Market Crashes... What's the Big Deal?

27 Replies

Hi BP. If I have a rental property (Let's say a 4plex) and the market crashes, what's the big deal? Won't I still have my tenants in there paying my rent every month, thus I'll still be getting equity in the property? I understand that the value of my home will go down temporarily, but in the long term, does it really matter if the market crashes once I have my property? I read book after book where investors lose all of their money when the market crashes, but this never really made sense to me, since they should still be getting the same monthly checks. Please excuse my ignorance, can anyone explain?

@James Gleeson  a downturn in the economy may lead to your tenants losing their job and their inability to pay rent. If you still have a mortgage you owe the bank regardless of whether the tenants are paying. Non-payment leads to evictions, restoration, and vacancy expenses. It may also make it more difficult to find a tenant with a stable job who can consistently pay the rent. 

Originally posted by @James Gleeson :

Hi BP. If I have a rental property (Let's say a 4plex) and the market crashes, what's the big deal? Won't I still have my tenants in there paying my rent every month, thus I'll still be getting equity in the property? I understand that the value of my home will go down temporarily, but in the long term, does it really matter if the market crashes once I have my property? I read book after book where investors lose all of their money when the market crashes, but this never really made sense to me, since they should still be getting the same monthly checks. Please excuse my ignorance, can anyone explain?

 If you have significant reserves you can potentially ride it out.  However, issues that may arise is the rising of unemployment which could result in delinquent rent, evictions, turnover, the need to reduce rents, and, I don't know what you do for a living, but if your regular source of income vanishes because you become unemployed, whether you can still cover the investment property mortgage and other obligations come into question.  

depends on location in the 08 meltdown.... many markets landlords experienced 100% vacancy  other markets were not affected at all.

areas that were very heavy in new construction like AZ FLA GA VEGAS landlords had plenty of vacancies and I know first hand investors that had 4 plexs in AZ that lost them to the bank bbecause of 100% vacancy.

I am not predicting another meltdown like 08 by any means just stating fact

It's a very big deal. In a crash, People lose jobs, so your Tenants can't pay the rent, so they leave. Apartments stay vacant longer and longer. Rents fall so your rental income goes lower. The value of your property goes lower even as your loan obligations stay fixed as do your property taxes and maintenance expenses. Depending on how you are leveraged odds are you may start to owe more than the market value of the property making it impossible for you to sell. The worst is if your area never bounces back or is the slowest to bounce back after the economy rebounds, you are not guaranteed of that spring effect that will normalize things as quickly as you had hoped.

For sure the market is going to crash, the U.S. stock market is going on a all time high &  the current stock market rally is the largest in the history. Not only these with dow jones going on a all time high the stock market is poised for a crash. In addition to these I read this article this morning..

https://www.lombardiletter.com/stock-market-crash/...

Anyone here think there's a good chance that there will be a 50% crash in the market next year? Any thoughts on this and how this is going to impact us in real estate?

@James Gleeson , exactly. Others have made very valid points. Anything can happen, but depending on your market and your tenants’ continued ability to make rent payments, which can be a big “what if,” as long as your cash flowing, you should be okay.

I just closed on my first SFR in Memphis. My new tenants work for FedEx. They make 5x+ the monthly rent. Although anything is possible, if we have a huge market downturn, I’m not too worried about them losing their jobs and my house going vacant. Chances are, it’ll still cash flow and all will be well.

@James Gleeson There can be more to it than just occupancy. If an investor took a loan on a property with a refi being part of the exit strategy for that loan things can go sour in a real hurry if that refi is not possible because the market has crashed and the property value simply isn't there. 

Regardless of how strong your occupancy rate is if at the height of the market you took a mortgage with a balloon payment of $800k due in 5 years and when that 5 year mark rolls around your building only appraises for $550k you have a potentially serious problem. 

If you have a long term fixed rate loan this is obviously much less of a factor.

@Steve Smith
A fin'l guy I know with 40 yrs in says the same as Cashin..never seen anything like it.  To be sure, it will continue to be bumpy. 
But no one can time the market.  I learned that in '08, '11, '15
At minimum, we should diversify, pay lowest fees possible, rebalance regularly, allocate based on risk tolerances and time horizons and maintain a cash position.  Just my $.02.  

@Karen O. Yeah we should diversify our plans accordinly, also what you think of bitcoin? Looking at the current market rally I am sure that it hit bottom rock soon?

Originally posted by @Steve Smith :

@Karen O. Yeah we should diversify our plans accordinly, also what you think of bitcoin? Looking at the current market rally I am sure that it hit bottom rock soon?

I'm like Buffett in that I don't Invest in what I don't understand.  As a result, it's outside my comfort zone.  So, I won't become a Bitcoin millionaire.

