind) and then wait for markets to repair themselves and return to long run averages.  This means that most hedge fund buyers will have a clock on their capital and they will become sellers at some point.  The best part is that most hedge funds will likely become sellers, at the same time producing nice buying opportunities in the future – likely 5-10 years from now –  at much higher prices.

Finally: Understand where they are weak.

Most hedge fund buyers don’t live in the markets where they invest.  They may send out a team or two from New York or Boston to live in Atlanta, Southern California or Phoenix for a couple of years but these assignments are rarely given to locals.  

Why would they trust a local with their billions of dollars?

The first thing to do as a small investor is remember to build quality relationships as frequently as you can.  All real estate is local and most of it is sold by local resources, so if you can become the trusted buyer of many different agents and other investors, you will have the inside track to deals that a hedge fund never sees.  Most of my deals come from relationships that hedge funds would pay dearly to have.

Also never (and I mean NEVER) go straight at a bully [hedge fund].  Understand what their strength is and do something different.  In the early example I will admit the football player never saw me coming because he pushed me and just kept walking, as he never thought to make sure I wouldn’t respond.  I dropped everything, jumped on him, and got him on the ground where my speed was a huge advantage and his superior strength and reach was negated.  In short - I won and he lost because I did the unexpected!

When it comes to competing with a hedge fund that has access to millions or billions of dollars, don’t fight for the properties they want, it’s losing proposition.  Instead –  buy around them and let their efforts increase the value of your purchases.  If hedge funds want properties newer than 5 years, then buy the 10, 20 or 50 year old homes at which they refuse to look. If hedge funds want certain zip codes, buy the zip codes adjacent to their neighborhoods.  If hedge funds want single family –  buy multi family.  If Hedge Funds want to buy at the court house steps or want to buy foreclosures on the MLS, then buy short sales or probate deals.

I love to see hedge funds over pay in my market, as they are adding to my net worth by increasing market values across the portfolio. Regardless of their buying – my 10+ years of relationships allow me to find tremendous deals regularly.

In the end – don’t fear the bully; just out smart and out work them. They are 100% beatable.

Good Investing

Photo: Sethph88

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{ 24 comments… read them below or add one }

Dale Osborn October 22, 2012 at 12:36 pm

Quality is always better than quantity.

Dale

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Mike Z October 23, 2012 at 10:34 am

Dale

I agree

Good Selling

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Eric C. Fahrner October 22, 2012 at 1:39 pm

I like this: “buy around them and let their efforts increase the value of your purchases.”

There’s a lot of talk in the Phoenix AZ metro area market that the “big money” players are paying WAAAAY over the true market value of properties. From one point of view, I suppose they are.

But a better way of looking at it is, the value of a property is whatever the market says it is – and the “big money” guys basically ARE the market. What I’m seeing is, home values are returning to where they WOULD have been in 2012, had there been no real estate bubble and crash.

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Mike Z October 23, 2012 at 10:36 am

Eric

Things are going to be fun

Good Investing

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Jason October 23, 2012 at 7:38 am

Mike,

This is the third or 4th post on large buyers. What have you been seeing in your market that has caught your interest?

Jason

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Mike Z October 23, 2012 at 10:39 am

Jason

I am seeing a lot of investors freak out that they can’t find a deal and they are complaining. SOme people see the world the world as half full and some half empty and I just want to focus people of the positive instead of negative

Good Investing

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Jason October 24, 2012 at 7:28 am

Thanks Mike. I appreciate the posts and reply.

Jason

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Karen Rittenhouse October 25, 2012 at 8:21 am

I never worry about the other guy. There are more deals out there than we can say grace over.

Happy Investing!

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Mike Z October 25, 2012 at 1:59 pm

Karen

THat is a great plan. Unfortunatly alot of other investors are always looking at the other guy

Keep up the good work

Good Investing

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Mark October 28, 2012 at 5:15 pm

The only thing that worries me about the hedge funds buying is that I’d rather be the one selling when the herd is buying..

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Mike Z October 30, 2012 at 7:06 am

Mark

Good News the Hedge Funds are not the “Herd”. The herd is lead by mom and pop investors and you see it coming when the topic at get together is always real estate and the latest flip, etc

We are years a way from the Herd in my opinion.

Good Investing

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John October 29, 2012 at 8:02 pm

I find the adversarial attitude towards HF’s very interesting. In some ways, it’s expected as there are now a lot of hooks in your favorite pond! Actually, HF’s and Private Equity companies have yet to dip that many toes into single family residential due to scale problems. For funds which run billions of dollars (and hundreds of billions on a levered basis), you are hard pressed to find funds deploying more than $400-500mm in the space. The issue is that a many funds trying to deploy $40-50mm are already running into trouble finding enough properties. On the other hand they are not going to go away. The other strategies in their space are now making 3-5% (due to low yields in all asset classes globally) so there are few good alternatives. So basically if a property is yielding 10% unleveled, they can pay DOUBLE the price to make 5% and still beat out their competition. The thought that HF’s paying 10-20% will “blow them up” is, unfortunately, incorrect. They will become more and more involved in a much bigger way than you see them now.

IMHO, there are very good ways to play them, however. They are not looking for discounts. They would probably pay market price or even a premium to get bulk. They also have very specific quantitative criteria, but that is to avoid getting stuck with crazy losing buys. If an HF is active in your area, I suggest you try to find out what their specific criteria is, build a block of properties outside their criteria which still are compelling investments, then approach them with the block and an investment case. I promise you that they would be willing to pay full market (or even over for fully tenanted investment properties) in order to get a block of 10-20 homes rather than cobbling it together one property at a time.

