Appreciation = Speculation

69 Replies

This seems to be a widely held mantra here.  If you buy in a high appreciation market, you're not investing, you are speculating.  That's not something I have ever heard here in Hawaii.  Probably because it's not true!  Hahahaha.  If you know anything about Hawaii, you know to buy as much real estate as you responsibly can.  This has been true since the late 1800s.  But what does history know?  I've been investing since 2002!   ;)

A closer look at Hawaii.  In 1950 the median price of a single family home was $12k.  The median price is now $760k.  So in 67 years Honolulu has averaged just over 6% appreciation per year.  I would image areas like Los Angeles and San Francisco would show similar data.

During the recent recession, most areas in Honolulu dropped around 15%.  Cumulative!  These seem to be pretty solid figures.  In 67 years annual average appreciation of 6%, and only a 15% cumulative drop during the worst financial crisis of our time.  Is 67 years not a large enough data set to have confidence replace speculation?

If 67 years of sales history can't be relied upon, then neither can rent history.  If calculating future appreciation is speculative, then so would calculating future rents, or any rents for that matter.  That's ridiculous.

In other words, just because we've seen something happen for 67 years, doesn't mean it will happen again?  Wow!  Then why even invest?  I mean speculate.   :)

(This is not about appreciation vs. cash flow.  Both are great.  This is about using data to make educated investments and to help dispel poor advice.)

YUP  can't fathom those who buy into the appreciation = speculation   mantra... not sure where they are getting their info.

although I will say in historically appreciating markets that's completely foolish thought process.

in areas were properties appreciate at a glacial pace or not at all .. then of course buying those properties the only thing to look for is cash flow.. no other reason to buy them.. I really don't know any investor who knowing wakes up and says I am going to go looking for properties in markets I know that will never appreciate.. At least like you .. being raised in CA and working on the west coast most of my career that would be pretty foreign thinking.

Now since I have been investing in the mid west ( non appreciating ) and ( cash flow markets) cash flow being described as 20 to 25% down and a 10% COC return.. I under stand why folks look for that metric .. you need that or your wasting your time buying in those areas.

I remember when I started Hard money lending in the mid west I started in Detroit.. homes were selling for and apprasiing for 120 to 140k my HML were 60 to 90k each property they rented for 800 to 1000 per home.

now fast forward and you can pretty much buy any of those for 10 to 50k each and the rents are the same.. were as if you bought on the West coast and rode the up and down the last 20 years you probably doubled to tripled the rent and tripled the asset value..

But now the attraction to cash flow is simply the cost of entry.. our high priced markets have cut out what I call the starter investor so mid west is were they start.. and as long as they buy on the top half of the rental market not the bottom half at least they can make their cash flow numbers and with that they are happy.. not going to get rich.. not going to get a massive equity move up... but if they can scale to 50 to 100 homes they can do what so many of these kids want to do.. and that is quit their job and live on 10k a month cash flow or some even less were 5k a month and they are happy.

@Isi Nau

@Jay Hinrichs

I certainly didn't expect there to be much posting in this thread.

The majority of BP Investors that NEED cash flow because they can't afford to invest for Appreciation bias their minds to the stable and higher return of Appreciating Markets.

I recently posted about one of my properties that Returned 160% per year ROI for 17 years to demonstrate that if you used your intellect and take into account Future Value, implying calculating Appreciation Rates and future economics, you can take advantage of it and make spectacular results.

Why the prices of these assets are too high for the average Investor alone, Partnering becomes the skill needed to Invest in those markets.

Instead of having a good conversation about it, postings about taking Appreciation into Account (or as I like to say, taking Future Value calculations into Account), which implies knowing your future economics, is non-existent.

INSTEAD, most of the posts will boil down to a calculation on Cash Flow NOW, which is the 1st Year Cash Flow. And it stops there. No thought about the Future.

Funny, when I used to teach about Real Estate in NYC and talk about why you need to take into account the future economics, I emphasized it by using the animal kingdom.

If a Squirrel knows that he needs to gather nuts before the winter, implying that he is preparing for the future, why don't most of us Investors look to calculate the amount of nuts we need for our future winters?