@James Gleeson There's a key component in your initial statement where you state "I read book after book where investors lose .... when the market crashes."  The easiest way to learn from mistakes is from those of others.  In a downturn in the economy there are headwind pressures that become a catalyst for lower rental prices and higher vacancy numbers.  When people lose their jobs they tend not to move as often and in turn create higher/longer vacancies for landlords.  The vacancy in turn creates more competition for landlords to fill their rentals and puts pricing pressure on rents.  Have you ever had a unit overpriced as a rental and been forced to lower the per month rate to get it filled?  The macro elements begin to domino into various aspects of the rental game.  

As an accredited investor, I echo @Jay Hinrichs in that I do not see or predict another meltdown like 08, but as noted by great books like Fooled By Randomness and The Most Important Thing, we tend not to see the black swan that creates sudden downturns.  A geopolitical event or highly accelerated inflation can both swing the pendulum and the odds of either/both happening have gone up exponentially in the last 12 months.  Full disclosure that I do not believe those events will happen, though the chances of such are certainly greater than they've been in recent history.  As a society and as investors, we generally tend to miscalculate the improbable for the impossible.

The best way to invest is with full analysis and education.  

As many suggest ...it depends. Assuming you are diversified and have enough doors there is stability to ride out down turns. Unless you rent SFHs, which are higher risk at the best of times, a single or even multiple vacancies will not sink the ship. Once you have sufficient positive cash flow you should survive.

In hard times people do lose their jobs and tenants will leave however other people displaced will be looking to sell their homes and will be looking to rent. It is a domino effect that investors adjust to. One tenant forced to leave opens the door to another forced to rent.

The biggest losers will of course be those depending on appreciation and those that have not positioned themselves for rough times.

You could pay off your properties in anticipation, which lowers your ROI to almost zero, you could also take your equity/income and invest elsewhere to diversify. Assuming you have the cash reserves available it is better than paying off properties as it allows you to maintain maximum leverage and maximum return with maximum security. You basically only placing OPM at risk.

Most importantly you do not depend on the market. You depend on your business decisions to be prepared and if all goes away the bank loses and you start over. 

Originally posted by @Steve Smith :

@Karen O. Yeah we should diversify our plans accordinly, also what you think of bitcoin? Looking at the current market rally I am sure that it hit bottom rock soon?

When the news is telling you the stock market will crash and bitcoin is the place to invest, you have to second guess. Crashes generally come out of nowhere and when the 6 o'clock news tells you to buy (bitcoin) is when the smart investors are selling. It is the sheep following the heard mentality. Like in 2012 when everyone said real estate was risky and today when everyone says buy.

It wouldn't effect me. I buy low income houses and own all of my properties free and clear. 

Some people say I am crazy for wasting equity and blah blah blah. I say that I sleep great at night knowing that I'm pretty safe from a crash.

Happy to look at any 4-plex you want to offload before the market crashes :)

We thought we were buying in a lateral market when we started our portfolio.  A huge oil deposit was discovered nearby.  Our houses went from $80k to $165k in value in months.  Our steady tenants moved out of some houses, and oil patch workers moved in.  Rents went up.  New government policy crushed the price of oil and people were laid off, and no new jobs were available in the local market.  We had a number of late pays, and then no pays as people struggled.  

Rents and house prices returned to baseline and things have now normalized....until the next oil boom.  

This is true to a point.  However, sometimes the rental rates go down as well.  The market that once carried a $1,000 rental rate for a 2 bedroom, may now only be able to yield $650-$700.  If your cash flow margins can cover that, then you may be able to ride it out, but if you need more than that, it may place a financial burden on you that you can't sustain.

I had an upper end property that rented for $3,200 per month prior to 2007.  In 2008, I had to take a tenant at a $1,850 rental rate, which was all the market would bare.  The mortgage payment was more than that, AND the equity position was less than half of what it once was (which used to be fairly good).  It was COMPLETELY upsidedown.  It was costing me $750 per month to keep it PLUS, I had $200K and counting on equity lost (the market was plumeting in this area).  I had to make a business decision to either continue to supplement it at $750 per month for how many years and HOPE that not only would the rental rate increase, but also the equity.  I chose to short sale it.  To date, it has still not recovered fully to the equity position I once held, and the rental rate, which increased beyond the $1,850, is still not to the $3,200 level.  So I feel like I made a good choice.

Cara Lonsdale, experiences like yours are exactly what people should hear and keep at the back of their minds as they jump into RE or are leveraging themselves to expand RE investments. Thank you for sharing.

If the market crashes things may get tight but most folks will manage.   The key point here is that you are buying at the height of the market and the value of your property will likely drop dramatically.  

 One of the most important fundamentals is to acquire a property at the right price.   I have been around through many cycles and no one will ever get rich buying at the market high.   

 There are two many people chasing after apartment buildings right now driving up the price.   The time to buy is when the market crashes and no one wants apartment buildings.  That is where you will make your money.

One example is a six unit apartment sold in 2006 for $675K five years later in a down market I picked it up for $365K.   Now the building may be worth $650K.   

Folks can lose their job and end up getting priced out of the rental market.  That's the first issue.  It's already happening in the Silicon Valley - because prices are so high.  When prices are too high and affordable that means a higher vacancy rate for you and you may even need to drop rents which drops your cash flow.  This was a recent news report from earlier this week that discusses the issue...

https://www.cbsnews.com/videos/how-silicon-valleys...