Their job is not real estate, their job is to move money around. The last thing they want to do is drive around neighborhoods and meet tenants, I promise you.

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Mike Z October 30, 2012 at 7:09 am

John

I agree 100% (except I won’t sell my properties)

Good Investing

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Ali October 29, 2012 at 8:27 pm

Hi guys. Great post. I’ve been buying properties in Atlanta, which is one of the biggest focused on cities by the funds right now, and I’m having no problems. The worst effect the funds are having on the properties I’m working with is that the inventories are going fast. But there is plenty for everyone if you know where to find them. Don’t let the big boys scare anyone. If anything, be excited that they are going to raise the home values for everyone! Buy now while it’s low, then thank the funds for increasing your equity.

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Mike Z October 30, 2012 at 7:10 am

Ali

I agree 100%. Great can do attitude!!!

Good Investing

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Karen Rittenhouse December 29, 2012 at 7:09 am

Ali:

I love that! “Buy now while it’s low, then thank the funds for increasing your equity.”

Great!

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Ali December 29, 2012 at 12:46 pm

Lol. Thanks guys! I try to see myself as an optimist. There’s always a way to make good out of something not so good!

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Frank November 14, 2012 at 8:16 pm

Great post! Yes funds are bidding things up like crazy here but there are still many great deals to be had! We keep getting them but definitely don’t compete with them on price indeed.

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Adam December 11, 2012 at 3:35 pm

I think this article has great points but I am curious about some of the advice. I know relationships are a vital key to success in real estate, but how and where do you suggest going about meeting these people and forming the relationships that are going to help you? Calling REO agents? Going to REIA meetings? I have built up a decent rental portfolio over the past 5-6 yrs but really want to rehab in los angeles now but dont really have the relationships in that area of RE investing to help me get going.

ALso, i understand what the article is saying about don’t compete with the hedge funds but go for properties that they arent buying and invest in areas they aren’t etc. but how do you find out what and where tehy are buying?

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Ali December 11, 2012 at 5:57 pm

Hi Adam,

If I can help at all… I’ve found the best way to meet people is through other people. So if you meet one awesome guy, that guy probably knows someone awesome, who can then recommend someone else who is awesome. As far as where to find that first guy, REIA meetings can be okay but in my experience they are typically filled with people who either talk a lot and don’t do a lot or newbies. A good starting point is finding a good agent.

I live in Los Angeles (but I don’t do any investing there) and used to have a friend there who did a lot of rehabbing. She’s since moved, but I can ask her for some referrals for you. I have a good agent if you need one. I’m in Atlanta right now but when I get back, I’ll also be looking for good networking events as well if you want to team up.

As far as hedge funds, you’ll usually know if they are there in the market you are looking in or not. They are all over Atlanta right now. As far as buying where they buy, there are pros and cons. They only buy in areas that have amazing returns, so wouldn’t you want to buy there? The con is they make it hard for the average Joe to grab a property because they are grabbing them all. But it’s doable.

Hope that helps?
Ali

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John December 11, 2012 at 7:07 pm

Hi Adam,

IMHO, the best way to get an idea of where the funds are or will soon be is to keep in mind that they have to search for things in bulk and they will have to screen a lot of data. Unlike most of us who can drive neighborhoods and check out individual houses they will have to get their info from numerical screens and they will only target large areas. So places that show up neatly on zip code maps or census bureau designated areas will fit into their profile. If they can cleanly screen for median incomes, occupancy rates rental yields then they are likely to be able to target an area. Neighborhoods that straddle zip codes or can’t be specifically isolated for macroeconomic screens will be difficult for them to find, in fact are likely invisible to them. Also, small neighborhoods will be unlikely to attract their attention. They are firing cannons. It doesn’t make sense for them to go for small game. In these niche neighborhoods, they are unlikely to be able to deploy enough capital. Finally, as they are prob relying on historical data, neighborhoods that are up and coming are probably off their radar. A neighborhood may look awesome with lots of affluent young families moving in but if they median incomes as of the 2010 census look terrible they may not notice it till the next census!

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TERRY MCGOVERN December 17, 2012 at 10:33 am

All great info on competition with the big money Hedge Funds. Try working with them, there are always alternatives niches you can pursue in working with the hedge funds boys/ladies and still make a substantial million or two. Just look at the percentages,. they look AT numbers only they can’t do it all and do not want too!

Have a GREAT DAY AND FUN INVESTING!!!

TMAC

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Sharon Vornholt December 28, 2012 at 10:18 pm

Mike –

I some how missed this article the first time around. You make some great points here. There will always be those single deals out there for us, and those are the ones we should be going after.

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Rook December 29, 2012 at 12:49 pm

Id be leary of any equity gained in the short term because hedge funds are willing to pay market value or more in a certain area. Funds like that will eventually move to other areas and their presence in the original area will decrease creating a mini bubble. Not that this is the end of the world as long as your not just concerned with equity after all the hedge funds aren’t, they meet return requirements from rents.
Saying this I am not warning against investing in these areas just realize that if you intend to hold properties for the equity you might not be getting as much as anticipated, unless you are direct marketing or finding extremely good deals and selling them while the funds are buying them. You might even sell to these funds.

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