Anyway, I don't expect this thread to grow at all! Only 5% of the people seem to get rich and 95% will remain on the other side.

Appreciation is the most important thing in my view, as well as speculation. Why not?

Calculated risk and good timing is everything.

Basing your option on the market from your view from Hawaii or San Francisco tends to be as reasonable extrapolating an opinion based on your experience in Detroit. Your suffering from your own confirmation bias. It may end up being correct, or not, but it's definitely suspect.

Teaching people accounting for appreciation is just speculation is what most of this site preaches 24/7 in all the podcasts, blogs and forums. This ignorance (lack of experience?) and just plain stupid as hell advice,  likely has lost more investors more money than all the other positive BP good advice combined. 

The worst part is maybe half live in or near a historically appreciating pocket. There are bp endorsed bloggers and self appointed experts teaching Californians not to invest in California if you can imagine that. How much those investors passed on this cycle is in the hundreds of millions?

That is a real shame for a REI site.

Another side of the coin is appreciation could be the only passive part of your investment. Someone will have to work for the cash flow part at least we know that much. 

Lastly, this site was founded by a most well intended gentleman, who stated on a podcast " I don't get investing for appreciation" What the, you must be joking right :) Nope. 

Good luck!

While some others want a job replacement ie rental operator (managing property managers, acquisition of additional properties, etc). Some do have a high paying job that just wants to invest ar home, ie husband makes 120k/yr and wife makes 150k/yr with a 6% max retirement contribution and 100% employer matching. They don’t need the $100/door to keep food on the table, they want to make 100k per 3-5 years in equity (not even counting tax shelters) and be a landlord on high priced market. To each his own.

@Matt R.

I hear what you are saying. I believe the reason cashflow is such a focus on these forums and even the podcast is simply because the majority of the audience here is very new at real estate investing. I believe the gentlemen that run the podcast do intend well because speculation and appreciation can be a long term game. Even in hot markets, it takes time to realize the gains from appreciation from the day you purchase.

The intent of "I don't get investing for appreciation", I believe is to tell the audience to buy not ONLY for appreciation. The goal to realize appreciation is to be able to actually hold on to the asset long enough for that to even happen and not loose the asset because you have too many of them cashflowing negative every month.

Lets be real, how many people can afford to keep a negatively cash flowing property in their name for 5+ years. Let alone, 5-10 of these types of properties. If you have that ability, then that is great, by all means, you should be taking that risk. There is a reason why "no and low money down" is such a popular topic on this forum/site. 

Cashflow NOW is a hedge against falling rental rates, increased taxes, falling occupancy, etc. that will keep people from loosing their ability to hold on to their assets to realize appreciation in the long run.

It's a common discussion I see.  People justifying negative cash flow because of appreciation, etc.  It 100% depends on what your goals are.  I invest for cash flow and look at appreciation at just a bonus.  I don't count on it.  In other words, if I'm saying to myself "Well, the possible appreciation makes this deal look ok", it's already a bad deal for me.

Don't get me wrong, I'm not saying never invest for just appreciation, just make sure you know what you are getting into.  I'm sure there are plenty of "appreciation investors" out there and when done right it can be lucrative.  I was even eyeing a potential deal where the holding costs would be pennies (probably break even), but there was an out that could have potentially brought $100k+ 3-5 years down the road.  After careful due diligence, the potential gains were nowhere near where I thought they could be so I didn't move on it.  Had my initial thoughts panned out, I absolutely would have purchased it for that potential alone.

BUT, if you have limited funds and are putting a large chunk banking on appreciation only, I think that is where people can get into trouble.  Appreciation can be a great thing but there are too many deals that can cash flow and appreciate at the same time, so why not get both?

@Jay Patel

@Justin B.

What those of us who invest in GENERAL are saying is that Cash Flow is NOT the only way to make money in REAL ESTATE nor is it the most important way.

There are AT LEAST 4 ways:

Cashflow, Appreciation, Mortgage Balance Reduction and Tax Savings.

The problem is really about education.

