Rental rates vs property appreciation

7 Replies

I had a question for you smart and wonderful people. Speaking generally, in appreciating markets like Denver, or in my hometown of Colorado Springs, does property tend to appreciate faster than rental rates? And is that the reason that finding deals that cash flow at double digit returns get harder and harder to find? I’m new to the game and in the stage of learning, so let me know what you all think. Thanks!

I do find that rents tend to lag behind appreciation. If you consider that tenants are often in 1 year leases, it is often the case that rents cannot be increased as quickly as the appreciation. I also find that many landlords are happy to rent to strong long term renters at a set rate and are reluctant to raise rents as fast as appreciation (often requiring new renters as the old ones cannot afford the new rent rates). 

While prices of investment properties should be based off of the actual rents received, or arguably the market rents expected, you will notice that properties with fewer units will be based more on comps than cap rates or rent multipliers. This is especially true for single family homes up to 4plexes that can be acquired with low down payment programs such as FHA if one of the units is owner occupied. Once you hit 5+ units, a property's value is very closely tied to rent multipliers and cap rates.

All this to say that I often find that properties with fewer units tend to appreciate faster than rents, but as you get more units, it is tied more closely to the appreciation rates for multi-unit properties.

@Bryan Cork For the Denver metro, homes have appreciated at 6.3% a year (from 1971 to 2014) and condos at 5.3% (1972-2014). Rents have grown at 4%. The rental growth comes from surveys of apartment buildings (5+ units.) I haven't seen a great data source for rental growth for single family homes. 

I'll send you a link to you BP inbox with all the data.

Chris

@Bryan Cork for long term I would defer to @Chris Lopez . In the short term (< 5 years) there is no real correlation IMO. There are market factors that impact supply and demand that don't move together. For example in 2003-2007 rents were flat and down in some areas as everyone was buying a home. Tenants were becoming home owners in droves. Home prices were going up and rents were flat or down and tenant quality was way down. 

I would somewhat agree with the previous poster there. But I would maybe state it another way. There is very little correlation with home appreciation, rental rate increases and whether the numbers make sense or not as a rental.

Ultimately, there are too many additional factors that play a part as to whether something is a deal as a rental or not. You may simply be in a market where the numbers just don't make sense as a rental - at least not to someone that wants cash flow. I don't think it has anything to do with appreciation rate and rental rate increases.

If you're in an area like denver where the homes are high (say 500k) and rents are high (say 2,500), its tough to make money at buy and hold no matter how you look at appreciation and rental rate increases.

It may have been that the deals weren't that good for buy and hold investing there before the appreciation hit. Maybe the numbers worked better than today but maybe they weren't all that good even then.

What I've seen in my market is that homes have appreciated but thats not the real problem. The problem is that all the bank owned stuff - which is always the most likely stuff to be discounted - has dried up quite a bit. And the little bit that is there is so overpriced, its like they're wanting you to pay retail prices for a house that needs 30k in rehab. So they want you to take the risk on a 30k rehab and when you're done, you'll basically be paying retail for the house. Why do that? If I'm going to pay retail, why not just buy a house thats move in ready.

So here are my numbers though. My target deal was a house that was worth between 140k and 160k. I was getting these for 70k to 90k and putting in another 20k-25k on avg or so in rehab so that I was all in at 70% ARV.

But the homes in that price range have all but completely disappeared in the areas I look in. Now that same house is probably only worth about 5% more. But the lowest priced listings for those homes is 110k to 130k - even though they need rehab.

So even if I wanted to come out of pocket to make the LTV numbers work with the lenders, the reality is the house wouldn't return the kind of cash flow I would want. Rents for these houses are 1350 to 1450. Payments on 100k loans (commercial/portfolio) run about 600/mo. To go to 120k, you'd be looking at 750/mo. Taxes and insurance are high here in illinois to where we're paying 400 to 450/mo. Not much room left for any real net profit at that price point.

So I don't know that the appreciation is really the issue for me right now. I'd say its the lack of houses that used to have some significant discounting and that difference in end loan pricing is what is making it difficult to find deals.  Appraisals aren't up that much (again, 5%) on those houses so I don't think appreciation is really the problem right now. Its the lack of discounted bank own stuff that is causing the problem.

The issue is that you are dealing with two distinctly different products each having a different driving factor.

SFHs are not specific built rental income properties, therefor the price is driven not by rent but rather by the whim of home buyers. This is th eprimary reason investing in SFHs as rentals is not a good idea. Home buyers have very little common scenes when it comes to pricing a home and will over pay in most situations. California is a perfect example where too many people with too much money and no common scenes are driving up SFH prices beyond any reasonable justifiable level.

Purpose built rental properties are priced normally by cap rates. For this reason the property price "should" be in line with rental rates. If the prices are rising beyond the rate of rent increases it is for two reasons either too many novice investors are in the market and overpaying or investors have entered the market looking to park excess cash.

thank you all for the info......its going to take me a little while to absorb it all but your input really helps. Drinking from the fire hose again! @Chris Lopez , thanks for those files. I will be studying those closely.

ICOR - The investment club of the Rockies is managed by Tim & Sandy who are also member of National REIA. ICOR has three meetings a month. One of which may be in Colorado Springs.

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