Our economic world is changing rapidly! Interest rates on home mortgages have skyrocketed. Inflation is raging despite recent interest rate hikes by the Feds. Gas prices are at all time highs. It's taking forever to get materials delivered. The stock market is on a 18% slide and dangerously close to a bear market. Many fear we are headed into a recession. What does all this mean for the real estate market and more specifically, what does this mean for creative real estate investors like you and me? Find out in this important real estate market update!
This is a complicated subject simplified by breaking it down into 4 real estate market fundamentals. From there we can extrapolate some conclusions, so that you'll have the wisdom to position yourself to be productive and profitable during these crazy times.
1 - Interest Rates
Interest rates have skyrocketed which means borrowers have lost buying power. To illustrate the loss of buying power, let’s compare the difference a rise of 2% makes to a borrower:
- At a 3.5% interest rate with a $1,800 monthly payment a borrower can get a $400,000 loan.
- At a 5.5% interest rate with a $1,800 monthly payment a borrower can get a $316,500 loan.
General Rule: An increase in the interest rate of 1% = $40,000 in buying power loss
So very rapidly there's been a borrower buying power loss of at least $80,000 and it is predicted that interest rates will continue to climb to tame inflation.
2 - Market Inventory
Over the last couple years we have reached record low inventory levels. Often in articles they describe inventory levels in terms of the number of months it would take for buyers to buy all the available properties. The average is five to six months, and right now we're running less than one month.
Affordable Price Point: When you look at affordable price point homes, the inventory is almost non-existent. Builders are not building them because they can’t make money on homes at an affordable price point. Not only have labor and material costs skyrocketed, but the time to get those materials has lengthened. And then there are all the government regulations at the local level that make construction difficult. There's just no profit left. As a result, home builders are building, but they're building homes above the median.
Unfortunately, while builders are building at a higher price point, the borrowers are losing their buying power and are forced to buy in the lower price points. So, inventory levels will climb in the higher price point, whereas inventory for affordable housing will remain close to zero.
3 - Buyers
Everyone needs a place to live and there are always buyers in all markets because people buy houses for personal reasons. They get married, have a baby, or want to downsize. I was active in real estate investing when the bubble burst in 2008 and we could always find a buyer for the house I was flipping because there are always buyers. And as some of the old timers will tell you, even in the late seventies and early eighties when interest rates were 14%, there were still buyers. So, the fundamental is there are always buyers for real estate because people buy homes for personal reasons.
4 - Sellers
Now just like buyers, there will always be sellers because people sell houses for personal reasons.
Off-Market Sellers: This niche is where me and my apprentices have made all our money over the past 20 years. These sellers don't hire a real estate agent or list their property on the MLS. Instead, they sell directly to a buyer. Off-market sellers, which count for 1-2% of the marketplace, sell due to personal issues in their life. Maybe they inherited a property or the property has just become too much for them. And according to our internal stats, these personal issues remain steady. Obviously, there are small aberrations, but there is a consistent flow of off-market sellers year after year, regardless of the macroeconomic conditions.
Trading Sellers: Due to rising interest rates and the rapid increase in housing prices over the last two years, I predict there will be a lot less trading sellers. A trading seller is trading their current home for a bigger home or different neighborhood. People are thinking twice about trading because even though they could sell right now for great price, there is limited inventory and a big fat interest rate. They've lost $80 thousand in purchasing power, so they can't upgrade or even side swap. Their only choice is to go down a notch which means a lot less trading sellers.
The trends seem to indicate a steady flow of off-market sellers and the normal flow of listed sellers. But a lot of people will just stay put because where they are is better than what they could get in the current market at these rates.
Winners and Losers
With these four fundamentals of the current real estate market established, let's extrapolate some conclusions. First, who are the big winners in all this?
Creative Real Estate Investors: As interest rates continue to climb, affordable price point homes will be even more in demand. With unprecedented low inventory levels, when you put one on the market you will be making good money. And where do you find the deals in the affordable price point? Off-market sellers. They are primarily in the affordable price point range and always have been.
In addition to the fact that we can provide the very thing our marketplace needs, we also know how to apply creative financing techniques. Creative real estate investors know how to do subject to deals, which is taking over the loans of sellers who got their loans when rates were lower. In fact, Freedom Mentor has pioneered techniques to get around some of the major problems of subject to deals and I teach them to my apprentices.
