Re: Why I Don't Like Cheap Properties

58 Replies

Hi BP Nation,

I have always had this argument with folks around me who believe that rent to value ratio is a better metric than ROI for analyzing investment properties. The price-to-rent ratio is the ratio of residential real estate prices to the annual rents that can be earned from that real estate.

My argument is that rent to value or price to rent ratio as it is variously called by different schools of thought is deceptive; now don’t crucify me yet. By deception I mean that most sub grade neighborhoods are cheap properties and their rents are usually high and when you consider the price to rent ratio as a metric, its usually high….well on paper… But how much of this is realizable? Out of staters using this metric will be deluded into thinking that the property is a good deal.

I know I am not an expert yet on REI, but I was happy to read above post by Mike D'Arrigo on a blog today:

Although a number of experts on BP specialize on sub 30-40k properties and have made a good success out of it, Mike argues that it is a nightmare for out of staters and this should be a no-go area…

Read full article here:

http://www.investwithpinnacle.com/#!Why-I-Dont-Like-Cheap-Properties/cepd/5525afef0cf2aa18119295ff

Do you have a different opinion?

Let me hear your views.

Happy investing.

Here'w why I don't like cheap property.  They are all cash deals, with no hope of recovering that cash unless you flip it since you can't refinance them...loan amount too low.

I got cheap properties, all financed, and all doing great. Mikes strategy is great too. There is so many different ways to make money. I hear this argument every week on BP. My opinion is there is no right or wrong answer here. Just personal preference and for me it's wherever I can get the best deal. Whether it's a A,B, or C class. If it's a great deal then I'm interested!

@Joe Villeneuve

Thanks for your feedback. what are your options if you cant refinance and unable to flip?

Thanks

@Account Closed

Thanks for sharing.  Looks like you are one of those doing well in that sector. My underatnding is that for you to succeed in this sector, you have to have booths on the ground but you are in CA. You are obviously invetsing out of state?

Whats the magic? 

Originally posted by NA Onyido:

Do you have a different opinion?

Let me hear your views.

I love cheap properties, but they have to be the right cheap properties in the right area.

The key is to find properties that are undervalued, find the reason they are undervalued, and then sort the problem out.

Any idiot can buy a $100k property and rent it. Thats not investing. That's like buying Apple stock and calling yourself a market expert.

We had to show our realtor our thinking, with $100k he would buy 1 property for $100k and rent at $1400. We would buy (rehabbed) 3 properties in lower neighborhoods for $100k, $700pm each, and have $2100pm income.

The income risk is now spread over three properties and not one, and as the market is coming back, the $100k property is now worth $140k whereas the $33k properties are now worth $70k each.

On every metric our solution is better.

The key is to make sure you have good tenants. Our tenants at the moment are so good - they compete with each other to have their rent paid first each month. We don't chase rents. (Winner gets a $50 Walmart card.)

We bought a house yesterday, $20k. When it's rehabbed (it'll need a small amount of work, maybe $10k), it's worth $70-80k. And because no one saw the extra fully permitted apartment (it had so much trash in it everyone overlooked it - although you'd think the seperate power pack and the fact all the permits are in public records one of the other investors would have spotted it!!), the total package is worth around $1200pm spread over 2 units.

I see where you are coming from and where Mike comes from. Buying in lower income areas does have its cons but it also has its pros. You can look for section 8 tenants or account for the higher vacancy rate when doing your calculations. The way I see it is investing in real estate is the same as stocks. You don't just want to buy blue chips stock like wal-mart or apple. You also want to invest in mid-cap and small-cap companies so you get higher returns. The important thing is to make sure you are buying the property at a discount and have a property manager that specializes in those neighborhoods. I have 2 buyers that have over 40 homes each in the Pine Hills (aka crime hills) area of Orlando and they love it.

@James DeRoest

Thanks for the detailes analysis....Aside the the Walmart gift card, which I believe is a good motivator for tenants' timely payment, what extra level of due diligence do you do for tenant selection? 

