How to Make Money in a Falling Market

4 Replies

There has been an increasing amount of talk going around, for a good reason, about the economy crashing or "correcting" in the very near future. Some people think it may be worse than the "great recession" due to the stock market, some think it will be a slight correction of the "bubble" most of the major markets are experiencing, and some think it will continue to climb. 

This post isn't about if and how bad the market might be in the near future, but how to make money throughout the entire turn. Now we all know the best time to make money and really get ahead is a recovering market, but what about the year +/- while the market is falling from it's peak to the valley?

I am wondering especially how wholesalers and flippers will make money as prices are constantly dropping since buy and hold investors will mostly stop buying until they are confident the market has gotten close to the bottom.

Looking forward to hear your thoughts, opinions, and wisdom especially from those who have endured complete market cycles.

Thank you,

Billy Bell

Hi Billy,

The BP Podcasts are full of examples of people who survived the latest downturn (2008), and I've always found it interesting to hear the stories of investors from that period. Here are a few takeaways I've found, and maybe others will show more:

1) Both Flipping and Buy-and-Hold strategies become riskier. Flippers shoulder the greatest burden because of the higher interest rates they usually pay using hard money or private loans. While flippers can usually rehab their property before the interest rates eat into the overall bottom-line, the property may take many more months to sell if the market turns and the profit disappears. Buy-and-Hold investors fare better because they are less concerned about the immediate value of the home, but a downturn or recession (even a local one) often comes with job losses. When renters lose jobs, leases are terminated and houses go vacant for months; pushing landlords to lower rents and limiting profitability of the investment. As a result, investors all flock to auctions and foreclosures in an attempt to purchase recession-proof, bottom-dollar deals which they can still turn into a successful investment.

2) Note strategies remain a solid investment. Notes require up-front capital and are usually approached as a secondary strategy by real-estate investors. But in a market where many would-be homeowners cannot qualify for a traditional mortgage, notes can be helpful to the homebuyer as well as the note originator. The homebuyer gets to purchase a property, and the originator receives a significant return on investment (perhaps 6-10%) with no upkeep responsibilities. If the homebuyer becomes unable to pay the mortgage, the property is eventually repossessed by the note originator. Alternatively, notes can also pay off early - including all the interest required for the full term - which can push the ROI even higher. With no renters to manage, and an uncertain job market actually helping the strategy, notes can be a good way to get through a market downturn.

3) Caution is rewarded. Investors who have diversified their assets beyond real estate into retirement accounts which include a significant portion of bonds will fare better than those with overleveraged debt and nothing in the bank. Cash reserves can accommodate periods of vacancy, and properties which had significant cash flow in the beginning will probably retain some cash flow even in a down market. Properties which were risky even before the downturn – with negative cash flow or dependence on market appreciation for profitability – will hurt investors’ chances of surviving the downturn with all assets intact.

A few examples of people who seem to have good strategies for a market in flux:

Show 2 with Karen Rittenhouse on “subject-to” deals, which seems like an excellent strategy in a market where homeowners may have just lost their jobs and can’t afford their mortgage, but want to stay in their house

Show 19 with Tracy Royce, discussing short sale strategies in great detail. She makes a great case for understanding the local market and solving peoples’ problems.

Show 28 with Dave Van Horn, which had a very useful summary of note investing

Don,

I just wanted to say, thanks for the well reasoned and thought out reply.  I can appreciate Billy's concerns and I think you provided great information. 

It seems to me that everyone must understand their own risk tolerance and develop and implement a strategy that supports their position.  Similar to the use debt or pay-off property conversation. Do you like debt and value it's ability to be used to create additional wealth? Or do you enjoy the peace of mind that free and clear holdings provide?  

I'm still working this out for myself.  Thanks for the primers to help figure it out.

-Andrew

Hi Andrew,

I think debt tolerance depends largely on the individual: I am still building a portfolio, so I have a higher debt tolerance than someone who is ready to stop building and concentrate instead on cash flow. The book "Hold" had a really compelling example of a small initial downpayment invested in a series of properties over 20 years or so; the Return on Investment (ROI) over the course of time was astonishing. As long as each property in a growing portfolio has reasonable cash flow (perhaps $100-300 net for small single families, like mine), you can build up to four homes quickly and easily. That four-home milestone is marked by the first roadblock: many conventional lenders will refuse a 30-year fixed loan beyond that point. I have two properties and expect to purchase a third within the next year. The four-mortgage mark may well be where I turn the corner and pay the first property off, so the financing remains achievable through conventional means. I'm not opposed to creative financing, but it is far easier to profit on 30-year fixed loans (big, national lenders) rather than 15-year variable loans from a local lender.

"Hold"

http://www.barnesandnoble.com/w/hold-steve-chader/...

 

@Don Petrash have you found your 4th property yet? I'm still stuck in analysis mode. Can't seem to commit to a niche--I'm a sucker for shiny objects!

I recently heard a BP podcast guest mention the "Hold" book also. I'm a fan of the technique. Although lately I've heard people speak about their ability to leverage more than 4 properties at a time. Maybe some banks are relaxing their standards?

I really need to get the book. Thanks for the suggestion!

-Andrew

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