Hey AI — Let’s apply your Devil’s Advocate take to San Diego. AI’s thoughts can be found in the comment section of yesterday’s post.
Here are Another Investor’s Devil’s Advocate positions, followed by my thoughts. For the record, AI is one smart cookie. A very experienced investor with a keen analytical mind. Talking with AI is one of my new favorite things to do. So, here we go — AI’s point by point Devil’s advocate position — and my answers.
1. People want to live in SD.
True enough, but so what? In the 30+ years I’ve been an investment broker here, the tenants you describe simply don’t rent 2-4 unit props as a rule, or apts. either. They rent houses. Even at current prices, a well located SFR will sport pmts of $1,800 monthly. That’s before any expenses or vacancies. Buying cheaper homes for the more attractive price/rent ratio will be in relatively inferior locations. It’s surely a judgment call, but I pass.
2.. The best jobs attracting talented people are in SD.
That’s been true since Moses’ son died. 
Still, because of the dearth of residential development the last 20+ years here, the price/rent ratios literally forced me to take my company and its business out of state. The Texas economy is no longer hostage to energy. This was recently illustrated when prices went into a free fall from $140 to $40 in the blink of an eye. Our Texas properties either felt nothing, or lost the occasional oil related tenant, who was replaced in a timely manner with a quality tenant — at the same rent or higher. That argument is DOA.
3. Supply is constrained because there’s no more land in SD. That may be the biggest myth in SD real estate. It’s been a mantra for a long time, even as huge developments keep coming on line. The low supply of residential income property is indeed a fact of life here, but not for the reason you put forth. It’s been an economic decision by the builder/developers, plain and simple. The same land will hold apartments, condos/townhouses, duplexes/fourplexes, or single family homes. Developers opt for the largest profit, go figure. If the rents are so high vs price, and the quality of tenant is so attractive, why have they universally decided against building residential income? Their choices speak for themselves. It’s not a scarcity of land. In fact, pretty much the only residential income built in the last decade or so has been either luxury, or what I call ‘super luxury’ apartments. The rents on them have been in the stratosphere, which is the only reason they were built in the first place — which conveniently illustrates my point.
4. Future value. If you hold coastal CA fourplex ’till it crumbles you’ll have development opportunity.
For most investors that’s either a mirage, a pipe dream, or the impossible dream. ‘Coastal’ properties are simply unaffordable to at least 90% of real estate investors. The days when 20% down payments made sense for a coastal fourplex are the poster child for ‘Death on a Cracker’. If you’re investing for retirement AND you can afford the coast, so many stars must align for that plan to come together, it’s far to big a risk. Capital growth is the name of the game for the first 7-8 innings of any Purposeful Plan which has retirement as its Point B. Huge down payments on ancient buildings make no sense, and the risk is not justified when compared to what’s available elsewhere.
5. Marketablity — relying on the infusion of Asian investors/capital for future sales.
As an investor banking on real estate investments in income producing property, does one really wanna rely on some future hope of foreign capital to still be around and interested years, maybe decades down the road? Talk about relying on an incredibly narrow piece of a skinny pie. I remember when Japan was gonna take over the world economically. How’s that workin’ out for ‘em lately? No, I prefer to rely on the fundamentals of supply/demand, reasonably predictable (is there such an animal?) markets, and large Sominex Accounts.
“For these reasons, prices should increase faster here (SD) in the future as they have in the past.” Another Investor
Unlike Phoenix, Boise, most of Texas, and other regions, SD hasn’t been building ‘starter’ homes in any real volume. In fact we had our first ‘tract’ of million dollar homes come on line not that long ago in the North County area. Gimme a break. Our median home price, though battered into submission, is still in the mid-300′s. Compare that to the above mentioned locales. The Phoenix market is hot, as long as you’re talkin’ about homes under $100,000 — hardly comparable to San Diego. In Boise I consistently track the 2-4 unit market. Their present price/rent ratio is roughly comparable to what we’re consistently able to find in Texas. 20% down to 30 year fixed rate loans will yield solid capital growth while also generating positive cash flow. What a concept. Still, we’ll wait for Boise to settle down.