Most people will read about simple calculations like GRM, CoCR, etc. But they don't get Discounted Cash Flows, Internal Rates of Return, etc. which takes into account ALL of the 4 ways of making money in Real Estate.

To do that, you will need a business model that puts together a 10 year pro-forma business plan, normally in a spreadsheet.

Probably one of the best books you can read is 

What Every Real Estate Investor Needs to Know about Cash Flow

by Frank Gallinelli (who happens to be one of the BP Members).

Don't stop at just the simple Cash Flow NOW calculations. You may get 10% or 20% ROI per year, but you will miss out on 100% or more ROI per year.

Or maybe I should not mention anything and keep my competition very light.

This is a topic that comes up about once a month.  If you can make money and sleep at night, so be it.  I will never convince anyone that chocolate is better than vanilla.  Even though it is.

My own preference is cash flow.  I can't live off next years appreciation.  Appreciation will not get me off the grid.  The goal is that on January first I know I will have enough income to cover all my expenses for the next year, if I choose not to get out of bed.  

Do not confuse appreciation with inflation.  Hard assets like RE move up with inflation at a rate of around 2% a year on average.  Over the long term and compounded, it can look like a lot more.

i.e. 2% growth over 20 years.   $100 becomes $150.  Looks like a 50% increase.  Only 2% compounded.  Your true value is still the same.  The property is no more valuable than it was 20 years ago.   

Lesley Resnick, Real Estate Agent in FL (#sl3322996)
(904) 316-4306

Investing, speculation, appreciation, income, who cares what any one else thinks. I don't believe this is a competition. I do know for those with little money wishing to grow their wealth it would be very difficult to achieve without positive cash flow.

The purpose I invested was for income to raise my standard of living and secure my retirement income. This made appreciation a non issue for me. Whether the value rose or dropped (as many did in 2008)  my investment value is driven by my rent rates (cap rates) due to the class of property I invest in.

The joke is that many investing for appreciation are always reluctant to sell out of fear (or greed) believing it will rise even farther. Much like farmers they are land/property poor. Some may never actually reach the point of benefiting from their success.

Originally posted by @Jay Patel :

@Matt R.

I hear what you are saying. I believe the reason cashflow is such a focus on these forums and even the podcast is simply because the majority of the audience here is very new at real estate investing. I believe the gentlemen that run the podcast do intend well because speculation and appreciation can be a long term game. Even in hot markets, it takes time to realize the gains from appreciation from the day you purchase.

The intent of "I don't get investing for appreciation", I believe is to tell the audience to buy not ONLY for appreciation. The goal to realize appreciation is to be able to actually hold on to the asset long enough for that to even happen and not loose the asset because you have too many of them cashflowing negative every month.

Lets be real, how many people can afford to keep a negatively cash flowing property in their name for 5+ years. Let alone, 5-10 of these types of properties. If you have that ability, then that is great, by all means, you should be taking that risk. There is a reason why "no and low money down" is such a popular topic on this forum/site. 

Cashflow NOW is a hedge against falling rental rates, increased taxes, falling occupancy, etc. that will keep people from loosing their ability to hold on to their assets to realize appreciation in the long run.

I get your point. I missed mentioned one implied point, that is there are alternative ways to create initial cash flow if that is what ones REI needs. This does not mean investing in anything that has negative cash flow first year or 5 years. Although, I got to say the best deals I have seen broke even or less first year in cash flow.

I come from a business perspective and that is almost 100% cash flow driven. REI can represent a whole other amazing passive way to produce future cash profits and equity growth, which generally gets very little play on BP. It requires common sense and some basic investment vision many times. That is my basic BP forum/podcast/blog beef. That is that generally speaking BP population lacks common sense and REI investment vision. What I can recommend, is study Jay's Hinrichs posts. He has been around every block 10 times and gives away duplexes for fun.

Good luck! 

Again, the problem is EDUCATION. When you can't figure out what is the better investment, you are only stuck with what you know.

Take for example the following spreadsheet with 3 kinds of properties

- a Cash Flow Property

- a Semi Cash Flow Property

- a Pure Appreciating Property

This is PURE Math.

The problem is when you don't know the MATH and therefore, can't figure out what is the best property because you can't boil them down to an IRR.

