I will be acquiring my first rental within the next 30 days, and I started thinking about what strategies I can utilize in the future to mitigate risk and hedge against a market downturn. I'm not saying one will happen soon, but one will likely happen again in my lifetime and I'd like to be prepared for it.
Do you buy properties in several different locations? Do you focus on metro areas? Do you have a portfolio of commercial, mfh, and sfh? What will you do if your rental market dries up?
These are the questions that have been crossing my mind recently. I realize I'm new to the game, but I think risk planning should occur sooner rather than later.
BEING PREPARED FOR MARKET DOWNTURN:
1) RESERVES, RESERVES, RESERVES! Keep cash on hand.
2) Buy with enough margin for a correction (in equity and cash flow, if it fits your strategy.)
3) High-demand areas w/ people and jobs, reasonable commutes to employment that are a good value.
J. M. How much in reserves are you talking? If the rental market dried up, how long could you cover the debt service on your properties for?
I hold considerable reserves and invest in three different markets currently.
But I also still have a day job, so that helps mitigate a lot of risk.
Originally posted by @Brandon Hall :
@J. Martin How much in reserves are you talking? If the rental market dried up, how long could you cover the debt service on your properties for?
I bring in about $4-5k more than I spend each each month, so that is the first buffer. Then reserves. Because I get cash flows from 12 units at 6 addresses in a tight rental market, I'm not worried about temporary vacancies. But a sustained, large decrease in rental rates of 25-30%+ would most likely cause me to change my personal spending habits and hoard all the cash I can. But I think your reserves should take into account your financing situation, any upcoming bullet payments, overall monthly debt load and cash margin...
I think I could cover the debt service on my properties indefinitely with my current reserves, and significantly declined rents of about 20%. Sustained rent declines beyond 30% would cause stress and I would have to accept a higher paying/higher demand job, create additional real estate income, start cleaning my own airbnb unit, and/or personal sacrifices, etc. Without those changes, my reserves could be depleted in a year.
Don't forget also that downturns are particularly bad for novice flippers that bet on appreciation. If you purchase your hold-rental property properly today and manage it today where the expenses are paid and you're cash flowing, a down turn in property values has less meaning for you than a flipper. Granted, rental rates are also susceptible to change, but when under a lease, it's far less frequent than today's retail market fluctuations.
Moral... buy right and manage well.
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