@James DeRoest, just curious where you bought that 20k house? Was it a foreclosure auction, off MLS from your marketing? I'm glad to hear of your success.

Originally posted by NA Onyido:

@Joe Villeneuve

Thanks for your feedback. what are your options if you cant refinance and unable to flip?

Thanks

 What ever you paid in cash for the house, you have to wait to recover from the cash flow...which means you are behind until then...as in losing money.

@Ndy Onyido the trick is to have a great team on the ground there and by that I mean a great turnkey company. For inner city homes FS Houses is the go to company! @Ryan Mullin is the owner and a great resource for these areas in Indianapolis. I trust them but I do extensive research myself.

Originally posted by Account Closed:

@James DeRoest, just curious where you bought that 20k house? Was it a foreclosure auction, off MLS from your marketing? I'm glad to hear of your success.

This one was a wholesaler unfortunately. Slimey creatures. Just want a shower after dealing with them. Needs must as the devil drives. 

Most deals come through a realtor, or they are retiring landlords, pissed off landlords looking for an exit, old folks with a single rental wanting to owner finance, etc.

When you get start to get to 10+ properties people start finding you. (multi family counts as 1). For instance, last summer, a guy knocked on our door and offered to sell 3 houses to us. Our postman recommended us to him. A property we did buy last year was from a call from our gardener who was cleaning out a nightmare rental and the old owner wanted to sell. I know an old landlord and I do want to buy 3 properties off him, but just can't be bothered to call him yet.

If you're in the business, deals find you. If you hold properties, more deals find you. So far this week I've been offered 3 houses and 1 trailer park, and closed on 1 yesterday obviously.

Originally posted by NA Onyido:

@James DeRoest

Thanks for the detailes analysis....Aside the the Walmart gift card, which I believe is a good motivator for tenants' timely payment, what extra level of due diligence do you do for tenant selection? 

It's not extra due diligence, just due diligence. Every tenant goes through TransUnion. Every tenant. You have a felony record, keep on walking, you have an eviction, there's the door, any drug history, you don't know me. No matter how nice someone is, their credit and criminal record tells all the story, and usually the story they won't tell you.

If you stick to formulas you will miss opportunities. The more you learn and try the more opportunities you will see. Sometimes low priced homes purchased for cash can be very nice deals. I actually sold one today on a land contract. (It was sold to another investor). I purchased it ~6 years ago (all in for ~$55K, $30K purchase price and $25K of rehab/improvements), rented it profitably for all 6 years (most recently at $1250/monthly--yes 2% of purchase price per month is achievable) and contracted to sell it for ~$120K over the next 3 years. The buyer got a good price on the home (low end of present market value), took control for little out of pocket, and will probably cash me out quite soon. I think most will agree that I also got a good deal. This was not a typical purchase for me at the time but I knew the neighborhood well enough that I was willing to stretch on a house that needed more work than I usually did. That experience led me to other deals that were outside of what my current experience was at the time of the purchase. I have no idea what my next investment will be. I will try to be open to whatever presents.

James DeRoest love this post and follow a similar strategy. I like the idea of spreading out my eggs. Generally speaking why would I pay $100k for a house when I can get 2 houses for $50 each. This not only diversifies but I bet I make more money off them too! It's no doubt a little riskier but I'm young and all about taking risk. I'll be more conservative near retirement.

Originally posted by @James DeRoest :
Originally posted by @Ndy Onyido:

Do you have a different opinion?

Let me hear your views.

I love cheap properties, but they have to be the right cheap properties in the right area.

The key is to find properties that are undervalued, find the reason they are undervalued, and then sort the problem out.