I know that the majority here won't get it. But I'm hoping there will be a glimmer in someone's head that goes.... WAIT!! I GET IT NOW!! There is some math that is not being taught to me, or I haven't learned, that will help me make these decisions!

Look, I love everyone here. I only want the best for you. I'm not even preaching that you buy for Appreciation. I'm just saying LEARN THE MATH. Then get back to me so we can have a great conversation together!

@Llewelyn A. Interesting comparison. The one with the highest IRR is not necessarily the most suitable, though. Maybe the owner can't wait 10 years to get cash from his investment. He needs cash to pay his bills, he wants to retire or will be forced out soon because he's getting old.

The other problem is that while today's cash-on-cash returns are easy to determine, predictions about future appreciation are inherently risky (subject to higher variance). Some people prefer a sure thing. It seems highly subjective and based on one's personal risk tolerance. 

@Nate Reed

Hi Nate, yes, from the chart above, correct. But what about this chart:

The point is to do the Math, then make a decision. Here is a REAL WORLD ONE that happened to me from 2000 to now:

Now do you get it?

In the year 2000, I bought a property with $20,000 down, $7,000 in Closing Costs.

I renovated the property for $40,000.

The first year after the renovation, I was negative cash flow by $7,200 per YEAR or $600 negative per month. HOWEVER, I moved into the property, not paying Rent during this time, while I rented out 2 of the other apts for $500 each.

Some time in between owning this property and hypothetically selling it, I moved out and house hacked another property..... increasing my returns even more with another property as I was able to take out a HELOC to buy the next one.

After 17 years, I sold the property for $1 Million. Paid off my Mortgage and paid a 5% commission and some seller's Closing Costs netting me $895k. The last year Cash flow was $34,800 or $2,900 per month.

Each apartment now rents for $1,850 EACH!

You see this is the full story of this investment.

It paid me 19% IRR for 17 years.

If you did the Simple Interest Calculation, you get:

Investment: $68,000

Selling Price: $1 Million

CC + Mort. Balance + Commission = $105k.

Profit: $895k minus $68k = $827k

ROI for the 17 years using simple Interest Calculation: $827k / $68k = $1,216%

Divide by 17 years for the Annual ROI: 72% PER YEAR FOR 17 YEARS.

NOTE, that doesn't take into account the Cash flow.

However, the IRR calculation in the Spreadsheet did and boiled it down to a 12% COMPOUNDED Internal Rate of Return.

And this doesn't even include the fact that I moved out to house hack another property which moved from $890k to $3 MILLION, on borrowed money from this property!

I know... I know.... the math is pretty intense... BUT this is the world that the sophisticated investor needs to know, in my opinion.

But you all decide... do you want the 10% cash on cash return? Or do you want to go for the gold or at least know what the gold IS?!

Oh look another appreciation vs. cash flow thread. 

What I would prefer and what I do in my investing is to buy the property at a discount, force appreciation through rehab, refinance the property and get all my money out, then rent it and still get good cash flow. 

That way I benefit from both cash flow and appreciation. Unlike Detroit, property in the areas where I invest does in fact appreciate over time, and not at a "glacial" pace.

402-965-1853

@Llewelyn A. IRR is definitely the analysis tool that everybody needs to learn. Great job on those deals. I did something similar to your second stage/HELOC purchase. Feels great to own a property that cash flows and was purchased without any of my own money!

@Anthony Gayden

We do go back to the same arguments.

And again, I don't preach buying for Appreciation.  I really want people to be able to do 10 year projections and understand the FUTURE CASH FLOWs, not just today's cash flows.

It just makes you incredibly rich when you have all the information and have chosen the right area.

But I do want to tell a little story when I was teaching back in 2006.

Back then I taught my own classes in various private studios for classes.

I taught in one studio while there were a lot of other RE related classes going on.

The Math was difficult, so I never drew a crowd.

However, the Cash Flow Now classes were Bigley popular.

There was one that not only taught the Cash Flow now, but then chartered buses to take you to the best cash flow places.

One of MY students decided to leave my class for theirs.

