Founder, CEO of Blue Lake Capital LLC. Helps passive investors increase their wealth through real estate. Podcast Host: REady2Scale.
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In 2022, the real estate markets were quite turbulent. In such uncertain times, it can be difficult to predict exactly where the real estate market is headed. After all, no one has a crystal ball.
However, savvy real estate investors can make money in any market, and this market is no exception. Here are some tips for keeping multi-family homes profitable in today’s economy.
1. Stay calm and focused on what you do know and what you can control.
One of the most important things we do know is that housing is currently grossly undersupplied. In fact, the US housing market is short 3.8 million homes (paywall) units to keep up with new household formation.
Because there are so few homes, it means that prices of single-family homes will most likely remain high, driving large groups of people to multi-family homes. Wherever we are in the economic cycle, multi-family homes are a great place to be. Period of time.
So if you’re feeling stressed about all the uncertainty in the housing market, remember that demand is likely to remain very strong for a while. US home supply is unlikely to catch up with demand for years to come. This indicates that multi-family housing should be a good place to invest your money and build your wealth for the foreseeable future.
2. Be smart about financing and the associated risks.
The market is currently going through a “value discovery” period in which the real value of the assets is realized. Rising inflation has caused some confusion about real estate prices.
As a real estate investor, you will have to choose between fixed-rate loans versus floating-rate loans if you’re going to use debt to fund your investments. Each of these options has both advantages and disadvantages. Here’s a look at the pros and cons of each loan type.
• Created: Fixed rate loans are ultimately more expensive because the buyer will put the risk burden on the lender and hedge his bet. However, it is probably more predictable. Fixed rate loans are thus more expensive from month to month, but they are more predictable and thus in some ways less risky for the buyer.
• Floating: The risk of floating lies in how high the rates go and how much you have to pay for a rate cap. With variable rate loans, it is more difficult to project costs, but it can be more cost effective than overpaying at a fixed rate. Also, many variable rate mortgages, or variable rate mortgages (ARMs), have entry rates that are very low. So this can be attractive to many real estate investors, especially those who do not intend to keep the properties long term.
If you are going to finance your real estate investments, make sure you choose the loan form that best suits your situation. If you need predictability, opt for a fixed-rate mortgage. If a sudden surge in monthly payments doesn’t intimidate you and you have the money to deal with it, a variable rate mortgage could be right for you. Whichever route you choose, make sure you can afford the payments before you give the green light for the investment.
3. Cash flow is king.
Keeping cash flow strong is absolutely crucial for real estate investors in times of uncertainty. To keep your cash flow strong during periods of high volatility, there are three critical factors to focus on and control.
• Occupation
Occupancy is number one. It drives all cash flow to the profitability of the property, and it is now more important than ever to maintain the cash flow. There are a number of things you can do to keep occupancy high. First, make sure you screen tenants properly. Second, you can conduct exit interviews with your tenants to see why they are leaving. If you find a problem, fix it. Finally, make sure you only invest in properties that are in desired locations. Location alone can solve a large percentage of occupancy problems.
• Renovations
Many multi-family investors implement a “value add” strategy by renovating apartments to justify rent increases. If units are offline (empty) during renovation, they will not generate cash. Be conservative and adjust renovation plans to have minimal impact on the asset’s overall cash flow.
Essentially, you should do your renovations at a more moderate pace to avoid reducing your cash flow too much at one time. Also consider prioritizing major renovations that can significantly increase profitability, but won’t take very long to complete. Adding a “smart package” by, for example, replacing standard outlets with upgraded USB ports and smart thermostats is simple and effective.
• Lower costs
Make sure that the operations are as smooth and efficient as possible. Regularly evaluate net operating income (NOI) and address any area where there is room for improvement or cost reduction.
You can reduce costs and improve NOI by getting new bids on services, improve energy efficiency by installing new bulbs and lamps, and reduce water consumption. For example, LED lamps consume 80% less energy than standard lighting. Water is one of the largest expense items for most properties, but you can reduce your water consumption by installing low-flow toilets, shower heads, and aerators. This can lead to a 30% reduction in water consumption by tenants.
Good investments can still generate passive income in any economic cycle. Don’t panic and ride with confidence through the more challenging times. Focus on factors within your control to maintain your success over time, always remembering to be smart about your funding and risk. Prioritize cash flow and fiduciary responsibilities in the first place. Remember the basics and believe in your multifamily real estate investment.
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