The other issue is flexibility.  During the 2008 downturn, I myself was looking for a job.  I received an offer that would have required me to locate two hours north in Cheyenne, Wyoming.  My potential employer (the State of Wyoming) insisted I relocate even though I offered to commute.  I couldn't - I was upside down on my home and would not have been able to sell it, and if I rented, I could not make enough in rent to cover the mortgage.  I had to turn down the position.

I'm in the same position currently - my current employer gave me the option of moving to Jersey City, or getting laid off.  My last day with the company is March 31 at the latest.  I've submitted applications to 106 different jobs/employers over the last two months.  I've had 3 interviews....I have two more scheduled in the next two weeks.  One of those interviews is for a position an hour north of me - I have no trouble selling my house in Denver and moving into a bigger place up near Greeley.  I have that flexibility - I didn't before.

If you can wait it out (plan on about 5 years) then you have nothing to worry about.  If you can't wait it out, then your options will dwindle and you'll be stuck for a bit doing the best you can.

Paying cash for rental property loses the advantage of leverage but how many investors that take their time and build slower with paid for rentals lose their portfolio or wake up at night due to investment stress? There are pros and cons to both methods.

Originally posted by @Merv Screeton :

Paying cash for rental property loses the advantage of leverage but how many investors that take their time and build slower with paid for rentals lose their portfolio or wake up at night due to investment stress? There are pros and cons to both methods.

This is me. I am growing slowly but surely. Up to 5 houses 100% paid off free and clear. I'm almost to the point where I feel comfortable financing my first house EVER. I'm not going to leverage my other properties on paper, but I can use the cash flow to pay off the new house much faster. 

Just some things I've been thinking about, but I want to be sure I can pay off the note within 2 years max.

Hi James,

I like the topic.  Agree with @Jay Hinrichs , that yes, if you are in highly speculative markets, in properties that you didn't use solid conservative underwriting to get into, over leveraged, under capitalized that you are probably asking for trouble.  However, you and others may be surprised to note that it also might be the type of property.  New construction projects at the top of the cycle probably are more vulnerable versus value add properties like apartments where even after renovations you may have plenty of buffer between the rents charged on your property and newer ones.  

We saw in Houston four years ago that value add apartments our partner had fared very well, occupancy and rents stayed steady while oil plummeted and oil related jobs fled, while class A (new apts) occupancy fell a lot more and owners had to offer concessions.  My friend @Paul Moore @Paul Moore has a great book out called the Perfect Investment that also shares this fact.  During the 2008 downturn, MF delinquency rate on mortgages was 1% while SF homes was 4-5%...exclude Miami, Phoenix and Las Vegas, and MF delinquency was almost nil.  So, it just depends on several factors but I would summarize that if you are in the strongest markets that are not speculative, buying or in properties with conservative numbers, have adequate reserves, rents a bit under market you should be able to ride it out.  

@James Gleeson , I have seen 3 really bad market crashes and several little ones.  If I had been able to predict them I would be rich.  Even though I saw some patterns, I was too broke trying to survive to really take advantage of the crashes or recoveries.  A slow down is one thing, but a melt down is whole nother deal.  Everyone really believes the sky is falling.  Despite all the wishing from folks who wish they had bought after the 2008 meltdown, When 12 houses you own go from 1.2 million to $800K in value it is dam hard to get yourself to run out and but 12 more houses.  This especially true if you are upside down on any of these or start losing renters.  A lot of folks were abler to ride it our who had lots of equity or low payments.  In Las Vegas it was only 4 or 5 years before the market came back pretty strong, in Detroit it was 10 to 20 years and many parts are still struggling.  Not many survived Detroit in the bad hit areas.  Keep in mind some folks were buying with no or very little money down so they went upside down very bad.  Many were leveraging like mad and counting on appreciation to make their money, some just couldn't get enough rent to make the mortgage payment.  Investors were pretty badly panicked.  Many of the folks who bought a lot and did well were newcomers who did not have a dozen houses they were trying to save.  @Jay Hinrichs ended up foreclosing on hundreds of house and probably was wondering if he would survive this or not and he is as cagey as they come.  Having safe margins of leverage is pretty important, as well as good rent to mortgage payment ratios.  Even more scary is local crashes that are not nationwide.  The closing of a major local business, a sudden raise in prices of a commodity like gas, or a sudden drop in price, like gas can make or break many markets.  My market is in decline.  Nation wide things are booming, here it took me 2 months to rent the second nicest house in my portfolio.  It is rare to have that house open for 2 weeks.  I have even dropped the price on several houses this year to get a good tenant.  Folks who leverage hard can have 2 or 3 times as many houses when the economy is booming and can become rich much faster, but in a down market they are upside down on 30 houses instead of in the black on 12 houses.  The risk and rewards are greater with leverage. A lot of folks mistake being a genius in an up market for just dumb luck.  Sooner or later luck runs out.

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