If prices do go up faster in San Diego in the future, it’ll only be repeating history. I took Brown and Brown outa SD precisely because of the relatively high appreciation rates, which I realize is more than a tad paradoxical. But think about it. Regardless of rising rents, historically low vacancy rates, and the predictably skewed supply/demand factor, the ultimate result down the road is a price/rent ratio that’s more of a punch line to a bad joke, than something about which to brag.
But most of that begs the question I raised in the post: Given a ‘dead heat’ in the analysis of all properties, why would an investor choose predictably increasing operating expenses, future if not current functional obsolescence, and/or capital expenditures?
As you said AI: “Your capital growth may not be best served by buying properties here. You gotta sit down and thoroughly review the numbers. Cash flow, equity build-up, and appreciation all have to be considered, and when they are, you may be surprised at what will grow your net worth the fastest.”
Which is exactly what I was trying to say. But the local biases of investors seem to either cloud or completely overlook the ‘black widows’ in the equation. I love your comments, and appreciate you taking the time to act as Devil’s Advocate. Stellar Job, AI.
Speaking of equations, let’s get one goin’ for you that has a magnificently abundant retirement to the right of the “=” sign. We’ll talk as soon as you call me at 619 889-7100 or email me using the Contact BawldGuy button up top. Have a good one.
Related posts:
- Seeking Truth? Or Seeking Support For Your Position?
- Your Retirement: Financial Position Above the Poverty Level?
- The Learning Curve of a Recovering Attorney Turned Real Estate Investor — Escaping From Dodge
- Food For Thought — Compare Yesterday’s Post With Dallas Article
- Where Will The California Real Estate Investor Be In 20 Years?
About BawldGuy
I am reminded of some sage advice from my dad. “A good company is not the same as a good stock.” I love SD but it is just a good company.
San Diego is on the A-List of ‘where to live’ for many. It used to be on that list for real estate investment. Now on my ‘B’ list — an huge improvement from the last several years.
The Devil’s advocate responds…
1. San Diego must be different than the Bay Area. I can find a ton of 2 to 10 unit properties that aren’t very pretty but generate good rents from solid middle class tenants. I can also find expensive properties catering to low income tenants, but as an astute investor, I would avoid those neighborhoods and properties.
In San Jose, even after the “crash,” it takes a $500,000 house to generate a $2,000 rent. It would take a very large down payment to break even, much less cash flow. You have to think very long term, or be convinced the market is going to turn quickly to plunk down your money for that. Your capital growth may not be best served by buying that house.
2. The competition for rental houses here forces a lot of second tier but solid tenants into 2 to 10 unit rentals. You get a lot of folks who can manage $1,600 but not $2,000 and can’t or don’t want to do the maintenance a house requires. They are not candidates for the luxury apartments, because the rents for those are the same as for houses.
In my view, the jury is still out on Texas. I understand the more diversified economy argument, but I will have to go “sniff the dirt” before I express an opinion on any Texas market.
3. Whether it’s the supply of land or the economic infeasibility of building more small income properties, the result is the same. The supply is limited and the demand will increase. Rents and values will go up over time and more quickly than in areas where supply is not constrained.
4. Well-located land always commands a premium. In the over 25 years I have been directly involved in real estate here, I have seen lower density uses consistently replaced by higher density, higher value uses in the supply constrained desirable areas. Land use thinking and land use rules change over time, and the changes almost never favor lower density.
5. Unlike the Japanese, the Chinese, the Koreans and the Vietnamese MOVED here. They started businesses, got educations and professional jobs, and acquired assets. The first and second generations living here act as conduits and custodians for wealth from family overseas. The United States is perceived as a safe and stable place to invest. The people here aren’t leaving and taking their marbles home with them. This IS home.
This Devil’s advocate maintains that demand will continue to exceed supply in the more desirable, supply constrained areas and price appreciation will be much higher than in other areas. When cap rates go up, it’s time to reconsider investing in these markets. Bawld Guy admits as much when he says San Diego has moved up to his “B” list for real estate investment.
When cap rates go up, it’s time to reconsider investing in these markets.
Absolutely. But if you’ll excuse me, I think I’ll order off the menu while waiting for Godot.