Diversification is the key to any good investment strategy. Parochial and or dogmatic mindsets will certainly catch up to any entrepreneur and be the kiss of death to his enterprise. Most real estate investors are aware this fact yet many stubbornly cling to a small geographical area. Despite the advice given by the great Andrew Carnegie who said, “put all your eggs in one basket… and then watch that basket,” I just feel a little better knowing that the total value of my real estate portfolio is not dictated by the fortunes of one town.
Expand Your Base into Different Markets
I say that if you have more than just a couple investment properties, particularly if you are a buy and hold landlord, then you should really consider spreading out a little. No, don’t ever invest in a town or state in which you are not familiar. Do your homework before you lay your hard earned money down. I encourage investors to look first at their favorite vacation spot. The investor will likely be at least basically familiar with the location.
There are also tax benefits to having a rental property in places where you frequently travel. If your favorite vacation spot is an overpriced tourist trap then it probably won’t work, but it may be a great opportunity to find a new vacation spot. One of my favorite buy and hold locations is a small town in eastern North Carolina that has solid tenants, good employment, and its only minutes to some very nice and un-crowded beaches.
One of my fellow contributors here on the BiggerPockets, Ryan Moeller, also has a good strategy. I encourage you to look at his post entitled “Where to Invest in Real Estate” posted July 29th 2009. Ryan uses the PMI U.S. Market Risk Index, which is what mortgage insurance companies calculate to determine an area’s “Risk of Depreciation,” to determine good markets for investing I went to www.pmi-us.com, which gives you a long list of locations with their corresponding risk of depreciation rating. If a place is over priced they will have a high chance for depreciation; if they are under priced they will have a minimal rating. This is a good strategy to both identify a promising location and to begin market research on locations in which you’re already interested.
Once you’ve found a couple promising locations you’ll then need some solid numbers, not just your gut, on which to base your final decision. The PMI industry is a great start but I do like to see the numbers myself; I’m just funny that way.
So, how do you know if a town is a good long term investment?
Well for starters you should know household income, population growth, unemployment rate, job growth, housing inventory, rental rates, and median home price.
Lucky for us, our tax dollars go to an organization that does all of this for us and it’s available for our use for free. If you haven’t done so already, welcome to the U.S. Census Bureau. They provide all this information and more, and they do it in a nice easy to read form they call quick facts. Just go to http://quickfacts.census.gov/qfd/states/51000.html and punch in the state, county, and or city that you’re interested in and you’ll have access to all kinds of pertinent information.
Using the Census Data
For instance, last October I noticed that my local market (Northern Virginia/Washington DC) seemed ridiculously under priced. I had abandoned this market in 2004 when it was just too pricy to make any sense. I had moved all of my activity out to N.C. and Utah where prices compared to rents were more sensible. (I’m not just a buy and hold landlord but I always take rents into consideration when buying.) Well, in October of 2008 I started thinking it was time to bring my investing back home, but everyone was telling me that this area was a black hole. The financial crisis had just hit and prices here dropped about 15% within just a couple months time.
So I went to the Census Bureau website and I quickly l noticed that Prince William County Virginia (one of the hardest hit counties in the downturn for real estate prices) had an average income of near $90,000 per year but the average home price had dipped to close to $200,000. By dividing the average home price buy the average income I found that it gave me a ratio of about 2.2. I know that any price to income ratio below a 3 is good. I also knew that the job base was strong and stable.
To me that meant that homes were under priced.
I moved to secure financing and partners, and grabbed up as many homes as possible. With this information at my disposal, I was very confident in my course of action. By April of 2009 I was proved right; any foreclosures that hit the market were getting bombarded with bids, and the home I had bought and rehabbed were selling within days of going on the market at higher prices than I had originally intended.
Now I’m having a heck of a time finding deals in this local area because the deals are so few and the competition is so stiff. So, once again I am patrolling the social networking sites, keeping my eyes open on my travels, and frequenting the Census Bureau website to find my next market.
Real Estate Market Research is Essential!
Market research is not just for those who are expanding to new markets. It also makes good sense to keep current on the numbers for your home town. Remember how numb to pricing we got a few years back when starter homes were being priced in the $400,000 range or much higher in some markets.
Doesn’t it sound crazy that we thought that people making $60,000 per year could afford a half a million dollar home? Even though I was smart enough to get out of some overpriced market before the peek, I can still remember thinking homes were cheap after they had dropped a $100,000 by 2007. Yet, they still had a long ways to go.
Make sure you stay up on your arithmetic. There are many organizations that tally this kind of info. Many counties and cities have websites that post a lot of good information. Also, look at your local or state association of realtors. Make sure you know what’s going on in your market and you’ll be a much happier investor.