I think James makes a great point. You can't generalize about all cheap properties. The key is finding undervalued properties and adding value. But if it's cheap just because it's a rough area, then it will always be cheap and will probably be problematic. As I always say, you can't get good tenants to live in bad areas. Some markets like Indianapolis vary neighborhood to neighborhood and street to street and unless you want to take a beating, and believe me, plenty of people have, you need to know those pockets. Cheap properties by their nature have more inherent risk, that's why the returns should be higher, but I think they make most sense for people who already have a portfolio and are looking to take on some higher yielding, higher risk assets. It's no different than stocks. If you don't own any stock, are you going to put $50K in a high risk IPO because of some potential return or are you going to start out with more blue chip stocks like Apple and then diversify in to riskier, higher yield stocks. It's a big risk for the inexperienced, out of state investor to start with risky, cheap properties. Some may get lucky but the investment highways are littered with people who have lost fortunes with them and I hear the stories as I talk to investors every day.

Originally posted by @James DeRoest :
Originally posted by @John P.:

@James DeRoest, just curious where you bought that 20k house? Was it a foreclosure auction, off MLS from your marketing? I'm glad to hear of your success.

This one was a wholesaler unfortunately. Slimey creatures. Just want a shower after dealing with them. Needs must as the devil drives. 

James, I don't think it's fair to say that wholesalers are slimy creatures. Just as in any aspect of this business, there are good ones and there are bad ones and there are some good ones right here on BP. I happen to know some very good ones. Wholesalers can provide a valuable service especially in times of tight inventory and dwindling REO's. We need to keep in mind that there is always someone that will find any aspect of this business as slimy whether you're a wholesaler, flipper or real estate broker. All get branded as slimy by someone sooner or later.

You have to use caution where you buy your inexpensive properties. But yes I would rather buy two houses for 50k each than one for 100k. 

Find YOUR niche.

Originally posted by NA Onyido:

Hi BP Nation,

I have always had this argument with folks around me who believe that rent to value ratio is a better metric than ROI for analyzing investment properties. The price-to-rent ratio is the ratio of residential real estate prices to the annual rents that can be earned from that real estate.

My argument is that rent to value or price to rent ratio as it is variously called by different schools of thought is deceptive; now don’t crucify me yet. By deception I mean that most sub grade neighborhoods are cheap properties and their rents are usually high and when you consider the price to rent ratio as a metric, its usually high….well on paper… But how much of this is realizable? Out of staters using this metric will be deluded into thinking that the property is a good deal.

I know I am not an expert yet on REI, but I was happy to read above post by Mike D'Arrigo on a blog today:

Although a number of experts on BP specialize on sub 30-40k properties and have made a good success out of it, Mike argues that it is a nightmare for out of staters and this should be a no-go area…

Read full article here:

http://www.investwithpinnacle.com/#!Why-I-Dont-Like-Cheap-Properties/cepd/5525afef0cf2aa18119295ff

Do you have a different opinion?

Let me hear your views.

Happy investing.

 What is lacking in the 2% rule or others of its ilk is common sense.  When applying any rule of thumb you also have to apply common sense to it.  If it doesn't make common sense, then no matter what the numbers look like it is not a good deal.   

Originally posted by @Mike D'Arrigo :

This one was a wholesaler unfortunately. Slimey creatures. Just want a shower after dealing with them. Needs must as the devil drives. 

James, I don't think it's fair to say that wholesalers are slimy creatures. Just as in any aspect of this business, there are good ones and there are bad ones and there are some good ones right here on BP. I happen to know some very good ones. Wholesalers can provide a valuable service especially in times of tight inventory and dwindling REO's. We need to keep in mind that there is always someone that will find any aspect of this business as slimy whether you're a wholesaler, flipper or real estate broker. All get branded as slimy by someone sooner or later.

I'm going to stick with slimey. It's a business built around dishonesty right from the start where the wholesaler signs a contract with no intention of ever honoring that contract. But anyway, dislike of  wholesalers is a whole different thread.


The key is to make sure you have good tenants. Our tenants at the moment are so good - they compete with each other to have their rent paid first each month. We don't chase rents. (Winner gets a $50 Walmart card.)

 This gave me a good laugh, not because I think it's a bad idea, possibly genius!!

It is an age old argument:  6 properties valued at 3 million vs 20 properties valued at 3 million.  For me each property comes with a possible headache/risk hence I prefer the former strategy.

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