When it comes to real estate investing for the long haul — read: retirement income — formulas are good for a few things.
Derisive laughter, missed opportunities, and severely retarded cash flow and/or net worth at retirement — or worse.
OK, so the one tellin’ us to buy low, sell high has stood the test of time. But even that one ignores too many factors to list here. I can’t resist listing at least one — timing. If we make a decades long story short, here’s the difference the lack of timing can make when a so-called formula is being adhered to slavishly.
Lady buys a San Diego duplex for around $30,000 in 1975. If she sold at the top of the latest bubble, around 2006, she easily netted a gross pre-tax profit over $500,000. Sweet, eh? She bought low, and boy, did she ever sell high. Half a million does sound sexy, doesn’t it? Thing is, timing tends to change things up a bit. If she’d sold/bought/exchanged when common freakin’ sense dictated, she’d of had — conservatively — far in excess of $2 million. Now what does that half a mil look to ya? Yesterday’s meatloaf, that’s what. For the most part, formulas share one thing in common: A built-in lack of flexibility.
All this proves is that even a ‘can’t miss’ formula like buy low, sell high can be screwed up royally. Now let’s list a few more of these classics, alright?
• Buy and Hold — as in hold forever. You’re allowed to refi, but can never, ever sell. Where the intrinsic value is hidden in that gem, I’ve never figured out. Lord knows I’ve tried. It assumes you’ll be able to save for more down payments to by more property you’ll never sell or exchange. It doesn’t allow for any analysis involving timing, equity buildup, or market changes. More on this one later, in another post.
• Buy Cap Rate – My experience says in general that the 80/20 rule applies here. That is, 80% of the time this school of thought backfires in one form or another, often terribly. Why? Let me answer with a question: Why was that property sportin’ such a high cap rate in the first place? Here’s the answer: Cuz the neighborhood and other factors were so cruddy that no experienced real estate investor would even consider buyin’ it if the cap rate was lower. In fact, we can take it a step further. If that double digit cap rate was such a good deal, why hasn’t at least one of the buyers in that market jumped on it before you found it? Were they all stoopid? No, they were more experienced than the poor guy who ended up with it. Furthermore, years down the road, and benefitting from hindsight, that high cap rate wasn’t really that high — not when the historically empirical NOI gets calculated retrospectively.
Cap Rate Rule of Thumb: The higher the cap rate — the lower the quality of the property’s location. It’s ‘this’ close to be axiomatic. The cap rate must be high to make up for all the negatives the property brings to the table.
Always Buy Houses — This is one of my personal favorites, as one of it’s premises is so without reliable foundation — merit if you will — as to be shameful. From 1976 through today, I’ve yet to advise a client to invest in a San Diego single family residence. Why? Cuz the numbers are beyond horrible, that’s why. Been that way my entire (almost) 43 years as a licensee. Even in this post bubble world, the median priced San Diego home, now around $350,000, will rent in the range of $1,800-2,300. The same product in regions offering far superior performance would offer rents, at that price, of around $3,500. Oh, and with equal or better quality locations. Ouch
That school of thought, that formula, blithely ignores every other factor in any given market that would suggest buyin’ a home for investment would not only be foolish, but potentially ruinous.
BawldGuy Axiom: The most important principle in real estate investment is the understanding that you can only — ever — take what the market gives you. Forcing formulas on uncooperative markets almost never ends well.
The implementation of virtually any so-called real estate investment formula, typically ignores most of the factors impacting every single investment decision, formulaic or not. Timing, the national and/or regional economy, local market realities, and several other factors are casually discarded, or simply ignored via the formulaic approach. That’s not the worst, however.
Adopting one formula or another effectively eliminates the investor’s ability to execute the principle of Strategic Synergism. The efficacious real estate investor will significantly inhibit their chances of generating remarkable results by eschewing the principle of Strategic Synergism.
Let’s talk about Strategic Synergism in detail in the next post.
Boiled down to its essence, formulas are far from what they are promulgated to be. For the most part they’ve caused more harm than good. One-act ponies rarely stand the test of time.
Here’s an idea. Test me by givin’ me a call about your status quo — your future. 619 889-7100 works almost every time it’s been tried. Click on Contact BawldGuy if you’d rather write me. Have a good one.