Years later, he came back to me and told me ALL of those students were bused to Detroit and around Michigan, but close by Detroit to find Cash Flowing properties.

You can envision the outcome when the Financial Crisis hit and Detroit eventually wound up going bankrupt.

All those members of the other class had to do is look at the 3 big Auto Makers and know how bad they were doing to predict their future. It was incredibly obvious.

The point here is that whether or not you choose Cash Flow or Appreciation, you need to think 10 years or so into the future.

That's the whole point of the 10 year pro-forma projections.

This just makes me want to diversify more. Some cash flow areas, some appreciation areas. Why not do both.

Lots of one-size-fits-all strategy bias on BP.  I have profitable properties with both high and low GRMs.

Mahalo everyone for your input! It’s been fun reading each comment.

Some clarity. This is not another cash flow vs. appreciation debate (as mentioned in the bottom of the original post). That’s the problem. People hear cash flow or appreciation, role their eyes and think here we go again with THAT debate. A phenomenon I wasn’t familiar with before joining BP. It’s very interesting how the two have become mutually exclusive (on this platform).

My original post is simply a stance to not overlook appreciation. Also a stance to not over look cash flow, tax protection, or debt pay down. All are correct principles.  Don't tell anyone, but you can have them all!  Most likely not in equal proportions at given time, but you can have them all!

People have created this interesting, and false, friction between correct REI principles. Someone says cash flow and people hear speculation and negative cash flow. That's crazy. It's appreciation.

@Jay Hinrichs

Thank you for taking the time to share your experience. Always appreciated! The temptation of cash flow now is pretty strong. And yes, if you have little capital and want immediate results, then cash flow markets are the way to go. No shame in that.

@Llewelyn A.

My thoughts exactly! I was certain this thread would slip into obscurity. Thank you for sharing about one of your properties. I’ll have to look up that post.

@Steve B.

A skewed perspective and self-confirming bias are certainly detrimental. Thank goodness for data, both anecdotal (seasoned) and empirical.

@Matt R.

Definitely shocking. And sad. I am fine with any investment option someone chooses, but I am not okay with the deceitful presentations of appreciation (or any topic).

@Jay Patel

Agreed. Investing in a high appreciation market with negative cash flow is reckless. Which I think @Llewelyn had a good point on; partner up. Find a way to invest and not go negative each month. There are ways to do it.

@Justin B.

Definitely. Don’t go negative each month! That’s crazy. And don’t be afraid of high appreciation markets. People have and are doing it. Find out how!

@Llewelyn A.

(Second comment)

Exactly. There are four common ways to make money in real estate. For an investor to knock any one of them, prevents them from firing on all cylinders.

@Lesley Resnick

Definitely. If an investor needs to live off cash flow now, then that is a big factor in the type of investing they should pursue. I met with a client a year ago who wanted to invest in real estate and retire. Sounds good to me. How many more years until you’d like to retire? Nine months was the reply. (insert awkward smiling emoji) Unfortunately I couldn’t help them with that. Were they wrong in their goal? Nope. But it was definitely good to know, so that a specific strategy could be formulated.

@Thomas S.

Definitely! Don’t allow your financial teeth to get knocked in because of your pride/greed/emotions.

@Matt R. and @Llewelyn A.

Education is critical. And hopefully that education is coming from people who have been doing it since before 2009.

I target some places for cashflow ( MF in the City of Detroit), family homes for appreciation (middle class suburbs tied to the local economy), and "starter" homes in exclusive areas for keeping pace with inflation (always a built-in market for renters or people who are just trying to sneak in, but not the ideal house people look for when buying in these areas).

Cash-flow only gets you a few hundred dollars every month. But appreciation gets you double digit increases in value/wealth.  But appreciation can't feed your family. You only get that money once you transact on the property (sell, refi, or take out equity via heloc, or loc which cost money).

I rather have 2 properties paying me $1000 with 1-2% appreciation, then have a 3rd property paying me $200, but getting 8%-12% increases per year in value. Because those cash-flowing properties help me get more cash-flowing properties or high appreciating properties.

We have good 9 to 5 jobs, so cash-flowing properties help us save money faster.

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