To sum up, most buyers will be looking in the affordable zone and off-market sellers are in that affordable price point. These are the deals we provide so it will be a home run for creative real estate investors.
Rental Investors: Another big winner are those investors who took advantage of low interest rates at long term amortization schedules and purchased rentals over the last 10 years. In the current market with rising interest rates and more buyers looking for affordable price point homes that don't exist, more people are becoming renters. Some of you have been paying attention and know that private equity funds have purchased tens of thousands of houses and turned them into rentals. Obviously, a lot of different organizations have seen this trend. But if you purchased rentals over the past 10 years, when there were lower interest rates and before housing prices skyrocketed, you are sitting pretty.
Strike While the Iron is Hot
You might be thinking, “But Phil, how does that help me?" Well, it reminds you to strike while the iron is hot. And the hot iron is going to be creative real estate investing for the next year or two. At the same time, you need to be reminded that if you sat on the sidelines when you could have bought rental properties at low interest rates on 30-year immunization schedules, you made a mistake. Don't make the mistake again. Act quickly. Don't make excuses and get going! Because if you were like me and acquired a lot of rental properties, you're sitting pretty, as rental rates skyrocket because of high demand and low availability.
Mortgage Brokers: Interest rates have shot up which means people aren't refinancing and mortgage brokers will see a massive drop in applications. So, if you are a mortgage broker, either learn creative real estate investing or dust off that resume.
Newer Real Estate Agents: An article I read recently stated that the fastest increase in licensing of new real estate agents occurred during the pandemic. The problem is with such low inventory there’s not a lot of deals to go around. In fact, in many markets there are more licensed real estate agents than there are listings available. So, if you're a new agent and you're not dialed in with a great niche and established business, you're not going to be in business very long.
Traditional Real Estate Investors: This includes iBuyers. Open Door and OfferPad’s stocks are down 75% in the last six months. Many of our graduates out in markets where iBuyers were very active are seeing that they have dropped dramatically. In fact, I’ve heard from more than one person that it used to be every deal they had to deal with an iBuyer and now it’s one out of four.
iBuyers are traditional investors and now they must deal with the same issue that the rest of us have had to deal with, which is profit. They've been losing billions of dollars and now they're being held accountable. They are slowing down dramatically, and it seems they're going to become a traditional investor offering 75 cents on the dollar to sellers. So traditional investors are struggling now and they're going to be struggling even more in the future.
Home Builders of Above Median Price Point Houses: Inventory is going up in this zone and with the loss of buyer purchase power they're going to have trouble selling.
"What's going to happen to the real estate market?" To answer this question, we need to clarify which market we are talking about. Affordable price point homes? Luxury homes? Are we talking about multi-family or commercial? What market are we talking about?
- Affordable housing market will stay red hot
- Above median market will slow down
- Rental business will stay incredibly strong because the rental rates are climbing and there's so much demand.
And for those of you that are asking the question, "Is the real estate market going to crash?" I think it’s more a matter of, is it going to stay hot or is it going to slow down?
There’s one last topic I want to touch on and it has to do with the affordable housing crisis in this country. This is a political matter and there are states right now trying to take a page out of the playbook of Vancouver, Canada. They are putting forth bills to their state legislatures to curtail or flat out stop real estate investors under the guise of helping the crisis. Here’s what you can do to help educate those legislatures regarding this matter.
Adding Affordable Housing Inventory to the Market:
As creative investors, we are getting off market sellers and we are bringing those deals on the market. We are helping solve the affordable housing crisis one deal at a time. Individually, we can't solve it, but together we can at least help. We’re the good guys helping with this crisis.
If these laws have a chance at passing, it will only hurt the crisis more. Connect with your local representative. Reach out to one of their aids. Let them know that you, as a real estate investor are helping the affordable crisis by bringing properties onto the market that weren’t previously there. To pass such legislation would be counterproductive.
This doesn't require you to riot or protest in front of a political leader's house. All you need to do is explain this basic concept: that you are adding affordable housing inventory to the marketplace. And if enough of us do that, hopefully we'll ensure that these legislators don't make a bad decision and restrict our ability as real estate investors to provide affordable housing to the market.